Is the Fair Tax Herman Cain’s Ace in the Hole?

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By BRUCE BARTLETT

On Saturday, the pizza magnate Herman Cain announced that he was running for the Republican presidential nomination. While he has to be considered a long shot, he has something going for him that could make him surprisingly viable: his strong support for the so-called Fair Tax.

The Fair Tax is a proposal that has been kicking around for at least 20 years. It would replace all federal taxes, including income and payroll taxes, with a national retail sales tax similar to those levied by the states. Indeed, a prime virtue of the Fair Tax, in the eyes of its supporters, is that it would be collected by the states, thus allowing for abolition of the hated Internal Revenue Service and an end to filing tax returns or keeping financial records.

The rate would be set at 23 percent — but only if you accept the unconventional way in which Fair Tax supporters insist on calculating it. If calculated the way state and local sales taxes are calculated, the Fair Tax rate is actually 30 percent.

Its supporters say 23 percent because a 30 percent sales tax on a $1 purchase would yield an after-tax price of $1.30 and the 30 cent tax is 23 percent of $1.30. I’ve always viewed this as legerdemain designed solely to disguise how high the rate is, but Fair Tax supporters are convinced that their unorthodox way of calculating it is the correct way of doing so.

This is not the only odd feature of the Fair Tax. Another is that governments would have to pay the tax on their purchases, including the federal government, which would pay the tax to itself. Although Fair Tax supporters claim that the purpose of this provision is to prevent people from substituting government consumption for private consumption, the true purpose is to cut government spending by the amount of the tax.

Because the Fair Tax assumes that government spending would be frozen in nominal terms, if the government has to pay 30 percent more for everything it purchases, even though it is paying the tax to itself, real spending must necessarily fall by the amount of the tax.

Another oddity is that Fair Tax supporters insist that once all existing federal taxes are abolished, prices of all consumer goods will instantly fall by about 22 percent. If prices rise 23 percent because of the new sales tax, nominal prices should be about the same as they are now, they say.

At the same time, Fair Tax supporters would also institute a national rebate equal to the tax rate on a poverty level income. Quite apart from the obvious fact that politicians would use this rebate to buy votes – an election-year increase is practically guaranteed – why is the rebate necessary if there is no change in the prices of goods? And because no one is paying income or payroll taxes any more, everyone should have plenty of extra money to spend, right?

It turns out that an unstated assumption of the Fair Tax is that all wages will fall by the amount of income and payroll taxes people now pay. That’s the key reason why producers and retailers will be able, theoretically, to cut their prices.

However, nothing in the Fair Tax compels workers to accept pay cuts and there is no reason to think that they won’t strenuously resist them.

A final oddity of the Fair Tax is that for as long as I have heard of this proposal, its supporters have consistently maintained that a 23 percent rate would exactly equal current federal revenues. Over this period, revenues have been as high as 20.6 percent of gross domestic product, in 2000, and as low as 14.9 percent now.

So either the Fair Tax would have been a huge tax cut 10 years ago or it would be a huge tax increase today.

Despite the transparent silliness of the Fair Tax, in my opinion and those of most serious economists, it has strong support among a small and well-financed group of enthusiasts. In 2007, Mike Huckabee, the former governor of Arkansas, was their guy, and it was absolutely critical to his rapid rise from obscurity to serious contender for the Republican presidential nomination.

Mr. Huckabee is not running this time, but Mr. Cain has made the Fair Tax a cornerstone of his campaign. Most political analysts don’t view him as a serious contender and see the Fair Tax as baggage to be overcome, not a political asset.

While radical and controversial ideas are generally viewed as political albatrosses in general elections because they appeal only to a fringe element within one party, they can be very valuable in primary campaigns. Especially in a divided field with no clear favorite, such as Republicans have today, proposals such as the Fair Tax energize true believers and provide contributions and manpower that can propel an outsider into contention.

Of course, there is nothing to stop other Republican candidates from endorsing the Fair Tax. But the tax’s supporters tend to be very loyal to the candidate who does so first and most passionately. In this election cycle, that person is Herman Cain.

