The era of big government may be over, but no one seems to have told the IRS. Amity Shlaes proposes a tax code overhaul.
If, from the more wretched parts of the old world, we look at those which are in an advanced stage of improvement, we still find the greedy hand of government thrusting itself into every corner and crevice of industry, and grasping the spoil of the multitude. Invention is continually exercised, to furnish new pretenses for revenues and taxation. It watches prosperity as its prey and permits none to escape without tribute.
-Thomas Paine, Rights of Man
Americans today are more prosperous than we have ever been. As a nation, we have come very far, so far that even our past is beginning to look different. In the 1950s, 1970s, and even the 1980s, we took big-government America, the America of the postwar period, to be the only America, an America that permanently supplanted something antiquated. This conviction strengthened when we considered the enormous troubles that plagued us in those decades. Who else but government could end the underclass, right the wrongs of Vietnam, combat inflation?
We can see now that in those years we had a foreshortened view of history. From the heights of our new achievement, we recognize that the Great Society, for all its ideals, was something of an aberration. It is clear now that the self-doubt and grave misgivings of the Vietnam period were, in their way, just a momentary interruption. The inflation of the 1970s was an acute and terrible problem but a short-lived one. Our famous deficit agony-which so many commentators and foreigners alleged would bring us down-has, at least for the moment, receded. Today we are in many ways more like the America of Andrew Jackson or even Thomas Jefferson than we are like the America of Jimmy Carter.
This change was the result of enormous and serious work. We developed microchips and computers that secured our global economic dominance. We started the welfare state and then, when we saw it wasn't working, successfully ended it. We grew a stock market that will provide pensions for the baby boom generation and beyond. Serious challenges loom ahead. Unpredictable rogue states threaten our national security; the economy will not always live up to its 1990s boom. But we understand now that the key to sustaining our prosperity is recognizing that we are our own best providers. Thinkers from left, center, and right agree: We don't need a nanny state.
This American confidence is not new. It is simply a homecoming to older ideals, ideals that we held through most of our history. Self-reliance is the ultimate American tradition. Even through a good part of the Depression "no handouts" was Americans' self-imposed rule. We are coming to a new appreciation of what Tocqueville admiringly called "self-interest, rightly understood."
Yet we are still saddled with our tax structure, the unwieldy artifact of an irrelevant era.
Unburdening ourselves is not easy, but it is something we have in our power to do. Our impasse, in fact, contains the outline of its own solution, if only we allow ourselves to look at it clearly. What, exactly, does our long struggle with Paine's greedy hand tell us?
Taxes Have To Be Visible
The engine of the welfare state is the withholding tax. Withholding was instituted during World War II when the federal government increased taxes dramatically to pay for the war effort. Withholding has made an enormous tax burden slightly more palatable by making taxes nearly invisible. No one today willingly gives a third or a half of his income into a strange hand; we only pay our taxes now because the trap locked shut long ago. We never see our tax bill in its entirety except during the madness of filing season.
When we rewrite our arrangement with government, we need to write into it a tax structure that is clear and comprehensible, whose outlines we can see and consider, whenever we choose.
Taxes Have To Be Simple
The tax code is a monster of complexity, but it doesn't have to be. When rules are added to rules, the change may benefit certain classes, but they hurt the rest of us. The best thing is to settle on one system, even if someone shouts that it's not "fair" to everyone.
Taxes Are For Revenue
For fifty years we have used taxes to steer behavior. Indeed, politicians often used the argument that they were promoting social good through the tax code as window dressing for their real aim: getting at the revenue. None of us like the result. We are responsible for our own fate; let government take what we choose to give it and then go away.
Taxes Have To Be Lower
We have managed to achieve prosperity notwithstanding high taxes. But that achievement would have been greater without those taxes. The microchip, in its way, has allowed us to postpone our date with taxes.
But epochal transformations like the computer revolution, or the Industrial Revolution for that matter, cannot be counted on to come every decade. Taxes will slow our economy if we don't bring them down to rates that allow us to sustain desirable growth.
We Don't Have To Load Extra Taxes On The Rich
We've learned that a tax system that punishes the rich also punishes the rest of us. Those who have money should pay taxes like everyone else. In fact the rich already carry more of the tax burden than any other income group. But history-the history of the 1980s in particular-has shown an amazing thing: that lower rates on the rich produce more revenue from them.
Progressivity has had its day. Let us move on to a tax system that is more worthy of us, one that makes sense for the country.
It's Time To Privatize Social Security
Many of the core tax problems we face today are in reality Social Security problems. Markets have taught us that they can do a better job than government in providing public pensions. We should privatize a portion of Social Security-at least three of the percentage points that individuals carry.
The only thing to guard against is a privatization that is not a real privatization. When government enters the stock market on behalf of citizens, as many advocates of Social Security privatization would like, that is not privatization. That is expanding the public sector at the cost of the private sector. An office in government that invests on behalf of citizens, as many are proposing, is an office open to enormous moral hazard. To understand this you only need to consider what would happen if the chairman of the Securities and Exchange Commission owned a few hundred million shares of blue-chip stocks.
Individuals need to control their own accounts, just as they control the rest of their money. Government guarantees of returns are also guarantees of disaster. One need only look to our recent history with savings and loans to see that. Raising the ceiling on federal insurance of S&L accounts led to that disaster by giving S&L directors license without accountability. The cost ran into the hundreds of billions, but it was far lower than the cost a government guarantee on privatized Social Security would be.
Local Is Good
The enduring lesson of our school crisis is that centralizing school finance to the state and federal level has not given us the equity or the academic performance we hoped for. These results have ramifications far beyond schools. Not everything can be solved through the federal government. Many problems-from school to health care to welfare-are better solved lower down. A wise tax reform would be one that leaves much of the nation's work to the people and the officials they know. Trying to write a federal tax law that addresses all our national problems is a recipe for a repeat of the current disaster.
We Must Lock In Change
In the 1980s, through tremendous political and social exertion, the nation joined together to lower tax rates and prune out many of the code's absurdities. Within a few years, Washington had destroyed its own child, turning much of the achievement of the 1980s to dust. This time we must fix our change so the fiddlers can't get at it.
Once we know where we are, putting through change is not so hard. The first thing we must do is replace the current system. One option is to institute a national sales tax, the kind advocated by the chairman of the House Ways and Means Committee, Bill Archer. We can do away with the constraining code and have everyone choose when they pay taxes by choosing what they purchase. Chairman Archer has even built into his system a plan to make it fair for poor people. He will give them a tax exemption for the first $20,000 or $30,000 they spend to be sure that their lives are not eaten away by taxes.
But there are problems with a national sales tax. One is that, in every country where it has been tried, whatever the political promises, it has come in addition to an income tax, not instead of one. A sales tax means a tax on services, which means that when we sell our homes, when we pay a plumber, we will have to tack on a 15 or 20 percent rate. That's too much. In Europe, where consumption taxes have long reigned, this has spoiled the political culture. Europe by now is a continent of scofflaws, not just when it comes to nanny taxes but in every regard. America is too good for that.
Then there is the flat tax, as proposed by House majority leader Dick Armey. The flat tax would sweep away the code, and it would support the lowest earners. It would help them with a general tax exemption of up to $34,000 for a household. But it too is a radical measure, particularly when it comes to business taxes. It would involve disruption. That disruption would become more than worth the price if we could assure ourselves that we were locking in the change.
A third and serviceable option is simply to clear out the underbrush and put through lower, simpler rates that apply to all in a fair and consistent matter. Our political leaders can do this if they throw away the distribution tables that have made tax writing a Procrustean bed in the modern era. If the middle class comes off a little better than the poor, that is not so bad. Then more poor will do what they would like to do anyway: work their way into the middle class. This is the level of reform, by the way, that the majority of Americans support.
Most Americans are not fire-breathing radicals or Ruby Ridge survivalists. They don't want to "kill the IRS." They just want a commonsense change in the system. And that is what they are telling lawmakers. When Steve LaTourette, a Republican congressman from Ohio, surveyed his constituents, he found that just about half wanted the IRS abolished. But a full three-quarters wanted to see the tax code itself abolished.
The second part of the program is to make the change truly permanent through a constitutional amendment. Our nation's last experience of trying to pass a constitutional amendment-the Equal Rights Amendment-was a bitter one. It soured Washington on amendments in general. This goes a long way toward explaining the current Republican foundering.
