Tax Briefing Book Edited by Joe Barnett, National Center for Policy Analysis Table of Contents I. Burden of Taxation .......................................................................................................................... 1 Tax Burden Rising ....................................................................................................................... 1 The Growth of the Tax Burden .................................................................................................. 4 Future Tax Burden ...................................................................................................................... 7 The Moral Dimension.................................................................................................................. 7 II. Taxes and Growth .......................................................................................................................... 10 Why Taxes Matter ..................................................................................................................... 10 Estimating the Tax Rate That Maximizes Growth ................................................................. 12 How Americans Could Have Been Twice as Wealthy............................................................. 13 Why Have Voters Allowed Such Private Wealth Destruction? ............................................. 15 Effect of the 1993 Tax Increase on Income .............................................................................. 17 Effect of Taxes on Savings......................................................................................................... 18 Tax Rates Affect Evasion and Avoidance................................................................................. 20 Tax Policy Key to Growth ......................................................................................................... 21 Current Growth Compared to Reagan Era ............................................................................ 23 The Growth Principle................................................................................................................ 24 Spending, Not Tax Cut, Caused Reagan Deficits.................................................................... 25 State Taxes and Growth ............................................................................................................ 26 III. Taxes, Spending and Deficits ........................................................................................................ 28 Other Countries’ Efforts to Reduce Deficits ........................................................................... 28 Deficits Don’t Cure Recessions ................................................................................................. 29 Dynamic Scoring: Accounting for Growth Effects of Tax Changes...................................... 30 IV. Tax Fairness ................................................................................................................................... 36 Who Pays Income Taxes?..........................................................................................................36 Tax Cuts and the Rich ............................................................................................................... 37 Tax Burden and Income Inequality ......................................................................................... 41 V. Taxes on Work................................................................................................................................ 43 Taxes, Welfare and Work .......................................................................................................... 43 Wage Stagnation and Nonwage Compensation ...................................................................... 46 VI. Taxes on Capital............................................................................................................................. 50 Penalties on Savings and Investment ....................................................................................... 50 Supply of Capital ....................................................................................................................... 51 How Taxes Affect the Supply of Capital .................................................................................. 54 Double Taxation of Profits ........................................................................................................ 56 Estate Taxes ................................................................................................................................ 57 Case for Cutting Capital Gains Taxes ..................................................................................... 60 Benefits to the Poor.................................................................................................................... 63 Indexing Capital Gains ............................................................................................................. 66 Depreciation and Investment.................................................................................................... 68 VII. Are Seniors Taxed Unfairly? ........................................................................................................ 72 The Earnings Limit Penalizes Work ........................................................................................ 72 Benefits Tax on Retirement Income ......................................................................................... 76 Reducing Taxes on the Elderly Could Reduce the Deficit ..................................................... 81 VIII. Clinton Budget ............................................................................................................................... 84 Clinton’s 1998 Budget Proposal ............................................................................................... 84 Increased Taxes in the 1997 Budget Proposal ......................................................................... 85 IX. Across-the-Board Tax Cuts ........................................................................................................... 87 The Dole Plan ............................................................................................................................. 87 Dealing with the Deficit ............................................................................................................. 92 Evidence from Economic Modeling ......................................................................................... 94 Effects on the Economy ............................................................................................................. 95 Tax Cuts Before Reform? .........................................................................................................99 X. Tax Reform................................................................................................................................... 101 The Armey Flat Tax ................................................................................................................. 101 Principles of the Flat Tax ........................................................................................................ 104 Benefits of the Flat Tax............................................................................................................ 108 Economic Effects of the Flat Tax ............................................................................................ 110 Why the Flat Tax Is Efficient.................................................................................................. 112 The Flat Tax and Growth........................................................................................................ 113 A Flat Tax That Works ............................................................................................................ 118 The National Sales Tax ............................................................................................................ 119 The Value-Added Tax .............................................................................................................. 124 XI. Other Tax Issues .......................................................................................................................... 129 The Marriage Penalty ............................................................................................................. 129 Do Higher Cigarette Taxes Make Sense? .............................................................................. 132 Tax Briefing Book 1 I. Burden of Taxation Tax Burden Rising Data from the Department of Commerce reveal that federal, state and local taxes combined consumed a record 31.3 percent of gross domestic product in 1995 — the highest level in U.S. history. And in the second quar- ter of 1996, federal taxes reached their highest level ever: 20.8 percent of GDP. Even at the height of World War II in 1945, total taxes consumed only 25 percent of GDP. (See Figure I-1.) Total taxes rose by 1.3 percent of GDP in the first three years of the Clinton administration. The federal tax burden grew by 1.8 percentage points in President Clinton’s first three and a half years in office. (See Figure I-2.) Highest Tax Burden in History. Although some of the increase in “The rising tax burden is due the total tax burden has occurred at the state and local levels, total state and to federal — not state