Bruce Bartlett has served as an economic adviser in the White House, Treasury and Congress.

http://economix.blogs.nytimes.com/2011/05/24/is-the-fair-tax-herman-cains-ace-in-the-hole/

[scandal 951]

So how do strict libertarians like Rand Paul view the Fair Tax?

It's still a tax, after all.

And in the simplistic views of "taxation equals theft" you hear from libertarians, any taxation, whether income tax or a consumption tax, would be "theft", i.e. illegal government appropriation.

Just how do libertarians fund any government function at all, one wonders? They're for small government, but not no government (they do admire the Founders and Constitution, after all). So how do they pay for that? Wondering.

[Mr. Big Dog 10,747]

So either the Fair Tax would have been a huge tax cut 10 years ago or it would be a huge tax increase today.

Actually, it's both. It's a huge tax cut to those on the very top and a huge tax increase to the rest of the nation.

Make $50K, spend $50K - effective federal tax rate: 23%

Make $1MM, spend $400K - effective federal tax rate: 9.2%

Make 300MM, spend $25MM - effective federal tax rate: 1.9%

Not sure how such a dramatically regressive tax proposal deserves the title "fair" but the well funded have always found ways to label ####### proposals like this in a way that bamboozles many of those that are really getting shafted by it into supporting it. Want a fair tax? Come up with a flat tax rate and apply it to each and every dollar earned above the existential minimum. No exceptions, no deductions, nothing. The same folks that support the "fair tax" this isn't fair, would fight tooth and nail over such proposal which is a heck of a lot more fair than anything they have proposed thus far.

Despite the transparent silliness of the Fair Tax, in my opinion and those of most serious economists, it has strong support among a small and well-financed group of enthusiasts.

Yep. See above.

Edited May 25, 2011 by Mr. Big Dog

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Want a fair tax? Come up with a flat tax rate and apply it to each and every dollar earned above the existential minimum.

Defining existential minimum is bound to be a significant challenge. Some of the deductions we enjoy today could perhaps be kept in place (in whole or in part) to help the tax code do that. For example, the mortgage interest and property tax deductions go a long way in making the tax code fairer for those who live in high-cost and/or high-tax jurisdictions.

[Mr. Big Dog 10,747]

Defining existential minimum is bound to be a significant challenge. Some of the deductions we enjoy today could perhaps be kept in place (in whole or in part) to help the tax code do that. For example, the mortgage interest and property tax deductions go a long way in making the tax code fairer for those who live in high-cost and/or high-tax jurisdictions.

The existential minimum in NYC is obviously higher than in Buttcrack, AL. There can't be a one-size-fits-all number. So tie the existential minimum to a regional cost of living index. Done. Don't like your local tax rates? Move or put pressure on your local government to reign in their spending and bring those taxes down.

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The existential minimum in NYC is obviously higher than in Buttcrack, AL. There can't be a one-size-fits-all number. So tie the existential minimum to a regional cost of living index. Done. Don't like your local tax rates? Move or put pressure on your local government to reign in their spending and bring those taxes down.

Unfortunately, most of it are legally binding obligations. The time to oppose them has come and gone.

[Mr. Big Dog 10,747]

Unfortunately, most of it are legally binding obligations. The time to oppose them has come and gone.

It's all part of the cost of living and hence reflected in the index that you would base the exempt amount on. The devil is always in the detail but I am sure that this could be worked out. The principle is what matters: A truly fair tax ought to be based on income rather than consumption.

[Vi-Jay 218]

A truly fair tax ought to be based on income rather than consumption.

With a flat tax rate across the board right?

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It's all part of the cost of living and hence reflected in the index that you would base the exempt amount on.

That will eventually turn into a form of tax shelter. Instead of individuals taking advantage of individual tax shelters, you'll have entire states jacking up their "cost of living" thereby increasing the "existential minimum" not subject to taxation. The increased amount will then be (in part) passed back to the taxpayer by the state in the form of increased services, to the point of even competing with private enterprise!

To flesh that out a little - let's say NJ (if not here, where?) legislature decided to write infantcare is a right into the state constitution. And then started taxing us to pay for it. That increased tax amount becomes part of the existential minimum to live here for federal flat tax purposes. That increased amount is now paying for infant care for parents across the state - these is money that used to go to Goddard and Kindercare but is now going to Trenton instead. People are still getting the same service for the same cost.... but now it's with dollars that are not subject to the federal flat tax.

