Taxing Sales under the FairTax – What Rate Works?

Boston University ^ | September 2006 | Laurence J. Kotlikoff et al

[pigdog]

As specified in Congressional bill H.R. 25/S. 25, the FairTax is a proposal to replace the federal personal income tax, corporate income tax, payroll (FICA) tax, capital gains, alternative minimum, self-employment, and estate and gifts taxes with a single-rate federal retail sales tax. The FairTax also provides a prebate to each household based on its demographic composition. The prebate is set to ensure that households pay no taxes net on spending up to the poverty level.

Bill Gale (2005) and the President’s Advisory Panel on Federal Tax Reform (2005) suggest that the effective (tax inclusive) tax rate needed to implement H.R. 25 is far higher than the proposed 23% rate. This study, which builds on Gale’s (2005) analysis, shows that a 23% rate is eminently feasible and suggests why Gale and the Tax Panel reached the opposite conclusion.

This paper begins by projecting the FairTax’s 2007 tax base net of its rebate. Next it calculates the tax rate needed to maintain the real levels of federal and state spending under the FairTax. It then determines if an effective rate of 23% would be sufficient to fund 2007 estimated spending or if not, the amount by which non-Social Security federal expenditures would need to be reduced. Finally, it shows that the FairTax imposes no additional real fiscal burdens on state and local government, notwithstanding the requirement that such governments pay the FairTax when they purchase goods and services.

[groanup]

Smart. I notice you provided no link, because Mr K. would have had to work through the money supply aspect of the taxation, which would be nil. Since you didn't, I will give you a short lesson:

If I make 100,000 dollars and am taxed at 25% on my income I am left with 75,000 dollars. If, under a NRST, I make 100,000 dollars and WILL be taxed 25% on all of my purchases I know that I can only buy about 75,000 dollars of merchandise.

In either scenario the supply of money in the economic system, and the amount of money removed from the system by government is about the same. So the amount of goods and services I can purchased has not changed.

Therefore, the fruits of my labors purchase the same amount of goods and services under either scenario.

If, under Rob's scenario, the amount of goods and services I can purchase with my income drops suddenly by 30%, I am hosed. If this becomes a nationwide scenario the end of the world is near because of economic collapse. My labors suddenly provide me with 30% less of what I was able to buy before. That is ok when you're talking about movie tickets, but what about the monthly rent? The gas bill? The car payment?

That is why the Fed is so diligent about inflation and not employment. We can always get a job, even if it's setting up a lemonade stand.

But under a fiat currency system, the value of the currency is vital.

[lucysmom]

I'm not convinced it will cost you more.

Here's what you wrote: Without the rule, gov't could hire for much less than it can contract work out.

If contracting work out costs government more, and government pays with tax money then it either costs me more, or services are reduced.

If you prefer government over private industry for everything, you're in the wrong country.

Hyperbole does not enhance the credibility of your argument.

If a corporation that manufactures widgets hires 5 janitors as regular employees to clean its offices, is the corporation required to pay the FairTax for those employees?

[lewislynn]

Nowhere did I claim parity.

You didn't "claim" parity but you did describe it...

You made that up.

No I didn't, it's a real word.

"Parity" fits the point of the "rule" you were trying to make but you lost the argument when you arbitrarily decided the government only has to pay 23% tax for service employees VS the government mandate of private enterprise having to pay 30% tax for service employees.

[groanup]

You might as well get it through your head right now that I am going to hound you forever on this "instant inflation" thing. You have posted it incessantly at the beginning of FT threads and I have proven it miscreant simply because of the way you present it. If you would like to provide some sort of evidence that it is true we would all entertain such. But, unfortunately, after months and many posts, you have been unable to do so. If you don't wish to be challenged by me I suggest that you hide under your bed and quit posting.

[Bigun]

I see that you are once again cherry picking only what YOU want to quote and ignoring much more relevant data from that paper.

pg 12 -"Therefore a rise in the price level would be possible only if accommodated by an increase in the money supply. Put another way, without monetary accommodation, prices faced by consumers under the FairTax would not rise. Any changes to the level of monetary accommodation, i.e. increase in the money supply, would cause prices to increase in the same proportion."

pg 23 -"We assume that the monetary authorities do not accommodate the adoption of the FairTax, which is to say that they restrain the growth of the money supply sufficiently to prevent market prices from rising. As mentioned, this is merely a simplifying assumption. We could just as well have allowed for monetary accommodation, so that there would be no fall in producer prices under the FairTax. Doing so, however, would merely have made the algebra more complicated without changing the results."

[groanup]

And BTW, the reason I am being so hard about this is because I believe it to be misleading at best and absolute prevarication at worst. You know you have no training in these matters yet you post as if your word is final. I can only hope that the nature of Free Republic will ultimately shine the light on the truth.

[groanup]

Thanks for posting that. I knew there was more to the post than met the eye. Salute.

[RobFromGa]

I could care less what you think, and I don't find anything you say to be a challenge. You admit that the value of a unit of currency we call the "dollar" is going to buy considerably less than at present. You agree that some wage earners are going to have considerably more dollars in their bank accounts, and that these extra dollars will be used to buy about the same amount of stuff but at higher prices. Yet you can't make the obvious leap that everyone who holds dollars as an after-tax asset will see the value of those dollars drop.

If I owe a $25,000 debt today, and then the FairTax passes-- I am suddenly in a better position and the person who loaned me the money is in a worse position, because a dollar is not worth as much in exchange as it once was. This seems obvious to me, so you are either playing word games or some other stupid game. But whatever game that you think you are going to hound me with is just silly.

