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Time to Change Tax Code Again, Greenspan Says

1986 Law Presented As Model of Reform

By Nell Henderson
Washington Post Staff Writer
Friday, March 4, 2005; Page E02

The U.S. tax code should be simplified in ways that would boost economic growth, Federal Reserve Chairman Alan Greenspan said yesterday.

Greenspan, addressing the President's Advisory Panel on Federal Tax Reform, urged the committee to follow the spirit of the "exemplary" 1986 law that lowered marginal rates while broadening the revenue base by scrapping many of the exemptions, deductions, credits and other provisions that shield much income from taxation.

Federal Reserve Chairman Alan Greenspan testifies yesterday before the President's Advisory Panel on Federal Tax Reform, whose members include, from left, Liz Ann Sonders, James M. Poterba, Chairman Connie Mack III and Vice Chairman John B. Breaux. (Kevin Wolf -- AP)

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Senate Democratic Leader Blasts Greenspan (The Washington Post, Mar 4, 2005)
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Testimony of Chairman Alan Greenspan (March 3, 2005)

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Graphic: Historical Changes in the Federal Funds Rate
In His Own Words: Greenspan comments and Fed actions since 2001.
Timeline: Interest rate changes since the recession of 1990.
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Federal Reserve Special Report

Since 1986, he said, "the tax code has drifted back to be overly complicated," with higher rates and multiple special provisions that narrow the tax base. "It is perhaps inevitable that, every couple of decades, drift needs to be addressed and reversed."

Greenspan proposed no specific tax-law changes, but recommended broadly that the panel seek to keep tax rates as low as possible and make the rules predictable. That should benefit the economy overall, as did the 1986 law, he said.

"A simpler tax code would reduce the considerable resources devoted to complying with the current tax laws, and the freed-up resources could be used for more productive purposes," Greenspan said.

President Bush has made tax reform one of the top domestic legislative priorities of his second term.

He created the advisory panel to recommend ways to simplify the tax code to promote long-run economic growth and job creation while encouraging work, saving and investment. He directed the group to keep tax deductions for home-mortgage interest and charitable giving. Greenspan said in his testimony that one of the first decisions the panel must make is whether to focus on taxing consumption or income, or some combination.

The U.S. system is "somewhat mixed," as are those of many countries, he said. "That is probably the best route to go."

Many economists, including some White House advisers, have advocated a system that would tax consumption more heavily, such as through a national sales tax or value-added tax. They argue that a consumption-focused system would encourage people to spend less and save more, providing more capital for investment, which over time fuels growth and produces the new technologies, plants and equipment that raise living standards.

Greenspan noted that argument, but didn't say whether he agreed with it. Rather, he suggested switching to such a system would raise "a challenging set of transition issues." And, he said, "the opposition that would arise would probably make [a pure consumption tax] infeasible."

More generally, Greenspan repeated his oft-stated belief that taxes should be as low as possible.

"Any tax increase, as you know, inhibits economic activity in one way or another," he said. "Whatever you tax, you will get less of."

However, he criticized the proliferation of special provisions that reduce taxes in various ways. One problem with them, he said, is that they distort economic behavior by prodding businesses and consumers to make decisions based on tax advantages rather than pure economics.

Such special provisions also make the tax code more unpredictable, he said. In his view, ever-changing rules make it harder for businesses and consumers to plan ahead, lowering investment and restraining the rise in living standards.

He did, however, endorse tax breaks designed to encourage retirement savings, such as through 401(k)s and individual retirement accounts.

Economists disagree about whether such accounts lead to more savings overall or just cause people to move savings from regular accounts to those that carry tax advantages. Either way, Greenspan said it is "probably indisputable" that they do boost saving for retirement specifically, even if there is no increase in total saving.

And boosting saving for retirement, he said, is "clearly something that is desirable."

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