Thursday, June 11, 2009

Another flat tax bites the dust

June 20: update on flat taxes from Utah.

News from Latvia:

"Latvian Prime Minister Valdis Dombrovskis announced Tuesday that his government would ditch the country's flat-rate tax system in favour of a form of progressive tax."

We support progressive income taxes: that is, taxes based on the ability to pay. Flat taxes, as it happens, produces regressive tax systems (that is, the poor pay a higher share of their incomes) because, among other reasons, when combined with consumption taxes like VAT, where the poor tend to pay a far higher share of their incomes in this form of tax than the rich do since the spend a larger share of their incomes on the things that incur consumption taxes). Flat taxes are a nonsense.

People such as Daniel Mitchell of the Center for Freedom of Prosperity have touted Latvia as prime exhibits in their global crusade for anti-poor flat taxes. So how has Latvia been doing, with its flat tax system? As it happens, the FT has a story about this today by the world-famous economist Nouriel Roubini, entitled, "Latvia’s currency crisis is a rerun of Argentina’s". The basic message is that Latvia is screwed:

"At this point, a currency and financial crisis is pretty much unavoidable; the issue is how to minimise the domestic and international costs of the needed change in the policy regime. As the experience with Argentina suggests, procrastinating will make the unavoidable crash – and the regional contagion – even more dramatic and costly."

The same Dan Mitchell also made the same kind of claim for flat taxes in Iceland, with results that would be hilarious if the outcome wasn't so serious.

As an aside, flat tax theorists relied heavily on the now thoroughly discredited efficient markets hypothesis. As it also happens, a book review is also out today, looking at just that. Here's an excerpt:

"Financiers built ever more on foundations that should no longer have been trusted. Last year’s events in capital markets were a definitive refutation of the theory."

And the original Latvia story points out, more hopefully now:

"With both Estonia and Lithuania also struggling to cut budgets and increase revenues, attention will now turn to whether they will be forced to join Latvia and abandon flat-rate tax."

We say to flat taxes: roll 'em back, and good riddance.

If you want to understand what flat taxes are and what is wrong with them, read here.


Blogger Physiocrat said...

Of course flat taxes are a nonsense. They were based on the Laffer curve which purports to show that there is a rate of tax at which the total tax take is at a maximum.

But Laffer ignores the fact that it matters what is taxed. It may be valid where taxes are levied on people, because people are mobile and will move to low-tax jurisdictions if they can, as the present problem with tax havens has highlighted.

The obvious lesson to be learned is that taxes should be levied primarily on fixed property. Nobody can dodge the UBR, for example.

These countries could do worse than try to raise significant amounts of revenue from a UK style property tax like the UBR.

3:29 pm  
Anonymous Anonymous said...

Have you considered the ultimate flat tax?
Broaden the base and reduce the rate.
Tax every transaction without exception.

8:52 am  

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