The point of this blog is to inject some substance into discussion of Presidential candidates. To see the problem, consider what I wrote on my facebook page: “In an airport for an hour yesterday, we could not avoid hearing CNN talk about the upcoming presidential debate. For the entire hour, we heard only comments like: Perry needs to come out swinging; or, ‘Is Cain a viable candidate?’; or, Bachmann has really fallen in the polls; or, ‘This now boils down to a two-man race’, followed immediately by the wisdom that ‘Yes, but we don’t know yet who the two men are.’ What inanity! It is JUST a horse race! Not a single comment during the entire hour had anything whatever to do with any substantial issue of policy. Is this all we get?”
There must be more to consider, in this important decision. So, I started by looking at Herman Cain’s 999 tax reform plan. See more at his website, with the key bullets in the insert below.
Bear in mind that I’m a former Deputy Assistant Secretary of the U.S. Treasury (1985-87), so I worked hard on President Reagan’s successful “Tax Reform Act of 1986” to lower the rates and broaden the base. Since 1986, however, Congress has managed to reintroduce plenty of new deductions and tax breaks, while raising the rate. Maybe it’s time to do something again!
Cain’s proposal has a lot of similarities to the 1986 reform, if perhaps more extreme. It is meant to be revenue neutral, raising the same total tax. It would eliminate virtually ALL deductions, like mortgage interest paid, and it would cut rates drastically. It would eliminate the income tax as we know it, and introduce a national sales tax (or value added tax). What about the accuracy of Cain’s claims below? By reducing rates drastically, this proposal probably WOULD reduce the distorting effects of taxation by reducing the interference of taxes in the productive activities of workers and business – what economists call “deadweight loss”. For similar reasons, it probably would provide greater incentive for work and investment, and therefore probably provide some stimulus to growth. That’s all for the good.
However, ANY tax reform plan of ANY politician EVER, no matter what motivation, will always have two effects to watch out for. First, any tax reform will always raise taxes on some taxpayers and reduce taxes for others. It will have distributional effects worth analyzing. Second, it will therefore create disruptions and reallocations. Activities to pay additional tax may shrink – laying off workers who may remain unemployed for some time until they can re-train and find work in other activities that now face lower tax rates and hope to expand. That is, for only one example, the Cain plan might hurt homeowners and homeownership by eliminating the mortgage interest deduction. With such pervasive changes, however, the disruptions will be widespread and costly in themselves.
Finally, for now, note the point about distributional effects. Nothing in any of Cain’s bullets says anything whatever about distributional effects. I’m afraid this point is the Achilles heel of Cain’s 999 plan. According to the non-partisan Tax Policy Center, Cain’s plan will greatly reduce taxes of those with the highest incomes and raise total taxes on those with low incomes. It is ‘regressive’. And you don’t even need to read the TPC analysis to know this is true. Cain’s plan cuts the top personal rate from 35% to 9%. There is no amount of tax-base broadening for those high income taxpayers that can get back the same tax revenue from them. And currently those with the least income pay no Federal tax at all. Under Cain’s plan, everybody will pay the 9% sales tax, on everything they buy. Moreover, if those low-income individuals are working, they will probably bear some additional burden of the 9% business tax that applies to all profits AND wages paid: it applies to all sales revenue minus purchases and capital investment, not subtracting wages paid to workers.
I’d personally favor another revenue-neutral reform like the TRA of 1986, one that lowers the rates and broadens the base. Such a reform would undoubtedly cause some disruptions and adjustments costs. And it would help some while hurting others. But perhaps it could be designed in a way that also tries to be distributionally neutral, not adding tax burdens on those least fortunate while cutting taxes on those already doing well.