Fairness versus Prosperity: The Flat Tax

Americans must choose--fairness or prosperity. Certainly we can mitigate income inequality and increase levels of GDP by limiting the most egregious excesses of corporate remuneration. See my post on corporate boards acting on behalf of shareholders and limiting poorly performing CEO salaries here. However, the country must choose, as a matter of policy, high GDP growth and job creation or progressive taxation. You can't have both.

When tax rates were very progressive, in the 1950s, GDP growth was steady if unspectacular. (Source information here.) GDP really took off in the 1960s, after the top marginal tax rates went down from 92 percent to 77 percent in the 1960s. The Reagan boom was also fueled by marginal tax rate cuts, the top earners paying 50 percent. Lower tax rates also lead to greater resources for government. As the Laffer curve (below) demonstrates, when marginal tax rates are too high, people use tax avoidance (or illegal tax evasion) strategies to shield income from the IRS.

Ironically, those that want increased government spending on social programs should not be in favor of confiscatory marginal tax rates on the rich. Setting rates back up to 90 percent will put less money in government coffers.


What would happen if we did away with our ridiculously unwieldy, complicated, and wasteful progressive income tax, and replaced it with a flat tax? (See this.) Both Herman Cain and Rick Perry favor a form of flat tax. The New York Times, predictably, hates the idea. Robert Frank writes in The Problem with Flat-Tax Fever (link here) that the flat tax can be just as cumbersome as our current system if it all the usual tricks are needed to compute adjusted gross income, and the flat tax is unfair because the rich would be taxed less and the poor more. These criticisms can be easily refuted. A good flat tax is a simple tax. Add up all ones income and multiply it by a percentage, say 20 percent. There are no deductions are complications. The calculations can be completed on a postcard. Each American saves hours of time and hundreds of dollars (or more) in lost revenue computing their taxes.

Is the flat tax regressive? No, the rich pay the same percent as everyone else but they still pay more. The woman who made a million dollars pays $200,000 with a 20 percent tax rate. Joe Six Pack, bringing home $40,000, pays $8,000. The rich will still pay the lion's share of IRS inflows.

Most importantly, will the flat tax turn our economy around? Wikipedia has an excellent analysis of the pros and cons of the flat tax. (See the article here.) The article shows how the Russian Federation, Estonia, Latvia, Lithuania, Ukraine, Slovakia, Romania, Hungary, Macedonia, Albania, and Bulgaria have implemented a variation of the flat tax in order to stimulate growth. Lithuania has boasted of strong growth, though it is hard to say if the flat tax alone is most responsible. Many more countries are considering the flat tax. Should the United States give it a try? Arthur Laffer writes that the flat tax is a recipe for growth, proposed (quite ironically) by the current Democratic governor of California, Jerry Brown, in 1992. (See editorial here.)

Will the flat tax increase income inequality? Perhaps, but with unemployment stuck at high levels, our economy needs a shot of strong medicine to grow GDP and create jobs. Recessions lower inequality but also throw many of the poor out of work.Those who have been without a job for months will be hired only when expanding businesses need workers. Extreme poverty has increased in the last year. (See article here.) Our current taxation system is not working well, and the flat tax is worth a try.