A constitutional amendment that calls for limiting federal taxes, including Social Security, to 25 percent of our income, or even a lower share, would be an important first step out of the logjam. For one thing, states would have to ratify the change, which would allow us to have a much-needed national discussion about taxes. Citizens would have to consider what lawmakers were proposing. This would give voters a chance to get around the lobbies and politicians who have kept the tax debate to themselves. It would get us all back into the discussion.
The third step is to realize that as a people we want to pay taxes. Roosevelt called taxes "the dues we pay for organized society." We still feel that way.
But people want a tax system that doesn't intrude on our private lives while it collects those dues, and we want those dues to be spent in a reasonable, limited way. We want a tax code that, to quote former Treasury secretary William Simon, looks as if somebody designed it on purpose, not a giant machine that collects our money merely to feed the monster.
Overcoming The Political Obstacles
The main challenge in reforming the tax code is how to get around the politics. But this is not impossible.
Take one proposal put forward by Stephen Moore of the Cato Institute, called the alternative maximum tax. The max tax, as it has also been called, would give taxpayers a choice: Keep paying under the old system if the math works out better for them. But if it doesn't, take a new system: Pay a flat rate of something like 25, 23, or 20 percent.
The ingenious aspect of this is that it defangs the lobbies. If millions of old people choose to take the flat rate, the AARP can no longer argue that a flat tax is "bad for senior citizens." If millions of homeowners take the flat rate, then the real estate lobby can no longer complain that America can't do without the home mortgage deduction. If millions of municipal bondholders opt for the flat tax, then the municipal bond lobbies' argument for its special exemption becomes fainter. The max tax has the power to muffle Gucci Gulch's roar, to expose the lobbies as secondary and dispensable.
Politicians are not necessarily our enemies here. They too are stuck in the grip of Paine's greedy hand. Indeed, when we all arrive at the right place, then politicians can help us. They are eager to do so. Last year's revamp of the IRS, which the Senate put through in a historic 97-0 vote, is a measure of their understanding that things have to change with taxes. Members of Congress from Dick Gephardt to Dick Armey have plugged for a flatter code. Daniel Patrick Moynihan of New York, one of Congress's more flexible thinkers, spent much of the spring of 1998 railing against complexity in the Senate Finance Committee. Senator William Roth, the Finance Committee chairman, is equally committed. These are experienced people, and they know that if they have our help, they can affect change.
It is important to remember that luck is on our side. Today the nation is actually in a better position to undertake a tax reform than at any point in living memory. In the 1980s, the last time the nation took up tax reform, the lawmakers had a much harder job. With the deficit ballooning to record proportions, they got sidetracked in a pointless budgetary battle. In those years, too, the nation was still committed, mentally and financially, to spend its way toward Lyndon Johnson's Great Society. In the 1960s, when John Kennedy and his Treasury secretary, Douglas Dillon, took up tax reform, they were at the helm of a nation in a state of siege, a nation that needed to marshal every resource to combat Khrushchev and face off with communist China. Today we have no deficit and no Cold War.
We need only to look to our own history for the path to follow. The Continental Congress and the young America raised internal taxes. The result was the Whiskey Rebellion and the violence of Daniel Shays. Thomas Jefferson, a lawmaker of the sort today's politicians might like to model themselves after, heeded the people. He campaigned on tax reform in 1800. In 1805, with his second inaugural address, he summarized his implementation of the people's desires: "The suppression of unnecessary offices, of useless establishments and expenses, enabled us to discontinue our internal taxes. These covering our land with offices, and opening our doors to their intrusions, had already begun that process of domicilary vexation which, once entered, is scarcely to be restrained from reaching successively every article of produce and property."
We too can suppress our unnecessary offices and cut back our tax state. When we do we will truly be Jefferson's people again: a nation where, as he drew the picture, "it may be the pride of an American to ask, what farmer, what mechanic, what laborer, ever sees a tax-gatherer of the United States?"
At the turn of the century the author Ben Hecht described the America he saw: "The young century wore a merry, untaxed look. People could get rich without cheating the government." Today people again manage to find prosperity without cheating the government. But imagine what we could find if the next century, too, started its course "merry and untaxed."
Indeed, in The Rights of Man, the book where he first gave us the image of the greedy hand, Thomas Paine also wrote of how that hand might be vanquished. People merely needed the political will to change. "If systems of government can be introduced less expensive and more productive of general happiness than those which have existed," Paine concluded, "all attempts to oppose their progress will in the end be fruitless."
© Copyright 1999 Hoover Digest, No. 2
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