Greenspan against tax reform proposal

Some want income tax replaced with consumption tax

Author: Barbara Hagenbaugh

Published: March 4, 2005

Federal Reserve Chairman Alan Greenspan advised against altering the tax code to be solely based on consumption, arguing a mix of income and consumption taxes is likely the best option to reform the system.

Such a dual-tax system "strikes me as opening up a much broader way" to enact tax reform, Greenspan told members of President Bush's Advisory Panel on Federal Tax Reform.

Some economists and lawmakers have promoted replacing income taxes with a consumption tax, such as a national retail sales tax or a value-added tax on goods, as a way to simplify the tax code and to promote consumer saving. If consumers have to pay a 20% consumption tax, they may choose to buy a Honda instead of a Hummer and put the rest of the money into a savings account, the theory goes.

But Greenspan said solely taxing consumption would raise "a challenging set of transition issues" and noted "any tax increase . . . inhibits economic activity," suggesting strictly taxing consumption could limit growth in consumer spending, which accounts for more than two-thirds of U.S. economic activity.

President Bush set up the nine-member tax panel earlier this year to propose changes to simplify the system. Recommendations are due to Treasury Secretary John Snow on July 31. Bush on Thursday said he would wait to see the panel's recommendations before making any judgments.

"I want to work to simplify the tax code and make it easier to understand, so people are spending less time filing paper, and I believe a simplified tax code will spur entrepreneurial activity," Bush told reporters while visiting the CIA.

Greenspan backed tax reform, arguing that the current code is "overly complicated." He did not offer specific proposals, and his testimony was cut short by a fire alarm.

"Greater simplicity would, in and of itself, engender a better use of resources," Greenspan said.

Some consumption tax opponents, such as William Gale, co-director of the Urban-Brookings Tax Policy Center, have argued such taxes unfairly burden low- and moderate-income people. But Greenspan said policymakers could exclude some items from taxation to make consumption taxes less onerous for lower-income consumers. Consumption taxes can be made more progressive by exempting such necessities as food and clothing.

Consumption taxes have some support in Congress, which is ultimately charged with setting U.S. tax policy. Rep. John Linder and Sen. Saxby Chambliss, both Republicans from Georgia, earlier this year reintroduced a proposal for a 23% retail sales tax accompanied by the abolishment of a wide range of taxes, including personal and corporate income taxes. A prior effort by the lawmakers did not succeed.