Wednesday, February 22, 2012

Tax Reform is (Almost) Impossible

Ezra Klein today has a terrific overview of why corporate -- and individual -- tax reform is so difficult. Part of this is a classic collective action problem. The advantage in a clean tax code is generally something that's equally shared by everyone, while the costs of removing each preference or loophole will be absorbed by specific corporations (or individuals), all of whom would be best off if tax reform was passed but their particular provision was retained. So if everyone gets their first preference, you get a reform that retains every preference, which turns out to be...no reform at all.

Indeed, it's even worse. Remember, every single provision of the tax code is exploited by some company (or group of individuals) who would be aware of its loss. The gains, on the other hand, are a lot harder to see, even if they are real. So it's quite possible that individual corporations might mistakenly believe that reform will be flat-out bad for them (as opposed to the collective action problem in which they understand that it would be good, but would just prefer to opt out of the costs). And that's before getting to the problem that some individuals and departments within corporations might have mixed incentives here because tax reform might cost them their jobs.

And then there's yet another problem: tax reform is basically never a high priority for either party. It's no coincidence that the last major successful tax reform took place in 1985-1986, during a rare period in which not only was there divided government, but no one expect that to change in the near future. It's only in those situations when ambitious politicians looking for something to accomplish turn from their party's agenda, which is impossible to pass given divided government, and take what they can get. If there's unified government, the governing party naturally attends to its highest priority items that can pass -- no tax reform there. In divided government periods such as the current one in which one or both parties anticipates unified control after the next election, then the kind of bipartisan cooperation necessary is usually impossible. How often do you get those opportunities? Maybe 1955-1956 when Ike was president; perhaps chunks of the Nixon years; 1985-1986 for Reagan; 1989 and 1990 for George H.W. Bush; and 1997-1998 for Clinton. I'd have to double-check, but I think that's it...over the last century. However, it is worth noting that a status quo election or close to it this year might set up another such situation in 2013-2014.

Hey, maybe I should have put that up top in this post: if you really want tax reform above all else, vote the all-incumbent ticket in November.

But of course I'm very, very certain that there isn't a single person reading this who has revenue-neutral comprehensive tax reform as his or her top policy priority.

18 comments:

  1. there isn't a single person reading this who has revenue-neutral comprehensive tax reform as his or her top policy priority

    Andrew Sullivan

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    1. Cute (and of course I hope he's reading!). But, no -- I'm sure that torture/detention issues are much higher priority to him, and I can think of several other that are probably higher priority. Even in related policy areas, I'm pretty sure that deficit reduction is a far higher priority for him than tax reform.

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  2. Retrospectively, how much credit should Bill Bradley and Dan Rostenkowski get for accomplishing such a difficult feat? And is it worthwhile, given the relatively short life of the tax reform?

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    1. I don't really remember which pols deserve the credit and which don't; maybe someone will chime in. On the second question, it's a tough call. My guess is that cleaning out the tax code once a generation or so is worth it even if it rapidly deteriorates again, but whether it's worth the legislative cost of doing so is a harder call. But that's just a guess.

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    2. This comment has been removed by the author.

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  3. Was the late '80s tax reform "comprehensive" and "revenue neutral"? Maybe it's more difficult now precisely because neither party is openly and consistently trying to argue for a simplifying reform that also clearly favors their supporters' material or political interests, which is how you build political support for something after all.

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  4. Another reason this won't happen is that like entitlement reform/the long term debt problem it's largely something that beltway op ed columnists and politicians like Obama who pander to those columnists care about. Rank and file Democrats look at record corporate profits, DOW 13000, 8% unemployment, and growing income inequality and wonder why this is even being considered a significant problem worthy of Presidential attention. The country needs jobs not more supply side voodoo economics.

    (On a side note, your blog now has one of the worst/least readable Capcha things I've ever seen. I suggest you do some research about how useless those are and remove it.)

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    1. I concur about the Capcha thing, but I'm not sure how much control JB has over that...isn't that just forced on us by teh googul?

