Tuesday, March 23, 2010

Deferred consumption tax as stimulus?

The touchstone for any effective fiscal stimulus measure is its ability to get people to spend money immediately and thereby boost aggregate demand. In other words, it has to stimulate people to either indulge in additional spending or pre-pone their consumption decisions.

Accordingly, Robert Mundell had advocated that the US Government issue $500 bn of dated Spending Vouchers (to expire in 3 months) to increase effective demand with retailers using the executed vouchers as tax credits. He estimated that this would amount to stimulus in one quarter that would represent a potential 12.5% increase in spending in the quarter's income.

Along the same lines, Prof Robert Frank makes the case for a deferred progressive national consumption sur tax that would not only stimulate demand (by bringing forward consumption) but also raise revenues to bridge the deficit.

Prof Frank proposes a consumption sur tax on on families earning more than $1 million and with consumption beyond $500,000 annually, to be enacted right away, but not take effect until unemployment again fell below 6%. Since it would be enacted right away but not take effect until later, it will also produce immediate, off-budget economic stimulus by giving wealthy families powerful incentives to accelerate future spending. He points to a study by University of Delaware economists Larry Seidman and Ken Lewis who estimate that a progressive consumption tax could generate $50 billion or more in additional revenue annually.

He also proposes calculating consumption as the difference between reported (to the IRS in the annual statements) income and savings, and once consumption topped $500,000, the families would be subject to the surtax. Rates would start low but rise as consumption grew. He also argues that such a tax would not distort any incentives - beyond a certain point, additional consumption serves needs that are almost completely socially determined and more than 99% of households would be exempt from this tax.

Among other details, "loan repayments would be added to the savings total, thereby reducing potential tax liability. New borrowing, meanwhile, would be subtracted from savings, increasing the potential tax. For homeowners, annual housing consumption would be counted as the implicit rental value of their house, so a $500,000 purchase would not set off the tax."

See also Prof Frank's original arguement advocating replacement of the income tax with a progressive consumption tax. Mark Thoma prefers a more general discretionary automatic stabilizing fiscal policy to fight a recession, one that allows income taxes, payroll taxes, etc. to vary procyclically - these taxes would be lower in bad times and higher when things improve, and implemented through an automatic moving average type of rule that produces the same revenue as some target constant tax rate (e.g. existing rates).

No comments: