Friday, December 21, 2007

Chutzpah

Twice a year, the U.S. Treasury Department presents a report to Congress on the currency policies of countries around the world. Its report of December 2007 once again declined to designate China as a currency manipulator, but stated that the recent appreciation of its currency, the yuan, has been too modest and limited.

The report recommended that "China should significantly accelerate the [yuan’s] effective exchange rate in order to minimize the risks that are being created for China as well as the world economy, of which China is increasingly a critical part." The report stated that the U.S. will continue to use every opportunity to stress to Chinese leaders "the need for China to rebalance growth, including reform of the exchange-rate regime."

The Treasury report was issued the same day that China took a 9.9 percent stake in Morgan Stanley with a $5 billion cash injection. Morgan Stanley had to write off $9.4 billion in losses for its fiscal fourth quarter on its U.S. subprime and other mortgage investments. China came to the rescue of one of America’s premier financial houses even as it was chastised by the Treasury for mismanaging its currency.

The Treasury report amounts to the kettle calling the pot black. What was Secretary Henry Paulson and his deputies doing while the subprime mortgage crisis was building? Ditto for the Federal Reserve Board. So far, all the king’s horses and all the king’s men have been unable to put humpty-dumpty back together again. It has taken China and other cash-rich countries to help extinguish the U.S. financial fire. Rather than the Treasury criticizing China and offering advice on how to run its economy and currency, which have been remarkably well-managed for the past quarter century, perhaps the Treasury should pay attention to home-grown financial problems.

The day will come when China’s Ministry of Finance presents a report to the National People’s Congress stating that the ministry will use every opportunity to stress to American leaders "how to manage a financial system."

Monday, December 10, 2007

Is the National Retail Sales Tax a Good Idea?

Among the candidates for comprehensive reform of federal taxation is the Fair Tax, a proposal to replace the income tax with a national retail sales tax. Its proponents include Republican presidential candidate Mike Huckabee, prominent professors of economics, and Members of Congress. As co-author (with Robert E. Hall) of The Flat Tax, I’m often asked for my comments on the sales tax proposal.

In many ways, for me at least, a national retail sales tax is an attractive idea. Let me list eight reasons.

The first comes from the long-running television series Star Trek, in particular the Ferengi who excel in business. The Ferengi are governed by a code of business known as "The Ferengi Rules of Acquisition." Rule 141 states: "Only fools pay retail."

Second, I come from an extended family of uncles who advised me never to pay retail, as they can "get it for me wholesale."

Third, typical of most academics with a small sideline business of writing and lecturing, I would be eligible for an identity card that would exempt me from retail sales tax for any purchases used in my business, as sales to businesses are generally exempt to prevent cascading of taxes. All of us in similar situations would quickly learn that just about everything we buy is required for business.

Fourth, I own my own house, automobile, and other consumer durables, which I won’t need to replace anytime soon. Others, not me, will have to pay sales tax on these purchases, especially young families starting out in life.

Fifth, I’ll do all my shopping on the internet on a tax-free basis.

Sixth, I’ll be able to collect all my retirement earnings tax-free, having initially received a tax deduction when contributions were made to my plan and having enjoyed the benefits of tax-free compounding. With Medicare covering my medical requirements and my ability to eat and drink diminishing with age, I’ll build up a nice estate to pass on to my children and grandchildren, tax free.

Seventh, compared with the current federal income tax or the flat tax, a national retail sales tax will shift the tax burden away from me to others. That strikes me as eminently fair.

Eighth, a national retail sales tax rate will be very high, well above 20 percent. If the tax base excludes food, medicine, and educational expenses, it will be over 30 percent. Some estimates place it even higher. International and domestic evidence suggests that high sales tax rates encourage smuggling and evasion. A national sales tax would thus reduce the flow of money to Washington, forcing Congress to cut spending. We would all benefit from smaller government. It’s hard to argue with a proposal that has so many attractive features. If the national sales tax becomes law, I’m certain that tax planners can dream up other creative ways of avoiding or minimizing the tax.