On the outer edges of the scramble to find new revenues to balance the budget--some would say lurking in the shadows--is, by American standards, a fundamentally new tax.
Prospects that the administration or Congress would turn to this tax--called a value-added tax (VAT)--to help resolve the deficit crunch are dim, but interest in it continues.
The primary reason for this interest is the revenue potential of a VAT, which really amounts to a hidden sales tax. For every percentage point, the levy would produce from $12 billion to $14 billion, or well over $100 billion if set at 10 percent. And it would not be directly visible to the taxpayer, in the way that payroll deductions for Social Security and income taxes are glaringly present on every payroll stub or a sales tax shows on a purchase slip.
In many quarters, however, the VAT is seen as an inflationary and regressive levy placing a disproportionate burden on the poor and the lower middle class at a time when the administration has just won approval of a $749 million tax cut tilted towards the wealthy. Others, including the corporate exporting community and certain economists, see in the tax a way to both improve the U.S. position in international trade and a mechanism to encourage savings and investments.
While it is appealing to those who would like to see such a hidden tax in place, the process of winning approval is far more dangerous. Al Ullman, the former chairman of the House Ways and Means Committee, was a leading proponent of the tax as a way to reduce income, Social Security and corporate taxes. This position was, however, probably the key reason he was defeated last November by Oregon voters who have consistently rejected state sales taxes.
The VAT is also subject to the charge that it would force a significant increase in the consumer price index and consequently--instead of simply raising new revenues to reduce the budget--force an increase in federal expenditures in all transfer programs, including Social Security, tied to the inflation rate.
In simple terms, a VAT is a tax on the increase in value of a product or good at each step in the production process. If the tax were 10 percent, the tax on $10 worth of iron ore that hypothetically increased in $10 steps as it went through the process of conversion to steel ($20), fabrication into a car bumper ($30), added to a car ($40), sold to a dealer ($50), and finally sold to the consumer ($60), would be $1 applied at each step, ultimately incorporated into the consumer's purchase price.
Without modification, the VAT is regressive, since it amounts to a tax on consumption, and poor and moderate income persons spend a much higher percentage of their income buying goods subject to the tax than the wealthy.
In France, for example, a Brookings Institution study edited by Henry J. Arron found that in 1972 the average tax rate under the VAT there was 10.09 percent, but for persons with incomes below 10,000 francs, the rate was 22.17 percent while for those with incomes above 100,000 the effective rate fell to just 5.44 percent.
In one of the sharpest attacks on the VAT, Rep. William S. Brodhead (D-Mich.), a member of the Ways and Means Committee, said during hearings initiated by Ullman in 1979:
"Of all the faults of the value-added tax, its regressivity is the most disturbing feature. The federal income tax, based as it is in large measure on the individual's ability to pay, is our most progressive tax. VAT, however, like any sales tax, is set as a fixed percentage of the value of a purchase. The consumer with a small income pays exactly the same tax as the one with a large income, but he pays a larger percentage of his total income. . . . The people who would be hardest hit by VAT are those who are already having great difficulty paying steadily increasing prices for food, clothing, housing and medical care."
More recently, Ralph Nader's Public Citizen Tax Reform Research Group contended in an article in its publication "People & Taxes" that "Reagonomics needs a shot in the arm, and fast. Unwilling to trim corporate tax handouts and defense spending . . . the administration and Congress might decide a VAT is just what the doctor ordered . . . but the VAT is one elixir that could result in an overdose of inequality and economic torpor."
There is no evidence that the administration is considering a VAT--if anything, the evidence is to the contrary--but the tax has a ideologically mixed bag of supporters.
Some economists, including some liberals, argue that by exempting certain basic goods and by creating a credit applicable against income tax liability, the VAT can be made proportional, if not progressive. In addition, they point out that a key question within the distribution question is how the money is used:
"Clearly, the proceeds from a value-added tax could be used to replace part of the corporation income tax (a regressive change), to finance expanded health insurance benefits for the poor (a progressive change), to replace part of the payroll tax (a mildly progressive change)," Arron wrote. The current political mood in Congress suggests, however, that the use of new revenues for more progressive distribution of federal outlay and tax benefits is unlikely.
In addition, the tax has a potentially strong base of support from domestic corporations facing serious challenge from foreign competitors, particularly in such areas as automobile manufacturing and steel production, along with domestic exporters seeking improvements in their ability to compete in foreign markets. In Western Europe, where the VAT is the rule, not the exception, and Japan, which has a similar commodity tax, goods for export are exempted from the VAT while those imported are subject to it.
The result, according to proponents of a U.S. VAT, is that international competitors are able to provide what amounts to a tax subsidy for goods shipped into the United States, which it cannot match under the rules of international trade agreements.
John J. Nevin, president of the Firestone Tire and Rubber Co., argued, for example, "A $5,000 value U.S.-produced car is charged a 22 1/2 percent, or $1,125, commodity tax when sold in Japan. Conversely, a $5,000 value Japanese-produced car has the Japanese commodity tax removed when it is shipped to the U.S., and the U.S. charges only a 2.8 percent, or $114 tariff. The end result is that cars that start out with equal $5,000 values in their home countries end up at $6,125 for the U.S.-produced car in Japan and $4,196 for the Japanese-produced car in the U.S."