[Obama 2012 1,714]

It's all part of the cost of living and hence reflected in the index that you would base the exempt amount on. The devil is always in the detail but I am sure that this could be worked out. The principle is what matters: A truly fair tax ought to be based on income rather than consumption.

What?

You cannot be serious?

A straight consumption tax is fair because you only pay for what you use. Income tax isn't fair unless all parties pay the exact same percent from the first $ made up into the highest dollar made. I know to those who feel cheated in life the 'progressive tax' system is all fine and dandy, but at the end of the day certain people use services and others don't. Why should those who will never use it, pay a higher percentage into the system than those who use it all the time?

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What?

You cannot be serious?

A straight consumption tax is fair because you only pay for what you use. Income tax isn't fair unless all parties pay the exact same percent from the first $ made up into the highest dollar made. I know to those who feel cheated in life the 'progressive tax' system is all fine and dandy, but at the end of the day certain people use services and others don't. Why should those who will never use it, pay a higher percentage into the system than those who use it all the time?

Because consumption of these services tends to inversely correlate with the ability to pay. And because (this is my opinion) we as a society are better off when lower-income kids get a full meal in their stomach once a day (school lunches) and lower-income pregnant women get prenatal care.

[Mr. Big Dog 10,747]

That will eventually turn into a form of tax shelter. Instead of individuals taking advantage of individual tax shelters, you'll have entire states jacking up their "cost of living" thereby increasing the "existential minimum" not subject to taxation. The increased amount will then be (in part) passed back to the taxpayer by the state in the form of increased services, to the point of even competing with private enterprise!

To flesh that out a little - let's say NJ (if not here, where?) legislature decided to write infantcare is a right into the state constitution. And then started taxing us to pay for it. That increased tax amount becomes part of the existential minimum to live here for federal flat tax purposes. That increased amount is now paying for infant care for parents across the state - these is money that used to go to Goddard and Kindercare but is now going to Trenton instead. People are still getting the same service for the same cost.... but now it's with dollars that are not subject to the federal flat tax.

I hear you and as I said, the devil lies in the detail. And yet, the principle stands - a truly fair tax cannot be based on consumption but needs to be based on income.

[Obama 2012 1,714]

Because consumption of these services tends to inversely correlate with the ability to pay. And because (this is my opinion) we as a society are better off when lower-income kids get a full meal in their stomach once a day (school lunches) and lower-income pregnant women get prenatal care.

Well, the idea of the Fair tax is to credit un-prepared food items as they are now with most state/local taxes (at least they are here anyway...). If you buy a DVD though? taxed. You buy fast food? taxed. You buy a shirt? taxed. you buy gas? taxed. you buy a sponge? taxed. etc...

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... at the end of the day certain people use services and others don't. Why should those who will never use it, pay a higher percentage into the system than those who use it all the time?

Because consumption of these services tends to inversely correlate with the ability to pay. And because (this is my opinion) we as a society are better off when lower-income kids get a full meal in their stomach once a day (school lunches) and lower-income pregnant women get prenatal care.

Well, the idea of the Fair tax is to credit un-prepared food items as they are now with most state/local taxes (at least they are here anyway...). If you buy a DVD though? taxed. You buy fast food? taxed. You buy a shirt? taxed. you buy gas? taxed. you buy a sponge? taxed. etc...

The text in bold is what I was responding to there. Sorry I did not make that clear.

[Mr. Big Dog 10,747]

Well, the idea of the Fair tax is to credit un-prepared food items as they are now with most state/local taxes (at least they are here anyway...). If you buy a DVD though? taxed. You buy fast food? taxed. You buy a shirt? taxed. you buy gas? taxed. you buy a sponge? taxed. etc...

The problem with that approach is that you would shift the tax burden from those that have the ability to pay to those that do not. It would be a huge tax increase for most Americans and huge tax cut for those few at the top. It's just that simple.

I did the math earlier and it illustrates just how bad an idea this consumption based flat tax really is.