Thursday 18 February 2010

GST, home and abroad

It seems that GST increases are all the international rage these days, with remarkably similar debates.

In Canada:
[P]ersuading Canadian progressives of [the] merits [of the GST] is a never-ending variation on the theme of "but these go to eleven:"

Progressive Person: How do we raise the tax revenues we need for the social programs we want to implement without tanking the economy?
Economist: Consumption taxes. Theory says that consumption taxes such as the GST are the least-disruptive way of generating tax revenue, and available evidence appears to be consistent with the theory.
PP: But consumption taxes are regressive!
E: Yes, but we can correct for that using targeted transfers to low-income households so that they aren't worse off; that's what the GST rebate is for. And there will still be lots left over to fund those social programs.
PP: But consumption taxes are regressive!
E: I know. But they introduce fewer distortions than the alternatives, and we can recompense low-income households for their lost buying power.
PP: But consumption taxes are regressive!
E: I'm not disputing that point, but there's more to the analysis than that. Okay, let me explain the effects of the various forms of taxes...
<15 years later>
E: ...and so we see that a consumption tax accompanied by direct transfers to low-income households is the most effective way of generating the tax revenues you want.
PP: But consumption taxes are regressive!
Of course, I prefer cutting the marginal tax rates to just sending out rebate checks.

The Americans are considering a VAT (Mankiw, Cowen). Mankiw suggests implementing it conditional on big cuts to spending, top marginal rates, and the abolition of the estate tax; Cowen takes a more fatalistic line, arguing it's the least bad doom which the US might face even without spending cuts or tax cuts, and even if some of the money winds up adding to total program spending. Says Cowen:
I am by no means convinced this argument is correct but I would like to hear the strongest arguments against it. No one I talked to succeeded in defeating it, other than mentioning they don't like the idea of more revenue for the government. You will notice I structured the argument to be as neutral on the "left vs. right" question as possible.

You'll notice the use of a pivot here: the common "right-wing" views that a fiscal crisis would be awful, voters are irrational, and governments make bad decisions in panic times, are used to favor a VAT.
I'm not convinced that the US would now get a VAT that would substantially lessen the risk of fiscal crisis down the road. Absent rather large structural spending changes (increasing the retirement age and so on), the VAT is more likely to postpone than prevent the crisis. Worse, there's reasonable chance that total spending increases with increased tax revenue, in which case the postponed crisis is more severe. I'm skeptical.

Update: Arnold Kling also thinks VAT insufficient to solve anything absent big cuts to elderly entitlements.


  1. My understanding of the evidence is that GST is not regressive - it is essentially proportional - when viewed over a longer time period. Of course, most of those arguing against it don't support proportional taxes either.

  2. TVHE has had extensive discussion that basically agrees with you.

    Rich people are more likely to spend income on holiday abroad, so that suggests mild regresssiveness. But, the rich are also more likely to buy newly constructed houses (and cars) as compared to used houses, which makes it more progressive.

  3. Interesting. I did a search on TVHE to find those particular points, but failed to come across them.

    I'm interested in particular with the idea that wealthy people are likely to construct homes, and poor people buy used homes, with GST on the former but not on the latter.

    GST provides an exemption for the purchase of second hand goods (more specifically, provides a credit for those who are GST registered). Land is also considered to be second hand for GST purposes.

    The logic of this is that the GST has already been paid on the good - this is also why you get a credit for any purchase and pay on any outgoing, in order to apply the tax proportionally across all steps of adding value.

    It seems to me that the logic of zero-rating these applies equally to the sale of housing, in which case GST is not progressive in that respect.

  4. TVHE has some nice points on lifecycle neutrality of GST as compared to a flat income tax and how it would compare to eliminating the taxation on interest income. I don't recall whether he noted the housing/foreign holiday bits...I think we talked about it a bit in the comments on one of his GST posts. He knows the existing law better than I do.

  5. Try TVHE here on lifecycle neutrality and here on rent, though I disagree on rent if GST is charged on new housing construction.

  6. Thank you very kindly for the pointer to Worthwhile Canadian Initiative.

    Also: Are there any indicators that would tell us whether Harper's GST cuts did more good than harm before everything went all fucko bazoo with the 2008 credit crisis? I have a gut feeling that GST cuts increase consumer spending ("things are cheaper") in the short term, and are thus better for short-term stimulus, even though GSTs are less distortive in the limit.

  7. Every now and again, it's worth checking what Google Reader recommends for you. That's how I found WCI - is very nice.

    Why would Canada have needed short term stimulus absent the bazoo? If I remember right, BoC was pushing interest rates pretty hard even through 2007 - early 2008 worried about inflation.

    I did really like your Full Metal Jacket ref on tax policy. I'll have to remember that one. Excellent.

    Afraid I don't know any empirics off the top on the short term effect of GST cuts in Canada. GST cuts coupled with no change in the path of spending have to lead to expectations of future tax increases though, and savings to cover those future liabilities. Or at least that's the Ricardian equivalence story if I recall correctly....

  8. Why would Canada have needed short term stimulus absent the bazoo?

    That's an excellent question; I don't know what I was thinking.

  9. Well, speaking as an American, I am appalled at the very idea of giving the politicians another way of raising revenue. Especially one that is as 'invisible' as a GST would be. We see the bite that most other taxes take of our money - like income tax, and sales tax, and payroll taxes, it's all broken out, all you have to do is look to see how much of your money is going to the state. But GST taxes would be like gasoline taxes, just folded into the price, and impossible to break out without some digging how much of it is taxes and how much of it is the cost of the underlying good. Which is why 'economists' are wrong about GST taxes being the most efficient tax. GST taxes disguise the true cost of government. Just like budget deficits. And off budget, unfunded liabilities (like future medicare and social security obligations). And unfunded mandates. All of them disguise the true cost of government.

    And of course there is another problem with giving the politicians another revenue source. It 's like giving an alcoholic credit in the local liquor store. It would just make them even more recklessly irresponsible than they are right now about throwing money around.

    I read stories in the Telegraph (UK) about the politicians all worried about cutting spending because of fear about what the bond market will do if they don't get their spending under control, and I sigh with sorrow over the poor citizens of the United States. The bond market, alas, isn't worried at all about giving our politicians more rope to hang us with...