What If The U.S. Tax System Were Modernized?: The Ticker

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By Simon Johnson

House Republicans have got across their big message: No more taxes. Many of them are convinced that increasing the federal government’s share of taxes, relative to gross domestic product, would be a disaster for economic growth. At two Congressional hearings I attended recently, there was even serious discussion of a constitutional amendment that would fix federal government revenues relative to GDP (at no more than 18 percent).

American politicians are very much taken with the uniqueness of the U.S. No doubt we have our special strengths and some unusual weaknesses -- including very high current and projected spending on health care -- but it is also striking that if you ask independent people for a considered opinion, they find we have a great deal in common with Western Europe and other industrialized countries.

Almost all these "rich" countries face a similar problem: Their populations are aging. Spending on pensions and health care needs to be constrained, as part of what the International Monetary Fund delicately refers to as a "fiscal adjustment."

Tax reform is also an option. Compared with other countries at roughly our income level and with similar demographics, the U.S. collects relatively little in taxes; in addition, our tax system is antiquated and would benefit from modernization. For example, there are only two Group of 20 countries that do not currently have a value-added tax, which is an effective way to tax consumption -- Saudi Arabia and us. The Saudis are not short on revenue.

Using the IMF’s numbers in its Fiscal Monitors of May 2010 and April 2011 -- which measure “general government," including federal, state and local -- the U.S. collected 31.8 percent of GDP in 2000. This compares with the U.K. at 38 percent, Germany at 46 percent and France at 50 percent. In both 2009 and 2010, the U.S. collected 30.4 percent of GDP; general government revenue will likely be just 30.5 percent of GDP this year.

A modernized tax system in the U.S. could collect the same level of revenue while creating less distortion. A sensible value-added tax, for example, would easily generate 3 percent of GDP while encouraging saving.

Or we could increase revenue in order to invest in something sensible -- like making sure more children grow up to be healthy, productive and able to pay the taxes that will support your retirement.

-0- Aug/03/2011 13:09 GMT