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June 5, 2009

Economist's View - 4 new articles

"VAT Time?"

Bruce Bartlett continues to advocate for a value added tax (e.g.):

VAT Time?, by Bruce Bartlett, Commentary, Forbes: According to a Washington Post report, the Obama administration and leaders on Capitol Hill are looking seriously at a value-added tax to pay for health care reform and reduce federal budget deficits. Predictably, Republicans reacted to the news with glee. They view the VAT as political poison that will destroy Obama and congressional Democrats if they dare to enact one.

The irony is that the VAT is probably the ideal tax from a conservative point of view. As a broad-based tax on consumption it creates less economic distortion per dollar of revenue than any other tax--certainly much less than the income tax. If Republicans are successful in defeating a VAT, the alternative will inevitably be significantly higher income taxes, which will do far more damage to the economy than a VAT raising the same revenue.

The VAT is a kind of sales tax that was invented by German businessman Wilhelm von Siemens after World War I. The main problem he was concerned with was ... double taxation...

The way a VAT typically works is like this. A farmer grows wheat and sells it to the miller. A tax is paid by the farmer on the sale price of the wheat and is included in the price. When the miller sells the flour made from the wheat, a tax is assessed on that sale as well. But the miller subtracts the tax he paid when he bought the wheat. ... Thus the tax is only assessed on value added--the difference between what a producer paid for inputs and what he was able to sell that was made from those inputs. ...

In the 1970s, there was some talk of a VAT for the U.S. Richard Nixon was sympathetic to the idea. But eventually conservatives decided that the VAT's greatest virtue--its efficiency; i.e., its ability to raise revenue at a very low dead weight cost (the cost over and above the revenue collected)--was a defect rather than a virtue. The fear was that a VAT would raise too much revenue, too easily. Better to raise taxes as painfully and inefficiently as possible, many conservatives concluded, in order to limit the government's tax take.

I myself long opposed the VAT on money machine grounds. I changed my mind when I realized that there was no longer any hope of controlling entitlement spending before the deluge hits when the baby boomers retire; therefore, the U.S. now needs a money machine.

Although some liberals have periodically been attracted by the VAT's revenue potential, none have made a serious effort to enact one since House Ways and Means Committee Chairman Al Ullman, D-Ore., floated the idea in 1979 and was defeated the following year, a loss that was widely attributed to his support for a VAT. Forever afterward, Ullman's name has been invoked as proof that a VAT is politically suicidal. ... Politicians are also aware that leaders imposing VATs in foreign countries often suffered electoral defeat as a consequence. ...

However, several factors may now have changed that may make the prospects for a VAT in the U.S. viable. First is the magnitude of the fiscal crisis that will have to be addressed soon. ...

Another factor driving renewed interest in a VAT is the Obama administration's push for health care reform. I think it erred by thinking that revenue from a cap-and-trade system to reduce carbon emissions could be used to finance health care. ...

This fact is already evident as we see that the House Energy and Commerce Committee has been forced to give away a huge number of carbon credits to buy support for a cap-and-trade bill. These credits ... will ... reduce revenue...

It is also clear that the cost of meaningful health care reform will be much greater than the Obama administration originally calculated. This has led to a search for additional revenue. ...

In a recent study, economist Len Burman makes the point that a VAT is the ideal way of financing health care reform because it addresses a key drawback of the tax--its regressivity. As a sales tax, it takes more in annual percentage terms out of the pockets of the poor than the rich. But if the poor receive health care in return, then this may seem like a reasonable trade-off.

A VAT would also address a common conservative concern about the growing percentage of the population that pays no federal income taxes. ...

Back in 1988, Harvard economist Larry Summers, now a key Obama advisor, explained that the reason the U.S. doesn't have a VAT is because liberals think it's regressive and conservatives think it's a money machine. We'll get a VAT, he said, when they reverse their positions. That day may finally be here.

Repeating my comments from previous times this has been proposed:

I doubt will see any major changes in the tax structure anytime soon, but if we do, value added taxes are regressive, but in countries where they are used, they're an important source of revenue for highly progressive tax-and-transfer systems (but not without problems). So the characteristic of these taxes overall depends upon their implementation, i.e. how the extra revenue from the tax is used.

Paul Krugman: Keeping Them Honest

Will the health care reform plan include an effective public option?:

Keeping Them Honest, by Paul Krugman, Commentary, NY Times: "I appreciate your efforts, and look forward to working with you so that the Congress can complete health care reform by October." So declared President Obama in a letter this week to Senators Max Baucus and Edward Kennedy.

The big health care push is officially on. But ... reform will fail unless we get serious cost control... So let me offer Congress two pieces of advice:

1) Don't trust the insurance industry.

2) Don't trust the insurance industry.

...It's a sign of the way the political winds are blowing that ... the president of America's Health Insurance Plans, the industry lobby known as AHIP, has explicitly accepted the need for "much more aggressive regulation of insurance."

What's still not settled, however, is whether regulation will be supplemented by competition, in the form of a public plan that Americans can buy into as an alternative to private insurance.

Now nobody is proposing that Americans be forced to get their insurance from the government. The "public option," if it materializes, will be just that — an option Americans can choose. And the reason for providing this option was clearly laid out in Mr. Obama's letter: It will give Americans "a better range of choices, make the health care market more competitive, and keep the insurance companies honest."

Those last five words are crucial because history shows that the insurance companies will do nothing to reform themselves unless forced to do so.

Consider the seemingly trivial matter of making it easier for doctors to deal with multiple insurance companies. Back in 1993,... William Kristol ... acknowledged that some things needed fixing, calling for, among other things, "a simplified, uniform insurance form."

Fast forward to the present. A few days ago, major players in the health industry laid out what they intend to do to slow the growth in health care costs. Topping the list of AHIP's proposals was "administrative simplification." Providers, the lobby conceded, face "administrative challenges" because ... each insurer has its own distinct telephone numbers, fax numbers, codes,... forms and administrative procedures. "Standardizing administrative transactions," AHIP asserted, "will be a watershed event."

Think about it. The insurance industry's idea of a cutting-edge, cost-saving reform is to do what William Kristol — William Kristol! — thought it should have done 15 years ago. ...

The ... purpose of the public option is to make sure that the industry doesn't waste another 15 years — by giving Americans an alternative if private insurers fall down on the job.

Be warned, however. The insurance industry will do everything it can to avoid being held accountable. At first the insurance lobby's foot soldiers in Congress tried to shout down the public option with the old slogans: private enterprise good, government bad. ...

The most recent ruse is the proposal for a "trigger" — the public option will only become available if private insurers fail to meet certain performance criteria. The idea, of course, is to choose those criteria to ensure that the trigger is never pulled.

And here's the thing. Without an effective public option, the Obama health care reform will be simply a national version of the health care reform in Massachusetts: a system that is a lot better than nothing but has done little to address the fundamental problem of a fragmented system, and as a result has done little to control rising health care costs.

Right now the health insurers are promising to deliver major cost savings. But history shows that such promises can't be trusted. As President Obama said in his letter, we need a serious, real public option to keep the insurance companies honest.

"The Problem with Bailouts"

Ed Glaeser doesn't like the auto bailout:

The problem with bailouts, by Edward L. Glaeser, Commentary, Boston Globe: Recessions can ... reveal weakness in seemingly invulnerable businesses, like Citibank and Toyota. But diagnosing the nature of corporate ill health may be difficult. Some firms suffer from a fatal disease; others have a temporary virus. ...

The distinction between permanent and transitory troubles appears across industries, companies, and cities. The metropolitan areas of San Jose and Detroit are both suffering from double-digit unemployment rates... Despite California's political mismanagement, San Jose has a superb base of tech-savvy entrepreneurs and a terrific climate. Silicon Valley will rise again, but the prognosis for Detroit is less rosy. Overdependence on one not very competitive industry, a shortage of college graduates, and a cold climate have led the city of Detroit to lose more than 50 percent of its population since 1950. ...

When investment is private, professional investors determine which companies are doomed and which are salvageable. In the current situation, however, the government has decided that a large number of firms are too big to fail and so our elected leaders are deciding which firms to save and which to let go.

The right answer is not "save everybody." Human and physical capital should move out of declining industries and into more productive areas, unless America wants to be a permanent, industrial underperformer. But public-sector intervention usually errs on the side of the status quo. Politicians respond to the workers in an existing firm who are ... rallying to keep their jobs. The customers and employees of the new firms that will rise from a collapse have no seat at the table.

Since the collapse of Lehman Brothers, the public sector has spent billions saving the banks. While these decisions are certainly debatable, they are understandable. The US financial industry misbehaved badly,... but it is still a sector with a future. ... After all, every other sector in the economy depends on banks for their financing.

But what about cars? ... Does anyone, other than GM's management, believe that this company can come back? The current treatment, cash infusion and a reduction in corporate liabilities, provides a solution for a company that is broke, not for one that is broken.

The great cost of saving GM as a single company is that ... America's car industry ... might be better served with a number of smaller, nimbler firms. Across metropolitan areas and across sectors within areas, there is a strong link between small firms and economic success. Detroit was, a century ago, among the most entrepreneurial places on the planet, and it achieved automotive miracles, the scale of which ultimately turned the city into a model of big-firm stagnation.

If General Motors becomes a permanent employee-owned, state-sanctioned enterprise, the firm will lose its chance to split up and become entrepreneurial once more. This could be the great price, even greater than the tax costs, of treating a permanently plagued company like one with a temporary cash shortfall. As flawed as the free market may be, it is hard to be enthusiastic when politicians start playing financier with our tax dollars.

I don't think anyone is planning on "a permanent employee-owned, state-sanctioned enterprise." I don't disagree that the auto industry needs to change. However, there is a maximum rate at which the economy can transform itself, a maximum rate at which the economy can create new industry and absorb displaced and unemployed labor, and presently there's not much more the economy can do. Putting people out of work only to have to spend money in other ways to support those very same people through social insurance programs, losing tax revenues because of their lost income, and so on, is not wise. The transition needs to happen, and a break-up into smaller firms might very well be part of it, but it needs to happen at an acceptable rate.

When the bathtub is already draining as fast as it possibly can, dumping more water into it does not make the tub empty any faster, it only raises the water level. Similarly, right now the pool of unemployed is draining as fast as it can, and dumping more people into it will simply make the problem worse, the transformation of the economy won't happen any faster. Yes the car companies need to change, and yes, the government support needs to end as fast as possible. But the change can only happen so fast, and trying to push it faster doesn't do any good.

There will come a time once recovery is under way to make changes such as those discussed above. I know I don't want a permanent state-run or state-backed enterprise, and there will come a time when the companies must stand or fall on their own. But I also don't want to put people out of work during a recession based upon the notion that the industry must transform itself through private sector initiative when there's very little chance of that happening until things improve.

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