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    2. I tried turning it off...not sure if it will take, but I'm trying.

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    3. For what it's worth, I haven't been asked to do Capcha today.

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  5. Not only are the beneficiaries of loopholes motivated to keep their own specific loopholes, but the concentrated nature of the benefit--focusing on one or a few beneficiaries--makes it easier to mobilize those interests to defend their specific benefit. (No one else is going to do it.) Moreover, they probably have privileged access. The diffuse nature of the benefit of reform--where, as you say, the benefit is equally shared by everybody--as well as its prospective nature make it harder to mobilize the would-be beneficiaries of reform.

    On the other hand, the success of reform undermines any prospect for industrial policy (or at least one type of industrial policy). Obama, for instance, is now promoting new tax preferences for manufacturing, and the existence of a strong manufacturing may be a generalized benefit in addition to the specific benefit to the manufacturers. I keep reading lately that manufacturing doesn't matter, that it doesn't matter to the economy whether you make your money building trucks or driving them; but a national economy can't survive forever importing the things that it uses and paying for it with debt and you can't really export haircuts. So the specific benefits of loopholes could feasibly have generalized benefits as well.

    Please tell me if any of that made sense.

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    1. And why on earth should it be revenue-neutral?

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    2. Good points. Also, while it's implicit in Klein's piece, JB's, and your comment, we also have to remember that the diffuse benefits are also rather small (as part of the nature of diffusing them: we're dividing the pie into more pieces). Thus, any individual corporation/person stands to gain, really, not that much money from this. And, if it's revenue-neutral (another good point, as I find that just plain stupid...these things didn't have to be revenue-neutral when they got PUT in there!), then, on average, the diffuse benefit is zero (though the median is small but positive). I'm not manning the battlements to save $200 on my taxes...are you?

      I would guess that there are some generalized benefits that would, in the sense of your last point, "make the pie higher." (Couldn't avoid making that reference) If there's ANYTHING AT ALL to conservative economic philosophy, then there should be positive externalities to lower rates with fewer loopholes. OTOH, I could see an argument a la Smith/competitive advantages that we really should have a tax code with winners and losers so that we create more opportunities for global competitive advantages. (If nothing else, it's frickin' AWESOME for the transportation/logistics industries!) I guess I'd have to trust an economist on which of these effects is bigger, but I'd guess the generalized one is.

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    3. Good points. I think in order for reform to work, the issue actually has to be boldly politicized, drawing interest from the general public. Otherwise particular interests can effectively block anything.

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    4. Is it possible that we've been seeing the rise of the little guy, who suspects that he's the loser in this tax code game? With the Tea Party and OWS generally getting a fair amount of support, maybe there will be enough pressure on lawmakers resist the small, influential interests and do some tax reform. I don't see that happening this year as parties jockey for the election, but maybe next year. Have the little guys ever been successful?

      @PF, Cain got a lot of interest with his 9-9-9 plan, even though it was a shell of a plan. I think the country is fertile ground for a better plan.

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    5. @ModeratePoli: I was specifically discussing corporate tax policy. I think Obama's wrong to come at this in such a detached, "nonpartisan" fashion. He'll only ever end up getting out-negotiated and out-lobbied by the GOP and by various particular business interests and never get a public-spirited reform, because there'll be no spotlight on the issue for the average citizen.

      It seems to me that it's different with personal tax reform, because that issue will always be of immediate general interest to the population.

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  6. ...even though it was a shell of a plan. I think the country is fertile ground for a better plan.

    The odds are better that you'd get fundamentally a crank plan, like a modern Georgism, than one that would do any good, since anything simple enough to sell would be too simple to do any good.

    The little guy may be right when he concludes he's being boned, but I'm not sanguine about his ability to discriminate between various proposals to ameliorate his position.

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  7. Jonathan I'm pretty sure you're familiar with Machiavelli on change. What you're talking about in the piece is a classic example.

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