Fixing a Rigged Game

“In fact, the best thing we could do on taxes for all Americans is to simplify the individual tax code. This will be a tough job, but members of both parties have expressed an interest in doing this, and I am prepared to join them.” — Barack Obama

The game is rigged against the regular guy in America today. And it's rigged in favor of big business, the politically connected, and the wealthy.

If Republicans and conservatives want to reform themselves, they need to begin with this fact. Admit it. Understand it. Declare it. Decry it. And start fixing it.

Here's the evidence the game is rigged:

Corporate profits soared to a record $1.73 trillion annualized rate in the first quarter of 2013, more than triple what they were in 2001, according to data from the Bureau of Economic Analysis.

Banks made a record $40.1 billion in profits in the first quarter, 16 percent higher than a year before, according to FDIC data. The big banks have grown much faster than the economy. Last year, Bloomberg News found that the five largest banks held assets equal to 56 percent of the economy, up from 43 percent in 2006, before the fiscal crisis the big banks caused -- and before the taxpayers bailed them out.

And how's the regular guy doing?

New business formation continues to fall to record lows. In 1980, nearly half of all firms were less than five years old. The latest data from the Kaufmann Foundation puts that number at about one-third.

And the working man isn't faring better. Unemployment, while improving, is still high. Maybe worse is the collapse of median household income -- down more than 7 percent since 2008, and it is not noticeably climbing.

Meanwhile, federal spending hit a record 26.9 percent of GDP in 2010. While it dropped a bit to 24.8 percent in 2012, that is still higher than any year between World War II and 2009 and 18 percent higher than the average year from the previous five decades.

So it's no surprise that seven of the 10 richest counties in the United States are in the Washington, D.C., area. Revolving-door lobbyists and government contractors are living the high life in McLean, Georgetown, and Great Falls.

Jeff Jacoby reports in the Boston Globe that Washington booms – thanks to other people’s money:

“In the months since President Obama signed the order to cut federal outlays by $85 billion, the Washington Post reported last week, the region has added 40,000 jobs. “Income-tax receipts have surged in Virginia, beating expectations. Few government contractors have laid off workers.” There is no sign of the economic hellfire and brimstone foretold by Fuller, who says it’s a “surprise” to him that Washington’s economy is still booming. “We’ve done better than I expected,” he confessed.

The real surprise is that anyone is still surprised by the affluence of the Washington area.

According to the most recent census data, seven of the nation’s 10 wealthiest counties surround Washington — including the only three counties in the United States with median incomes above $100,000: Loudoun, Fairfax, and Arlington, all in Northern Virginia. In 2010, there were six Washington-area counties in the Top 10; in 2007, there were five. The Great Recession may have left great swaths of America reeling, but it didn’t stop Washington from surging even higher in the income rankings.

If the worst recession in decades couldn’t tarnish Washington’s opulence, sequestration — a political budget maneuver designed to achieve merely a tiny reduction in the growth of federal spending over the next decade — isn’t likely to either.

Coverage of the D.C. area’s high-flying economy sometimes sounds like an episode of “Lifestyles of the Rich and Famous.” In a front-page article last weekend — “What Sequester? Washington Booms as a New Gilded Age Takes Root” — The Wall Street Journal described the extraordinary wealth of Washington’s “moneyed brain trust,” beneficiaries of a generation’s worth of soaring government budgets and immense political aggrandizement. Examples of extravagance are everywhere, from the flourishing Aston Martin dealership selling sports cars at $120,000 and up to the Georgetown hotel that charges $22 for a martini.

Washington hasn’t grown so rich because it is home to industries that produce wealth through commerce or manufacturing or invention. Unlike Silicon Valley or Manhattan or Houston or Hollywood, Washington’s primary activity isn’t the creation of goods and services that have intrinsic value in themselves, and that raise the national standard of living. Government doesn’t generate new income — it redistributes income that others have already generated. Through taxes, spending, and regulation, the federal establishment now dominates more of the private economy than ever, directly confiscating trillions of dollars earned in the private economy, and indirectly controlling the fate of tens of trillions more.