[groanup]

I'm twiddling my thumbs. You are trying to change the subject. Please acknowlege my request at least, or as I suggested, begone.

[RobFromGa]

Changing the subject? LOL. I'm right on the same subject.

You should go to bed, you know how ridiculous you usually sound when you start posting this late at night.

[Bigun]

Always glad to be able to shine the light of truth into a dark corner!

I now see that I should have added your name to that post as well and I apologize for not having done so.

[groanup]

Not to worry. I enjoy Rob's challenges. He is always at his best when he accuses me of drinking. Notice his last post. This is where he really goes off topic. The pitiful challenge to one who is obviously winning the argument is to call them a name or accuse them of a lack of sobriety. It has been hallmark of his methods. Earlier in the thread I posted that perhaps he should contact these economists who have ignored the 30% inflation effect. After all, he is the hero who contacted Jorgenson and has posted the e mails incessantly over the span of the months since.

It particularly galls me that he posts his "theorum" of prices when he knows nothing about economics and money supply. He even posted to me once that "I think all inflation is about is money supply". LOL.

It's too bad that some of the more astute economic posters ignore these threads. I'm sure they wouldn't be as gentle on Rob as I am.

[Your Nightmare]

Let's look at the two quotes:

"The first is the major capital gain that the federal government stands to accrue if, as seems likely, the Federal Reserve fully accommodates the introduction of the FairTax and permits consumer prices to rise by roughly 30%."

"We assume that the monetary authorities do not accommodate the adoption of the FairTax, which is to say that they restrain the growth of the money supply sufficiently to prevent market prices from rising. As mentioned, this is merely a simplifying assumption."

So he thinks it's likely that the Fed would accomodate a price increase but assumes they won't for the model to make things simpler.

[groanup]

Oh now you are using the "after tax" retirement income drive. Well, thanks to one of your links I have been able to dispel about 90% of that hokum. Once again you are changing the subject. Have you contacted those 75 economists I linked you to so that you may enlighten them? You have discovered a new economic theory and I think it should be named after you. The Rob Theory of Inflation: How inflation consists of merely raising prices.

I have thought about getting into a sideline because of certain hobbies I engage in. Maybe making doghouses because I like to work with wood. (work with wood, heh,heh, somethimes I think that when I debate with you anti's I'm working with wood, ahem, ((I hope that doesn't get me pulled)).) So if I raise my prices by 30% that is inflationary. The 30% increase has to go somewhere so, according to Rob's Theory of Inflation, it could just go right into my pocket. I like that.

[phoenix0468]

First of all Rob the tax wouldn't affect Real Estate, because it probably would be exempt from sales taxes as it is now. Things such as Property, vehicles (in most states), and other "real" property is assessed sales taxes and wouldn't fall under consumer goods taxed under the fait tax, I would hope.

Also, your assumption of an 8% price drop, IMO, is quite conservative. The price drop could actually be more like 15-20% with the removal of many business related taxes, and the increase in consumption that will occur due to individuals having more money to spend. The Christmas season is a microcosm of the effect. In years where the economy is doing well during the season consumption is high, whereas in seasons where there was even a perceived depression or resession consumption was down. It will be on the news this year as well, I'm sure. But with the fair tax, and the drastic increase in disposible income for most families every season will be a good Christmas Season.

[Your Nightmare]

It looks like you missed this quote from Kotlikoff in regards to the assumption that consumer prices would not rise.

"Private consumers would receive lower (gross) wages under the FairTax, because producer prices fall."

[lewislynn]

"Private consumers would receive lower (gross) wages under the FairTax, because producer prices fall."

LOL! I said it before and I'll say it again. It won't be long before Kotlikoff has Jorgenson status in the Fairtax world.

[lewislynn]

Thanks for posting that. I knew there was more to the post than met the eye.

You're right about that. See posts 973 and 976 for even more.

[Always Right]

So he thinks it's likely that the Fed would accomodate a price increase but assumes they won't for the model to make things simpler.

I can just imagine how this would work in real life. Basically it would seem the fed would have to choke the economy so that gross wages are forced to fall by the amount of income tax. Does anyone realize how painful that would be? Jorgenson assumed the same thing that wages just magically fall. We don't want to 'complicate' the analysis. A 20-25% rise in consumer prices is just a minor thing that 'complicates' models. Neither Jorgenson or Kotlikoff discussed what that impact would be from the perspective of someone with accumulated assets. Kotlikoff pointed out it would be a positive thing from debt holders viewpoints like the government, so it is more than fair to say it would be a negative thing from the wealth holder viewpoint.

[RobFromGa]

First of all Rob the tax wouldn't affect Real Estate, because it probably would be exempt from sales taxes as it is now. Things such as Property, vehicles (in most states), and other "real" property is assessed sales taxes and wouldn't fall under consumer goods taxed under the fait tax, I would hope.

This is wrong. These things are all taxed under the FairTax.

Also, your assumption of an 8% price drop, IMO, is quite conservative. The price drop could actually be more like 15-20% with the removal of many business related taxes, and the increase in consumption that will occur due to individuals having more money to spend.

I, and others, have come up with the 8% number looking at all places where businesses will save money. The main areas included in this number are the employer half FICA, corporate profit tax, and compliance costs. Your contention that it coulf be 15-20% is not based on reality, just your wishful thinking. And, people having "more mony to spend" will not lead to any reduction in prices but the opposite. And higher prices will stifle consumption.