What Does a Progressive Tax Policy Look Like?

Last week, we established that Huckabee's much-hyped FairTax, a flat-rate sales tax on all goods, is something less than a brilliant idea. The numbers are dodgy and the burden regressive, at least for the middle class. But the core concept -- a consumption tax -- isn't necessarily a bad one. Nearly every European country has a consumption tax of some sort (the most common is the Value Added Tax, a tax assessed at various stages in the production process, which makes it tougher to scam), and they work pretty well and may even be worth adopting here.

Consumption taxes have an upside and a downside. The upside is that, particularly in a country like ours with a negative savings rate, they tax something we want less of: consumption. By the same token, they encourage something we want more of: savings. And that, slightly counterintuitively, lets us consume more in the long run: When we save our money, whether in a bank account or a mutual fund, it appreciates. It's good all around.

The downside is that they're regressive. It's easier to save money when you're making millions than when you're pulling in thousands. Advocates of a flat tax rate (like that in the "FairTax") like to argue that since 25 percent of $10 million is more money than 25 percent of $100,000, flat tax rates are progressive. But they're not. They're proportionate. Progressive taxation increases your share of the tax burden as you move up in income.

Consumption taxes, however, do not need to be sales taxes, and they do not need to be flat. Cornell economist Robert Frank has a particularly elegant proposal for a progressive sales tax that's tabulated at year's end, rather than at the point of sale. Under his system, come tax time, families would report their income, just as they do now, but also their savings (how much they've invested, kept in the bank, etc). The difference between the two would be their taxable consumption. Everyone would then get a standard deduction of $30,000, effectively exempting low-income families from taxation altogether. As the total taxable consumption rose, so too would the rates, just as is true now. A taxable consumption of $15,000 might pay 10 percent in taxes. At $8 million the top rate could be as high as we chose to make it.

This could have substantial benefits. "Consider a family that spends $10 million a year and is deciding whether to add a $2 million wing to its mansion," Frank writes. "If the top marginal tax rate on consumption were 100 percent, the project would cost $4 million. The additional tax payment would reduce the federal deficit by $2 million. Alternatively, the family could scale back, building only a $1 million addition. Then it would pay $1 million in additional tax and could deposit $2 million in savings. The federal deficit would fall by $1 million, and the additional savings would stimulate investment, promoting growth. Either way, the nation would come out ahead with no real sacrifice required of the wealthy family, because when all build larger houses, the result is merely to redefine what constitutes acceptable housing."

So is a progressive consumption tax the way to go? Maybe. Maybe not. The world of white papers is awash in interesting proposals, ranging from Value Added Taxes to transaction taxes to carbon taxes to simplification and fairness reforms like the plan proposed by Sen. Ron Wyden. What's puzzling, however, is the dearth of attention these initiatives receive from progressives.

Progressives have been so thoroughly bludgeoned on taxes that they've lost all appetite for engaging the issue. The Democrats running for president (with the exception of Mike Gravel who is, embarrassingly, a FairTax advocate) all have tax plans, but none do much beyond simplifying the filing system and offering the middle class some "tax relief." Both are potentially worthy goals, but they approach the discussion on firmly conservative terms: Taxes are too high, and they are too complicated.

A more confident progressive leader could try to generate some momentum on the issue on his or her own terms. They could, as Al Gore has suggested, implement a carbon tax, using the tax code to clean up the environment. They could, as Robert Frank has suggested, use the tax code to encourage savings and investment and take a stand against the conspicuous consumption arms race currently being carried out in the top slivers of the income distribution. They could do any of a number of things and force the Republicans to argue against those goals and values. As we see with the reception granted the FairTax, there's enough latent anger at the tax code that an ambitious plan for reform can attract large, enthusiastic constituencies. And the appeal is not just on the right: many FairTaxers certainly think what they're supporting is a progressive, populist reform. It just … isn't. But there are progressive reform plans out there, and there's no reason they need languish in such obscurity.