We all share a deep foreboding that our way of life is eroding, that the ingenuity and the competitive spirit that established America's economic leadership are lagging.
The signs of economic weakness are widely visible. Inflation -- our most dreadful enemy -- is quietly stealing control of our vital choices. Running higher than 13 percent, it seems all but immune to traditional enocnomic remedies.
We've suffered two significant recessions over the last decade, yet inflation seems to have emerged stronger from each. Sending prime interest rates above 14 percent attacks inflation in some sectors of the economy -- at the very real risk of sending the entire country into a prolonged recession. A balanced budget by itself won't solve inflation.
Productivity -- the measure of economic efficiency -- is declining. Much of the drop is explained by our national fear of spiraling inflation and the race to consume rather than save and invest. Without economic certainty and the incentives to expand, the private sector will continue to lose its technological and competitive edge.
I have come to the conclusion that the only way we can get to the source is to restructure the tax system -- now.
Income and payroll taxes -- forced up by inflation -- are discouraging employment and investment.The nation is pushed to spend rather than save. As confidence in our tax system erodes, so does the tax base.
Restructuring the tax system must begin by rolling back the Social Security tax by a third -- from 6.65 percent to 4.5 percent. We must cut personal income taxes to counter the impact of inflation. And that includes major expansion of the earned income tax credit for the poor and the retirement tax credit for the elderly.
If business is to survive, let alone prosper, we've got to expand incentives for capital formation. A 10 percentage point cut in the top corporate tax rate (from 46 percent to 36 percent), depreciation reform, reducing the maximum personal tax rate to 50 percent, special treatment of personal savings income and dividend reinvestment must all be components of a broad tax proposal.
Brought to bear at once, these incentives represent the largest adjustment in U.S. taxation since 1913. Combined, their effect on investment, saving, capital formation and exports would be massive. These tax cuts amount to $130 billion a year, beginning in 1981.
There are three ways of paying for a plan of this magnitude: cut spending by $130 billion, run up the deficit another $130 billion or create an alternative source of revenue. In my judgement, the best alternative available -- one that would both allow deep tax cuts and directly confront our critical enconomic imbalance -- is a broad-based consumption tax. In short, an Americanized version of the value-added tax (VAT).
The goal we must keep in focus is the need to shift income from consumption to savings and investment -- within the framework of a balanced budget.
A value-added tax is a tax on consumer goods and services. It is a flat tax -- a 10-percent tax -- that falls every time the item passes from one firm to another on the way to the final marketplace. At every step, the tax is collected and sent to the government. Using a system of rebates on taxes paid along the line, the cumulative tax at the retail level cannot exceed 10 percent.
The VAT is not a new concept. It is used by most of our competitors in the free world -- countries that are surpassing us in economic growth.
The VAT in my bill is virtually a tax without loopholes. Everyone would pay -- including those engaged in the "underground" economy. Those who spendmore would pay more. Although those with limited budgets typically would pay proportionately more than those with large incomes, a VAT can be shaped into a fair tax -- certainly less regressive than the payroll tax, which nearly everyone now pays.
We cannot make everyone "whole." The price of combatting the real causes of our economic crisis is high. In the long run, the rate of inflation will come down and productivity will climb -- and we will share the benefits. In the meantime, we must begin to share the cost of those future benefits.
A VAT would also help improve our trade posture by putting American workers and manufacturers on a more equal footing with our trade partners.Unlike payroll and income taxes, the VAT could be rebated to manufacturers when products are exported and could be imposed on imported goods. Such border taxes are now levied in most other free-world countries, and help to explain our current unfavorable trade balance.
A VAT would have a one-time inflatonary impact. However, retail prices would rise less than 10 percent because of offsetting payroll and income-tax cuts -- and a strong surge of market competition. And the consumer would also benefit from the same cuts in his own taxes.
The value-added tax is a new approach for most Americans. It will draw sharp debate, as must all new concepts for massive change. But our economy today hangs in the balance.
The choices are few. An American value-added tax is not the easiest answer -- but it is the most realistic.