"Don't tax you, don't tax me. Tax that guy behind the tree."
—Russell B. Long
It should be obvious by now that no tax rate increase is necessary to "fix" our current fiscal situation; economic growth is making the deficit disappear. The economy should soon be growing faster than the debt, which will make the debt clock (at upper right) tick backwards. The power of economic growth, I hope by now, is unarguable.
How might our leaders enhance the private sector's ability to grow the economy? Growth-minded people invariably agree that one of the biggest obstacles to growth is the complexity of our tax system; simplification, one way or another, would be very growth-friendly, for about a million reasons.
Unfortunately, growth-friendly tax simplification ideas face formidable political opposition, fueled by extremely effective class warfare rhetoric. Although there are several proposals for simpler tax systems (e.g., single- and dual-rate flat tax, sales tax, and others), the single rate flat tax proposal will serve as a good example of how we might overcome the stalemate and rid ourselves of the status quo tax system we're saddled with. Here's the single-rate flat tax example...
Proponents of a single-rate flat tax lead with their strength: simplicity.
It's so simple, all it takes is a postcard-size form to do your taxes each year. All income over and above an exempted amount is taxed at the same flat rate, no matter how much you make and no matter who you are. The private sector can stop wasting resources on tax compliance and redirect those resources to innovation, job creation, and growth. Because every taxpayer pays a single marginal rate, the divide-and-conquer class warfare strategy would no longer be available to tax-hiking lawmakers—because a rate increase would affect every taxpayer, not just a small fraction of them.
Opponents immediately counter with their strength: class warfare.
Tax system fairness requires progressive tax rates, not a flat rate; the rich can and should pay a higher percentage. A flat tax would cause a huge shift of the tax burden from the rich to the middle class and poor. Besides, a flat income tax does nothing about the regressive payroll tax, which is especially unfair to the non-rich. We will fight the flat taxers with everything we've got, to protect the middle and low income taxpayers, and make sure the rich are shouldering their fair share of the tax burden.
History tells me that this particular duel is a stalemate. Result: We are still saddled with the status-quo. But I strongly dislike the status-quo, and prefer a more growth-friendly, special-interest-unfriendly taxation system, so I took some time constructing the beginning of a compromise that would address most of the purported concerns against the idea.
The basic idea of the compromise is to retain the growth-friendliness of the proponents' ideas while deflating the opponents' purported objections. For starters, we need to include the payroll tax in the analysis instead of isolating just the income tax. Here's a chart showing total tax dollars paid by a self-employed individual for various levels of taxable income (note the hypothetical income tax scenario at bottom of chart):
The higher one's income, the more tax one pays. No surprise there. But look at the bend in the payroll tax line. That's where the FICA tax stops, even though the Medicare tax keeps going.
Now the bad news: look at how that translates into effective tax rates. Although the effective rate on the so-called flat income tax is progressive, due to the exempted amount, the regressive payroll tax drags the total tax into a regressive shape. As history has demonstrated, that is politically untenable.
If growth-minded people can't think of a way to fix the total-tax regressivity, we might as well get used to the status quo. I don't care how good the economic argument might be, because politics trumps economics.
But guess what: I thought of a way to fix it (...and yes, it requires a change of thinking on both sides). To get the desired flat rate on the income tax side (above the exempted amount), replace the payroll side's regressive rate with a revenue-neutral, reduced flat rate that never runs into a cap. Here's the result (for the hypothetical scenario):
The entire system is progressive, because the payroll tax is no longer regressive; admittedly, we'd have to reconstruct the explanation of FICA taxes paid in versus SS benefits paid out, but that was coming our way within a decade or two anyway. Is the system not progressive enough? Okay, then tweak the exemption amount to adjust that. Still not progressive enough? Okay, then think up a rebate scheme on the spending side of the budget. Just do something, because the additional growth this would foster would pay for any transition headaches many times over.
Last but not least: My fear
The above measures are economic remedies for the purported flaws in the single-rate flat tax system chosen for this illustration. What I fear is that the true agenda of the opponents of tax simplification is not above-board economic concerns, but hidden political concerns. A simplified tax system would shift power from favor-dispensing lawmakers to a huge, unified block of private sector taxpayers, all of whom pay a single flat rate (above the exempted amount). That would be a double-whammy to power-broker politicians experienced in working today's complex system: it would mean (1) more difficulty dispensing tax goodies to special interests; and (2) more resistance to any proposal to increase the single tax rate (i.e., all taxpayers, not just a small group, would protest). That's a double-whammy that many politicians would find impossible to take. But at least we'd flush out the true agenda by proposing the compromise, wouldn't we?
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End note:
I've been writing for years about why growing incomes and productivity are so important to our economic future; it's time I started addressing how our government could help the private sector enhance our country's economic growth rate. This is the first article in a series I've been planning on the subject of taxation systems.
The strictly empirical problem [Paul] Romer was addressing [in his thesis] was the reality that growth seemed to have been speeding up for more than a century instead of slowing down, as had been expected. He reasoned that it must have to do with the internal dynamic of science: the more you learn, the faster you learn new things. 
I've thought for a long time that the government is way behind the private sector in the USA regarding the efficiency with which it rewards and disciplines employees. Getting rid of a government employee for incompetence, poor performance, or corruption is difficult to impossible. Meanwhile, China demonstrated yesterday their way of doing it. Go see the article titled 
[Intangible capital is] the preponderant form of wealth. When we look at the shares of intangible capital across income classes, you see it goes from about 60 percent in low-income countries to 80 percent in high-income countries. That accords very much with the notion that what really makes countries wealthy is not the bits and pieces, it's the brainpower, and the institutions that harness that brainpower. It's the skills more than the rocks and minerals.
Posting will be less frequent for several days due to vacation activities, but several people have been asking me how the Mac switch has been going, so this one is an update, and a plug for my new platform. I'm quite a bit more productive now that I've completed the switch. 
While Dora was keeping my granddaughter entertained yesterday, I had an hour or so to think through (in a little more detail) the arguments of the anti-oil-company bandwagon. So far this vacation week, I haven't run into too many friends, neighbors, or relatives who don't think the oil companies are giving us the shaft with those high prices and profit levels most people (especially one side's politicians) are so fond of labeling "obscene." As much as I tend to think the cause those higher prices has more to do with my friends', neighbors', and relatives' desire for gasoline (combined with OPEC's knowledge of that fact), I decided to re-evaluate things before blaming all of them and thereby making the rest of the week less fun for everybody. 