“Power is the great aphrodisiac,” Henry Kissinger famously claimed. It is also a great conduit to other people’s money. When a single tweak in the tax code can make or break a business, when fortunes are being doled out through federal bailouts and contracts, when regulations can decide the future of industries and interest groups, it stands to reason that so many will spend so much to get a piece of what government controls.

“Most federal activity involves taking money from some people, giving it to others, and keeping a big chunk as a transaction fee,” says the Cato Institute’s David Boaz. At its broadest, that “transaction fee” is reflected in everything from overpaid federal employees to Washington’s gargantuan lobbying industry to the clustering of America’s wealthiest counties in suburban Washington.”

Take account of total compensation - wages plus benefits - and the disparity is even more striking. In 2008, total federal civilian compensation averaged $119,982 - more than twice the $59,908 in wages and benefits earned by the average private-sector employee. Chris Edwards, a scholar at the Cato Institute, has documented the steady widening of the gap: In 1960, federal workers averaged $1.24 for every $1 earned by a private employee. By 1980, the federal advantage was up to $1.51; in 2000 it was $1.66. Now it is $2 - and climbing. When ranked alongside 72 industries that span the US economy, federal employees take home the seventh-highest average compensation. Among the workers they out earn, Edwards shows, are those in such fields as computer systems design, chemical products, and legal services.

A full-page ad in The Wall Street Journal several years ago was the clearest evidence yet of the approaching showdown. “We are the Private Sector. And we’ve had enough,’’ the ad proclaimed. It announced the launch of The Free Enterprise Nation, which describes itself as the first national organization intended to represent the interests of the majority of Americans who work in the private economy. Its message was blunt: “The private sector provides pay and benefits for public-sector workers that we cannot afford to provide for ourselves .We need to change public policy

The game is rigged, and conservatives can point out that the chief game rigger is government. The tax code is convoluted, regulations are terrifying, big businesses that fail get bailed out while small entrepreneurs get crushed by bureaucracy.

If you're already doing well, or if you're well connected and can hire a former congressman, senator, or Cabinet secretary — you're OK. Otherwise, you're not.

Conservatives and Republicans would do well to admit this, and declare it a serious problem. Attacking Obama for "hating success" or being "anti-business" is not only factually flimsy, it is a political loser. Such attacks don't appeal to the folks who have been suffering in our current economy.

Driven by the insight that the game is rigged in favor of the wealthy and well-connected, Republicans can push a free-market populist response. Free-market populism is, for one thing, a moral stance, manifested through rhetoric and action.

Republicans have become more comfortable lately denouncing "crony capitalism" and even "corporate welfare." After blaming politicians who use public power to enrich private interests, Republicans also ought to shame some of the "capitalists" and their lobbyists who demand handouts and protective regulations.

Republicans ought to abolish corporate welfare, including subsidies for exports and green-energy projects. Break up the big banks. Get rid of corporate tax credits.

Politically, these policies checkmate Democrats because corporatism is at the heart of President Obama's economic agenda. Subsidies for Boeing, Chrysler and General Electric are the building blocks of Obama's "New Economic Patriotism." ObamaCare was built in collusion with drug makers and the hospital lobby.

If Republicans destroy the stale myth of Washington versus Wall Street — and make it clear it's really K Street, Wall Street and Pennsylvania Avenue versus Main Street — Democrats lose much of their rhetorical advantage.

Ending federally granted privilege is politically helpful because clear moral stances are winners. But voters often want something tangible and immediate from politicians. In the short term, dismantling corporatism helps mostly the minority of voters that are or want to be entrepreneurs.

Many conservative reformers advocate a package of policies to aid middle-class families. This is dangerous territory because the Left can always out-Santa Claus the Right. Any conservative "gifts" to the middle class should be consistent with the message that Big Government isn't their friend.

So, here's one: abolish the payroll tax — totally and permanently. It's a tax on employment. It's a tax on someone's first dollar. And it's specious to say that it funds Social Security and Medicare — both entitlements are funded on the margin by general revenues. So give up the charade and abolish a regressive federal tax.

As a pointed out in a previous blog: How Did We Get in this IRS Mess? A flat tax would be a good way to accomplish this.

