Macias’ thesis is that “Plan Colombia succeeded because, at the same time that it stepped up its antidrug efforts, Colombia aggressively reformed its tax system and greatly improved government accountability. Unless Mexico can do the same, antidrug efforts there will fail.”  On the supply side, defeating drug production requires reliable intelligence, a military under civilian command, and the public’s confidence.  All three require a government which can pay its staff well, protect informants, and purchase better arms than its opponents.  And those operations require money, and governments raise money through taxes.

This is how governments evolve: just as someone won’t buy fault products, citizens won’t pay taxes if a government is corrupt, does not protect its citizens, or maintain infrastructure.  So in exchange for more growth (more tax revenue), a government must increase its competence.  There’s no magic threshold number, but a country like Mexico, which only collects revenue equivalent to 11% of GDP, clearly requires a larger government.  Until Mexico can collect more revenue, it will be difficult to impossible to conquer its drug lords.

IT’S difficult to classify Bruce Bartlett politically. He has worked on the staffs of Congressmen Ron Paul and Jack Kemp and Senator Roger Jepsen. He was senior policy analyst in the Reagan White House; and deputy assistant secretary for economic policy at the Treasury Department during the first Bush administration. But he has also written a book titled, “Impostor: How George W. Bush Bankrupted America and Betrayed the Reagan Legacy“. So you could say that Mr Bartlett’s loyalties are economic, not partisan. Currently Mr Bartlett is a columnist for the Fiscal Times, an online newspaper covering the economy, and he blogs at Capital Gains and Games. He has also written several books, the latest of which is “The New American Economy: The Failure of Reaganomics and a New Way Forward“. We recently asked him some questions about the economy, the deficit, and the chance that America will one day have a VAT.

DiA: Which should be a higher priority for the federal government at the moment, deficit reduction or economic stimulus?

Mr Bartlett: Clearly, economic stimulus. The question is, what can the government do that would, in fact, be stimulative. One argument, popular in Europe, is that fiscal consolidation is stimulative by reducing uncertainty, the fear of future tax increases and inflationary expectations. While I concede that fiscal consolidation can be stimulative under certain circumstances, those circumstances don’t exist in the US today. Basically, we would need a situation in which inflation and/or tight money is the basic problem. Under those conditions, fiscal tightening can lower inflationary expectations, reduce crowding out and give the central bank room to ease monetary policy, thus leading to economic expansion.

However, none of those conditions exist today. The Fed is as easy as it can be given the zero bound for interest rates, deflation rather than inflation is the central economic problem, and there is no evidence that federal borrowing is crowding private borrowers out of the market. There is no need to borrow to finance productive capacity at this time and, in fact, businesses have more than adequate cash on hand to pay for expansion if there were expectations of higher sales to justify it.

Under these circumstances, I think we need some policy that will encourage spending, private borrowing and investment. Since further fiscal stimulus is effectively off the table for political reasons, some other mechanism will have to bring that about. The Federal Reserve is the only institution that can do it; the question is how. There may be scope for quantitative easing, but simply driving longer-term interest rates down further may not be effective given expectations of slow growth and downward pressure on prices. If the Fed could create inflationary expectations, that would help, but it may not have the capacity or credibility to follow through.

My fear is that the US may be in for an extended period of Japan-style stagnation.

DiA: In the longer term, what types of economic and political problems will we be looking at if we allow the deficit to continue growing?

Mr Bartlett: In the near term, the biggest problem the deficit presents is that there is no further scope for fiscal stimulus. We now know that the Obama administration’s economists wanted a stimulus package last year almost twice the size of the one that was enacted—something closer to $1.4 trillion rather than $800 billion. Maybe that would have been enough; we’ll never know. Unfortunately, there was only one bite at the apple and doing more at this point is practically impossible.

But what happens if we have a double-dip next year? Is it realistic to think that any stimulus at all is possible on the fiscal side? Given the likelihood of Republican gains in the November elections and the strong Republican incentive to make the economy as bad as possible going into 2012, I don’t think it would even be possible to pass a stimulus package that was 100% composed of tax cuts—the only stimulus Republicans might support.

I would add that I do disagree with the Republican fixation on taxation. Federal taxes as a share of GDP are at their lowest level in two or more generations—14.9% versus a postwar average of 18.2%. There is not one iota of evidence that the economy is suffering from excessive taxation and no evidence that the sorts of tax cuts favoured by Republicans—mainly tax cuts for the wealthy—would do any good given the nature of the economy’s problems. Tax cuts don’t help those with no incomes because they are unemployed, businesses running at a loss, or investors with a large stock of capital losses. In my view, the Republican obsession with taxes is based on pure dogma, not analysis.

DiA: More generally, which party do you find more credible when discussing America’s fiscal challenges?

Mr Bartlett: The Republicans don’t have any credibility whatsoever. They squandered whatever they had when they enacted a massive UNFUNDED expansion of Medicare in 2003. Yet they had the nerve to complain about Obama’s health plan, WHICH WAS FULLY PAID FOR according to the Congressional Budget Office. The word “chutzpah” is insufficient to describe how utterly indefensible the Republican position is, intellectually.

Furthermore, Republicans have a completely indefensible position on taxes. In their view, deficits cannot arise from tax cuts. No matter how much taxes are cut, no matter how low revenues go as a share of GDP, tax cuts are never a cause of deficits; they result ONLY AND EXCLUSIVELY from spending—and never from spending put in place by Republicans, such as Medicare Part D, TARP, two unfunded wars, bridges to nowhere, etc—but ONLY from Democratic efforts to stimulate growth, help the unemployed, provide health insurance for those without it, etc.

The monumental hypocrisy of the Republican Party is something amazing to behold. And their dimwitted accomplices in the tea-party movement are not much better. They know that Republicans, far more than Democrats, are responsible for our fiscal mess, but they won’t say so. And they adamantly refuse to put on the table any meaningful programme that would actually reduce spending. Judging by polls, most of them seem to think that all we have to do is cut foreign aid, which represents well less than 1% of the budget.

Consequently, I have far more hope that Democrats will do what has do be done. The Democratic Party is now the “adult” party in American politics, willing to do what has to be done for the good of the country. The same cannot be said of Republicans, who seem unwilling to do anything that would interfere with their ambition to retake power so that they can reward their lobbyist friends with more give-aways from the public purse.

Unfortunately, I don’t think Democrats have the guts or the stamina to put forward a meaningful deficit-reduction programme because they know—as I do—that it will require higher revenues. But facing big losses in the elections this fall I can’t blame them. That leaves us facing political gridlock between the sensible but cowardly party and the greedy, sociopathic party. Not a pleasant choice for those of us in the sensible, lets-do-what-we-have-to-do-for-the-good-of-the-country independent centre.

DiA: The primary fiscal challenge facing America is its spending on entitlements. Will it be possible for the parties to compromise on reform of programmes like Social Security, Medicare and Medicaid? If so, what do you think those compromises will look like?

Mr Bartlett: Cutting entitlements is hardly an exclusively American problem. Every advanced country has the same problem. What the European countries have, however, is a social contract and more of an egalitarian ethic. People there know that even if benefits are cut they won’t be thrown to the wolves. And businesses and rich people accept higher taxes as part of the social contract as long as their position in society is maintained and they will still be permitted to make a profit.

American conservatives—unlike those in Europe—still don’t accept the legitimacy of the welfare state or its fundamentally conservative underpinnings in a Bismarckian sense. (The welfare state provides stability, prevents revolution and accepts a certain diminution of freedom and rule by technocrats as a trade-off.) They still believe that America is the new world free of European rigidity, where survival of the fittest rules and that instability is okay as long as we get more growth in the process.

But what if we don’t get faster growth? Are Americans capable of dealing with a prolonged period of stagnation? Will they meekly accept their fate as the Japanese have done? I think not. It’s not in the American character, although I don’t know what form the alternative will take.

We may need to give conservatives one last shot at power to prove that their ideas won’t work—a conservative version of the Great Society, in which every pet liberal idea was given a chance to succeed before failing—before the American people will finally concede that tax cuts don’t pay for themselves or automatically shrink spending through some magical starve-the-beast mechanism, that getting spending under control will require more than cutting foreign aid and waste-fraud-and-abuse and that benefits for the elderly—a prime Republican constituency these days—will have to be meaningfully and painfully cut, and that taxes will have to be increased.

I think it may take another ten years before reality finally seeps into the electorate and a conservative can talk realistically about what has to be done without being run out of the Republican Party on a rail.

DiA: What would be the benefits of a value-added tax and why won’t Republicans or Democrats get behind the idea?

Mr Bartlett: The key area where Republicans and conservatives continue to live in a fantasy world relates to the inevitability of higher taxes to the long-run solution to our fiscal problem. At present, they all live in a dream world in which massive spending cuts that don’t hurt average Americans are the only solution to the deficit that they will entertain. But sooner or later, they will realise that this is simply not possible and that tax increases are not the worst thing in the world—Ronald Reagan raised taxes 11 times, including in 1982 when the economy was still in recession, and contrary to right-wing predictions Bill Clinton’s 1993 tax increase did not send the economy into a tailspin.

Once upon a time not too long ago there were serious people in the Republican Party willing to negotiate with Democrats in good faith on the issues of the day for the betterment of our country. Now they are all gone. Until they reappear our fiscal situation will get worse. Democrats can’t do it by themselves; they need someone on the Republican side with whom they can negotiate. I don’t see any such person anywhere in the country at the moment.

DiA: Do you think we’ll ever see a VAT in America?

Mr Bartlett: Eventually, we will have to enact measures to reduce the deficit. These measures will necessarily have to include higher revenues. Initially, they may be called user fees, offsetting receipts or other euphemisms, but they will raise revenues. Polls show that Americans are not averse to soaking the rich or taxing big businesses. Eventually, these will be enacted as well. After maybe ten years of doing this, Republicans will finally support a VAT as a tax reform, which will be used to undo many of the previously-enacted revenue increases. They will rationalise their support for a VAT on the grounds that they are not raising taxes, but only changing their composition. But in fact it will be a retroactive tax increase.

Personally, I think it would make more sense to avoid a decade of economic and financial pain and do what is necessary today. But there is no possible way of getting even a trivial tax increase through Congress today, let alone a VAT.

Eventually, American conservatives need to make the deal that European conservatives made after the war: liberals basically spend the money—subject, roughly, to a balanced-budget constraint—and conservatives raise the money in ways that don’t overly burden capital. This means that conservatives have to accept the welfare state and liberals have to give up redistribution on the tax side. But we are a long ways away from such a deal even being discussed.

I have pasted the chart at the end of this post.  Basically, Democrats want to slightly lower taxes for most households and raise them significantly on those earning over $1,000,000.  If you are a couple earning between above $300,00 and below $1,000,000, your taxes will barely rise.    The real action is with those households earning over $1,000,000 – they would go from paying $254,000 in annual taxes to $307,000, an increase of around 20%.

There are two key points to the chart.  First, you can barely lower taxes on people who barely pay any in the first place: so few people pay so little that the reductions amount to less than $1,000 per individual or household.  This means that any claim by either to party to cut taxes for the middle class is more akin to splitting hairs than anything else.  Second, rich households would still be paying very little of their income as federal taxes in comparison to most developed countries, though we need to factor in payroll, state income, and property taxes for a complete picture.  Taking these facts in conjunction, it’s easy to see why tax cuts implicitly favor the rich: they’re the only ones paying taxes.

The quick Republican response is to cry, “Exactly! Most of government revenue comes from rich people!”  That retort of course proves my first point, but the real lesson of the chart is one that neither party wants to seriously consider: taxes are too low across most income levels, and solvency is only achievable when we increase our taxes.

