The US, Japan, and other countries have converging economic policies which are not optimally stimulating growth within their national economies. The following economic model is my attempt to eliminate inefficiencies and improve incentives. This model is presented as a discussion point, and is not presented as a recommendation.

Eliminate all taxes, and print the money that the government needs to handle it's budget. Tax would be implied by the inflation of the currency. The US government's annual budget of $1.864 Trillion in 2001 represents a small portion of the total US capital in circulation. I don't know the total number--I'm not sure if anyone does--however, GDP in the US is $9.8 Trillion. With a total US currency capital base of only twice GDP, the marginal increase in money supply would be about 10%. M3 (The broadest indicator of money supply, including bank deposits and money-market mutual funds) rose by almost 14%, year-on-year, to the end of October, 2001, meaning that the US gov't annual budget would add another 42% to the increase in M3. Meanwhile inflation is about 3%. If we increase the inflation rate by the same factor, we get 4.25% inflation. And no taxes.

The stimulation of the economy would be furious for a few reasons: 1) Elimination of taxes increases disposable income by 50% (assuming 33% average tax, which is probably low), 2) an increase in inflationary expectations creates an increase in spending, and 3) enormous increases in efficiency.

In terms of efficiency, the entire IRS and tax calculation and collection processes would be unnecessary. In addition, the legal complication surrounding estate taxes, loopholes, alternative minimum taxes (AMT), purchase basis tracking, tax avoidance, foreign tax safe-havens, audits, etc. would become unnecessary.

Sales taxes, including targeted taxes to discourage some goods or behaviors could (and should) still be used.

Currently, there is no tax on wealth. Instead, taxes are paid for income, sales, and other movements of capital. The current mechanism creates an inefficiency in a huge range of transactions. Inflation, on the other hand, is an effective tax on wealth, and in doing so, eliminates the inefficiency on transactions while discouraging hoarding and encouraging investment and spending.

The base of wealth is so much higher than the base of incomes that taxing wealth can bring in the same revenues with a much lower tax rate. Closing all the loopholes and eliminating inefficiencies should also boost tax revenues substantially.

Labels: Freakonomics, Public Policy