“For example, let the flat rate be 20%, and let the deductions be $20,000 per adult and $7,000 per dependent. Under such a system, a family of four making $54,000 a year would owe no tax. A family of four making $74,000 a year would owe tax amounting to 0.20 × (74,000 − 54,000) = $4,000, as under a flat tax with deductions. But families of four earning less than $54,000 per year would owe a "negative" amount of tax (that is, it would receive money from the government). For example, if it earned $34,000 a year, it would receive a check for $4,000. The NIT is intended to replace not just the USA's income tax, but also many benefits low income American households receive, such as food stamps and Medicaid. The NIT is designed to avoid the welfare trap — effective high marginal tax rates arising from the rules reducing benefits as market income rises. An objection to the NIT is that it is welfare without a work requirement. Those who would owe negative tax would be receiving a form of welfare without having to make an effort to obtain employment. Another objection is that the NIT subsidizes industries employing low cost labor, but this objection can also be made against current systems of benefits for the working poor.”

Consider this. A family of four making $60,000 will pay $4,490 (7.5%) in payroll taxes ($3,720 for Social Security and $870 for Medicare). The employer will pay a similar 7.5% amount. (The maximum earnings for Social Security is $113,700 and there is no limit for Medicare)

Now let’s look at the same family of four with a flat tax rate of 20%. That family of four making $60,000 would pay 0.20 x ($60,000 -$54,000) = $1,200. But the same family will have saved $4,490 in payroll taxes. If the family’s income were $100,000 the tax amount would be $9,200 and the payroll tax savings would be $7,650 for a total tax of $1,550. For $200,000 it would be $29,200 -$9,949 for payroll taxes for a total tax of $19,251.

Keep in mind that these commutations also apply to small businesses that create two-thirds of the jobs in the United States.

(These figures have been calculated using the Payroll Tax Calculator for 2013 from the Tax Policy Center.)

You will no doubt ask: Isn’t this going to reduce the amount of money the federal government will collect? The answer is yes, but isn’t that the point. Reduce the money, reduce the power.

In a 2012 article in Forbes Magazine by Addison Wiggin: “Flat Tax Is Fantasy In U.S. But Works Fine Behind Old Iron Curtain” Wiggin writes:

“The first comprehensive proposal for a U.S. flat tax came in the 1985 book The Flat Tax, by economists Robert Ernest Hall and Alvin Rabushka.

“Today, the flat tax idea is perhaps even more politically remote, in the United States, than it was in 1985,” Mr. Lewis says. “However, the rest of the world caught on to the idea. Today there are at least 40 governments with flat tax-type systems, most of which made the switch in just the last decade.”

A sizeable number of these countries used to lie behind the Iron Curtain. Messrs. Hall and Rabushka served as consultants to many of those governments as they implemented a flat tax.

The flat tax a panacea? Hardly. Central bankers can still muck up the works; thus, many of these countries were swept up in the Panic of 2008.

But “we could take 2007 as a representative pre-crisis year,” Mr. Lewis suggests. “How did the flat tax countries do then?

“For 13 countries for which information was available from the IMF, the average GDP growth rate was 10.0%, ranging from 6.2% (Slovakia) to 23.1% (Ukraine).”

Lewis further studied 10 countries from which International Monetary Fund data are available, examining the flat tax’s impact on overall revenues. Revenues rose an average of 17.7%… and that’s after throwing out Estonia’s outlier increase of 81%. Only the Czech Republic saw revenue fall — by a minuscule 0.5%, as crisis encircled the globe in 2008.

How about revenue as a percentage of GDP, a favorite measure of policy wonks? That looks good too. On average, the ratio was virtually unchanged in those 10 countries, down 0.1%.

“Most of the seemingly impossible promises of the flat-taxers–higher growth, stable revenue/GDP ratio, rising government revenue–are, in fact, common and repeatable,” Mr. Lewis concludes.

Meanwhile, back in Washington, the politicians argue about how to prevent automatic tax increases and spending cuts totaling $607 billion, which would barely cut the deficit in half.”