It’s not like this fact is a secret in Pakistan.  And obviously tax evasion is a bad, especially when only those most capable of paying taxes aren’t.  But the NY Times, which as a newspaper is predisposed to the narrative fallacy, stretches the story when it links resentment against tax evasion to  the rising insurgency.  What I would really like to see is a comparative study: in countries with similar levels of GDP, what percentage of government revenue comes from an income tax?  And of that total, what percent is paid by the those in the 5th percentile of income?  I doubt that places like Laos, Cambodia, Kazahkstan, or Belarus exhibit much variance (though these may not be the most accurate comparison countries).

What is really scary, however, is how you could replace the Pakistani names and proper nouns and have a decently accurate description of America:

“This is a system of the elite, by the elite and for the elite,” said Riyaz Hussain Naqvi, a retired government official who worked in tax collection for 38 years. “It is a skewed system in which the poor man subsidizes the rich man.”

The problem starts at the top. The average worth of Pakistani members of Parliament is $900,000, with its richest member topping $37 million, according to a December study by the Pakistan Institute of Legislative Development and Transparency in Islamabad.

While Pakistan’s income from taxes last year was the lowest in the country’s history, according to Zafar ul-Majeed, a senior official in the Federal Board of Revenue, the assets of current members of Parliament nearly doubled from those of members of the previous Parliament, the institute study found.

Felix Salmon at Reuters agrees with me, which is great because he carries much more gravitas.  He also reframes the problem as being more about our tax code’s treatment of debt overall.  Our tax code favors debt to equity, which encourages homeowners and businesses to leverage their investments.  This increases profits in the short-term while making worse the impact of negative events, making our economy and personal lives more fragile.  Here’s how Salmon would gradually ween us from our debt addiction:

Maybe the thing to do is to phase this in gently: start by allowing the tax-deductibility of only say 90% of interest payments, and then bring that number slowly down to zero over time. And of course include mortgage-interest payments in the overall bill. Fiscal conservatives would love it, since it would raise billions of new dollars, while at the same time reducing overall systemic risk — which is always highly correlated with overall systemic leverage. Let’s give it a go!

As for the mortgage-interest deduction specifically, the best way I’ve found to explain that it makes sense to abolish it is to point out that only 20% of American households itemize their deductions on their tax returns, while about 65% of American households own their own homes. This clearly isn’t something which helps most homeowners: it basically just helps homeowners in very expensive houses in New York and California.

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First off, Lincoln Chafee has a great name and an even greater nickname.  Second, he looks like Steve Doocey’s twin brother.  Third, he’s running as an independent candidate for overnor of Rhode Island.

Only that last fact is of interest to this blog, and only because Chafee is undertaking a serious conversation about the difficult realities of our economic distress.  In other words, he is letting voters know that he will raise taxes, albeit just slightly.  From his campaign website:

To help close a budget deficit, Chafee suggests examining a one percent sales tax on items currently exempt from the existing seven percent sales tax. He believes that property taxes are the hardest tax to pay so he’s opposed to passing the state’s problems down to the municipalities. You pay income tax based on the rise and fall of your personal income. On the other hand, you have choices on what you buy and therefore how much you pay in sales tax. If you lose your job or experience other misfortunes, property taxes are still due and your home is put at risk. For businesses owners and renters, property tax affects your monthly payment as well.  He would also consider repealing the flat tax, or at the very least, delaying the next scheduled rate reduction to help close the state’s relentless budget gap. When the economy improves, Chafee backs lowering taxes on personal income and corporate profits.

According to the New York Times, Linc is the only candidate with the courage to be honest with the populace ahead of the election.  Even the Democrat candidate (the current Treasurer!) claims to not need to raise taxes: “The leading Democrat in the Rhode Island governor’s race at the moment, General Treasurer Frank T. Caprio, summarized his pitch to voters at a recent forum this way: ‘If you want to pay more taxes, support Senator Chafee. If you don’t want to pay taxes, support me.’”  Chafee isn’t going to play posturing charades, however, retorting, “This is no time for nonspecifics.  Are you going to let the murderers out of the correctional institution? Are you going to put Granny and Grandpa out of the nursing home? Are you going to close a state park or two or three? Tell us something.”  Unfortunately, voters of the last 30 years haven’t rewarded honest talkers, and it’s hard to see how Chafee will win as long as we prefer to vote for what we want to hear and not what we know is right.

