Lawmakers in the U.S. should scrap income tax in favor of a tax on household spending in order to get the ailing economy back on track, and could also supplement revenue by taxing “harmful activities,” such as driving in congested city centers, Robert H. Frank, professor of economics at Cornell University told CNBC on Tuesday.
As Democrats and Republicans on the so-called super committee attempt to strike a deal to shrink the U.S. budget deficit by Nov. 23, Republicans are refusing to approve any tax increases to balance the budget.
Meanwhile, Republican presidential candidate Herman Cain’s "9-9-9" tax plan — which advocates 9 percent income, corporate and national sales tax rates — has come under attack from Democrats and Republicans alike.
“We’re in a pretty deep political gridlock in the U.S. Anything that the president wants to do, the Republicans in Congress will be reluctant to approve,” Frank said. “No one who has looked at the budget numbers thinks that we can balance the budget going forward without new revenue.”
He added: "The good news though, is that there are a lot of things we could do. There are many things we could tax that should be taxed anyway.”
Frank advocates a steeply progressive tax on annual consumption spending by households, applied on income minus savings for the year. He suggests that lawmakers announce that the measure will be phased in once unemployment falls below 7 percent again.
“Then you’ve committed yourself to a revenue stream that can pay down debt in the future,” Frank said.
In addition, people will know it is in the cards, encouraging them to spend now rather than later in order to avoid the charge, and thereby stimulating spending.
A tax on activities that cause undue harm to others could further boost revenue for the government, Frank said.
“By taxing harmful activities there is a lot of revenue we could raise,” he said, citing the example of a congestion charge levied on drivers who choose to drive in Central London and are charged for exacerbating pollution and congestion in the city.
Republican Cain’s tax proposal would “sink like a stone,” Frank said. “We hear these proposals every four years from Republican presidential candidates …We never hear from them for the next four years.”
According to Frank, such flat tax proposals would never be adopted for two reasons. Contrary to what their proponents say, they do not make tax computation easier, Frank said, arguing that taxpayers would still have to calculate what their taxable income is. But the main objection, he said, was that such proposals were a “distributional nightmare.”
“The nonpartisan tax policy center in the U.S. calculated that the top one tenth of one percent of earners in the U.S. — the group that’s experienced by far the biggest gains in earnings over the last three decades — would experience a $1.4 million reduction under the Cain plan," Frank said. "A family earning $50,000 a year, in contrast, would have a $4,000 tax increase under the Cain plan."
He added: “It’s just not a tax plan that anybody is going to be able to get through Congress.” In Europe too, he advocated spending more, rather than less.
“We’re in a demand recession . Consumers won’t spend. They’ve got debt to pay down and are afraid to lose their jobs,” Frank said.
“We need to have government increase its spending in the short run if we want to deal with deficits in the long run,” he argued, further recommended doing away with the “austerity nonsense” many countries currently face.
“If we could get the economy back on its feet… you would stimulate investment sooner, you would stimulate a permanent increase in tax revenue,” he said. “If consumers and investors aren’t spending that’s the only other actor on the scene left.”