Is the VAT a money machine?
A common criticism of the value-added tax is that it is simply a “money machine” that will enlarge the federal government by supplying a steady source of federal revenue. The empirical evidence has largely shown that this has not been the case.
Critics provide various reasons a value-added tax (VAT) would enlarge government. First, they say that any increase in government revenues will lead to more spending. If we want to control government spending, they say, we should cut revenues and “starve the beast.” Second, critics fear that because a VAT is a “hidden tax,” buried in the price of a good, policymakers can raise the tax with minimal economic disruption and without people noticing.
The accumulated track record of VATs, however, largely belies these concerns. For starters, VAT revenues and rates have not risen inexorably over time. In advanced countries, VATs were phased in during the 1960s and 1970s. But after that, as International Monetary Fund economist Michael Keen has shown, VAT revenues remained remarkably constant for a long time, hovering around 7 percent of gross domestic product (GDP) in the 1990s and 2000s. VAT revenue among high-income countries in 2009 was almost exactly the same share of GDP as in 1993 (Keen, 2013; Keen and Lockwood 2006).
Furthermore, although overall revenues have risen in European countries since the VAT was introduced, the VAT does not appear to be the cause. From 1965 to 2012, VAT revenue rose by 5.6 percent of GDP in 16 European countries. That’s an enormous increase in revenues but it was accompanied by a reduction of 5.2 percent of GDP in excise and other sales taxes. As a result, less than 10 percent of VAT revenue—0.4 percent of GDP—went for purposes other than reducing sales taxes.
Keen, Michael. 2013. “The Anatomy of the VAT.” National Tax Journal 66(2): 423.
Keen, Michael, and Ben Lockwood. 2006. “Is the VAT a Money Machine?” National Tax Journal 54(1): 157–73.
Sullivan, Martin A. 2012. “Was the VAT a Money Machine for Europe?” Tax Analysts. April 9.
Tax Analysts. 2011. The VAT Reader: What a Federal Consumption Tax Would Mean for America. Falls Church, VA: Tax Analysts.