In the last few weeks, talk of President Bush's soon-to-be unveiled second term economic agenda has shifted, for the first time in a long time, to a discussion about fundamental tax reform.
First there was the release of Speaker Hastert's new book in which the Illinois republican explains that taxes account for 23 to 27 percent of the cost of our goods and services, putting our corporations at a competitive disadvantage with our trading partners. Thus, he argues, "For us to return capital and jobs to the United States, we're going to have to change our present tax system and adopt a flat tax, a national sales tax, an ad valorem tax, or VAT." I agree we need to fundamentally reform the tax code, however, I have always worried that a VAT is too easy to increase, which we have witnessed in Europe.
Later in the week, Sen. Sam Brownback, R-Kans., said that President Bush is committed to a growth platform, and that "you'll start hearing him talk about a flat tax, really getting the tax code out of so much impact over peoples' lives."
Alan Murray wrote in the Wall Street Journal that the Bush administration is taking another page from the Gipper's playbook - tax cuts in the first term, tax reform in the second.
If fundamental tax reform becomes the issue, and I believe it to be a huge issue, it is important that we clearly articulate what exactly that means. By 1986, Ronald Reagan succeeded in bringing the top marginal tax rate down from 50 percent to 28 percent. But, the mistake made was increasing the capital gains tax rate to 28 percent and treating capital gains as identical to ordinary income. The result: capital gains tax revenue, which was greater than $165 billion in 1985 dropped precipitously to $116 billion in 1992. The trouble is capital gains is not ordinary income, it is a tax on putting surplus capital at risk. It is a direct tax on wealth creation and risk capital - which only slows growth and reduces revenues.
In 1996, the last time fundamental tax reform received a concerted public hearing was when I chaired the National Commission on Economic Growth and Tax Reform - the Kemp Commission. We ultimately decided the income tax system was "impossibly complex, outrageously expensive, overly intrusive, economically destructive and manifestly unfair" - in short, we concluded the best course of action was to scrap the code altogether and tax all income, but tax it only once - this would radically simplify taxation and create the conditions for long-term robust economic growth.