Tax Reform Realities

The Washington Times (Washington, DC), June 22, 2005 | Go to article overview

Tax Reform Realities


Byline: Brian DeBose, THE WASHINGTON TIMES

One reason I thought it was a bad idea to appoint a tax reform commission is that its members would waste a lot of time reviewing options that most tax experts rejected long ago. I know from experience everybody and his brother have some brilliant scheme to reform the tax system that may appear superficially plausible. But once it is subjected to careful political and economic analysis, one quickly discovers why no one has ever given it serious consideration.

Take, for example, the deceptively simple-sounding idea of taxing all financial transactions instead of income, profits or sales. The economy's volume of transactions is many times greater than the gross domestic product, so theoretically one could match current federal revenues with a very low tax rate.

One advocate of a financial transactions tax is economist Edgar Feige, who estimates a tax of 0.6 percent (60 basis points), with each party to a transaction paying half, would be sufficient to abolish all existing federal taxes. He bases this on an estimated tax base of $337 trillion. By contrast, GDP is only about $12 trillion.

The tax would be assessed through the banking system, which would deduct the fee on every check, electronic funds transfer or credit card transaction. Currency would be taxed whenever deposited or withdrawn. Mr. Feige asserts the collection cost of this tax system would be very low and that it is progressive because financial transactions increase with income.

While it is true a tax of 0.6 percent on a base of $337 trillion would in theory yield $2 trillion - about what the federal government will raise this year from conventional taxes - it's important to remember that revenues still must ultimately come out of current production. All goods and services-including capital investment and intermediate goods - will have to be taxed dozens of times to get the federal government's current 17 percent share of GDP in taxes.

However, not all goods and services involve the same number of transactions. Thus, the burden of the tax will vary wildly depending not on the price of a good or its profitability, but solely on whether its production involved many or few financial transactions before it reached the final consumer. Jewelry will bear a low tax, while groceries will be taxed heavily. This makes no sense from a distributional viewpoint.

Since GDP equals the money supply times the turnover of money - what economists call velocity - a fully effective transactions tax will presumably reduce velocity. …

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