Theo Caldwell writes in the Daily Caller: Fair Tax or Flat Tax:

“But for all the hullabaloo around the IRS of late, with some claiming complaints against the agency are overwrought, and others going so far as to question the motives, intelligence, and parentage of those of us who have called for its abolition, there has not emerged any kind of reasoned argument in favor of keeping the tax authority just the way it is.

What has come to the fore, however, is a healthy competition between two credible, if not complementary, alternatives to America’s current tax system. That is, should we move to a Fair Tax or a Flat Tax?

Simply put, would a consumption tax on goods and services (Fair Tax), or a single, small rate of tax on income (Flat Tax) be a better way to fund our government? The short answer is that either would be preferable to the Byzantine, corrupt tax system America has now

Folks are fond of saying you can’t replace something with nothing. This is, of course, complete rhubarb, and if the U.S. government could learn to replace something with nothing, it would go a long way toward solving its monumental debt and deficit problems. But in this case, we do need to pay for our public sector somehow, and since it would defeat the purpose to replace something with two things, it behooves us to consider which of these worthy ideas would work best.

First, the Fair Tax: There is legislative support for this approach, as the Fair Tax Act of 2013 works its way through Congress, sponsored by Rep. Rob Woodall of Georgia as H.R.25 in the House, and by Sen. Saxby Chambliss, also of Georgia, as S.122 in the Senate.

The gist of the plan is to phase out the IRS over three years, replacing income taxes with a sales tax on new goods and services, excluding necessities, of 23 percent. This figure is reached by combining the 15% income tax bracket with 7.65% employee payroll taxes, both of which would be eliminated. As to that last, fairtax.org stresses that its plan eliminates the payroll tax, and this is not an insignificant feature.

Many workers, particularly those with lower earnings, feel the bite of payroll taxes when they collect their paychecks, even if they do not end up with a federal income tax liability for the year. If we mean what we say about simplifying the tax code, then whatever system and rates we settle on ought to be straightforward and clear, and should account for whatever effect, if any, payroll and Social Security taxes will have on take-home wages.

A Flat Tax of, say, 10 percent should mean exactly that — not 10 percent, plus additional levies for retirees, unemployment, etc., that are not normally part of the income tax conversation.

If that can be accomplished, there is much to be said for the simplicity and transparency of a Flat Tax. Sen. Ted Cruz of Texas and The Heritage Foundation are among those calling for this approach. Americans spend billions of hours and hundreds of billions of dollars trying to comply with the country’s impossibly complex tax code. The opportunity cost to the productive economy is extraordinary.

Something that is often lost in income tax discussions is that these rates also apply to small businesses, which create two-thirds of the new jobs in America, and almost all of which file at individual rates. If a Flat Tax can eliminate the expensive and time-consuming task of tax preparation, not only for individuals but for job-creators as well, that would be a boon to America’s beleaguered employment market.

…

The primary question of whether to abolish the IRS having been answered in the affirmative by both sides, disagreement between Fair Tax and Flat Tax proponents is akin to the quarrels of the Yooks and the Zooks in Dr. Seuss’ Butter Battle Book (to whatever extent Seuss intended the tome as a moral relativist metaphor for the Cold War, it was misbegotten — but it actually works here). In that tale, both sides enjoy toast, but are at loggerheads as to whether it should be buttered on the top or the bottom. The applicable lesson here is, having agreed on the big issue, residual differences can be worked out over breakfast.

And so they should be, with the American people as arbiter (though if everyone’s coming to the breakfast, making a reservation seems sage). Politics being the art of the possible, if there is an appetite in the land for a Fair Tax, and political leadership able to make it happen, Flat Tax folks should sign on, perhaps keeping personal lists of I-told-you-so’s, in case the system falters. Likewise, if the Flat Tax finds a market and effective champions, Fair Taxers should offer support.

Whichever option prevails, let us seize this opportunity to reform America’s tax system and change the country for the better.”

This reflects the heart of conservative reform: Level the playing field by getting government out of the game. If we can’t learn from the recent scandals and abuses of federal power and overreach such as the IRS targeting the Tea Party, the DOJ taping in to reporter’s e-mail and phone records, gun-running to Mexico, and the NSA’s data mining we will be doomed as a free society. The only true remedy is to close the taxpayer’s checkbook.