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The hero is Aaron Robinson.  He’s come to the magazine since I stopped reading, so I can’t tell you if he is generally more liberal than his compatriots.  Robinson’s basic point is spot on: because taxes are so taboo, we instead get stricter and stricter CAFE regulations.  These regulations are determined solely by the executive branch and are passed to consumers in the form of higher car prices.  In other words, Republicans’ smear campaign against taxes means we resort to top-down regulation (the EPA and CAFE standards) instead of a free market solution.  (Private firms will never voluntarily price in externalities.)

Robinson:

Tax increases make voters grumpy toward incumbents, which is why politicians go through absurd political contortions to avoid the mere mention of them. Instead of enacting something that everyone hates, they resort to policy that no one understands, such as CAFE. So convoluted are the new rules that you’re in for a couple dozen readings of the 1469-page “Light Duty Vehicle Greenhouse Gas Emissions Standards and Corporate Average Fuel Economy Stand­ards; Final Rule” to understand it.To wit: The Environmental Protection Agency and the National Highway Traffic Safety Administration, which jointly administer CAFE, can’t agree on how to measure fuel economy. One agency rewards savings from higher-efficiency air conditioners; one doesn’t. So the 2016 standard is either 34.1 mpg or 35.5 mpg depending on whose number a person chooses to embrace.

Please, can’t we even discuss a gasoline tax without somebody calling somebody an America-hating socialist?

I didn’t realize that Robinson has an arch economic conservative’s support up his sleeve: even Greg Mankiw  supports a gas tax. The case for a gas tax is so clear that I don’t need to summarize Mankiw’s report.  He does, in addition, have a good grasp of the political reality of gas taxes:

As judged on purely political terms, higher Pigovian taxes are a wacky idea. I have yet to see a major candidate for President endorse the concept. In 2004, John Kerry denied being in favor of high gas taxes. His campaign said that it was Bush adviser Greg Mankiw who in fact favored high gas taxes. That retort was correct—I had written in favor of higher gasoline taxes several times. But it was not particularly effective: Few voters had any idea who Greg Mankiw was.

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The New York Times today ran a ghastly article detailing the extent of our corporate ideological control.  The federal government has raised the idea of adding a tax to oil companies that would go into a fund to pay for environmental cleanups, and oil companies are naturally, like most big businesses, fighting this profit-reducing measure.  (Of course, it’s standard neoclassical economic wisdom that companies must internalize all costs, such as environmental pollution, for a market to run properly.  In other words, Republicans embrace economic lessons only when it benefits their corporatist agenda.)  For example, BP was able to write-off 70% of the cost of its rental of the Deepwater Horizon.  After tax breaks, oil companies pay, on average, 9% of profits as tax; the statutory rate is 25%.

Remember, tax breaks are just subsidies.  This spectrum of Big Oil subsidies costs the government approximately $4 billion per year (and you’re not going to see Jon Boehner cutting this government spending anytime soon).  Companies also have a tendency to put a few secretaries in friendly jurisdictions and call that place their headquarters.  Without eliminating tax subsidies, there is no way we are going to balance our budget and beat our obsequiousness to Big Companies.

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There’s no form of tax increase or spending reduction that has a really enormous amount of public support behind it, but as both public opinion polling and even Pete Peterson’s “America Speaks” event demonstrate, far and away the most popular method available for reducing the long-term fiscal deficit is higher taxes on rich people. I’m much friendlier to the idea of broader-based tax increases than is the average American, but it’s really striking the extent to which members of the political elite insist on ignoring the strong public consensus behind higher taxes on the rich in their discussion of politically feasible policy options.