Set aside debate over Romney tax math: Is tax reform a good idea?

One of the biggest policy questions at stake in the presidential election ­– how to fix America's dysfunctional tax system – has become largely obscured by bickering over the budgetary math of one candidate's proposal.

The scrutiny of Mitt Romney's plan for a 20 percent cut in income tax rates is deserved. That's a big tax change, and he hasn't explained how he would pay for it at a time of chronic federal deficits – which he also pledges to reduce.

But the legitimate questioning of Romney's math has to some extent short-circuited campaign debate over a much bigger issue: The US tax code is widely perceived as burdensome, as it imposes steep compliance costs and unduly distorts the behavior of businesses and households. Reforming it offers a promising way to improve the health of both federal budgets and the economy.

The big question is how to approach that task. Mr. Romney's plan may or may not be the right one, but his general idea – lowering tax rates while limiting things like deductions in order to "broaden the base" of taxable income – is viewed by many tax experts as one promising path forward.

Amid the din of dueling sound bites from the campaigns, some voices on the sidelines are warning that this bigger picture is getting lost.

"The real story should not be about one campaign nit-picking the budgetary impact of the other campaign’s proposals," Alex Brill, a research fellow at the conservative American Enterprise Institute, opined in an online commentary this month. "Rather the real story should be about the substantive policy visions of each of the candidates."

Mr. Brill was aiming his comment at President Obama and his Democratic allies. Others have similar concerns about Republicans.

"Let’s all take a deep breath here," Howard Gleckman, of the nonpartisan Tax Policy Center, appealed on Thursday after the Romney campaign accused the center of issuing a new analysis that was "misleading and deceitful."

In fact, Mr. Gleckman argued in a blog post, the center's latest research efforts "provide evidence that a deduction cap," an idea Romney has floated, "is a pretty good ... idea."

For the record, the Tax Policy Center and the American Enterprise Institute are themselves part of the fray over Romney's tax math. The center is funded by two left-leaning think tanks, and while it has a reputation as nonpartisan, its analyses have been used heavily by critics of the Romney plan. Brill, meanwhile, made his comments within an article that also sought to rebut those critics.

Three basic issues in tax reform

But both Brill and Gleckman are right that there's much more to debate than the details, or lack of details, in Romney's plan.

Basically, the idea of tax reform revolves around three issues: how to obtain needed revenue for the federal government, how to be fair (what level of "progressivity" to have in the tax code), and how to maximize economic growth.

Romney emphasizes the goal of restraining the amount of tax revenue the government takes, and calls for big federal spending cuts to avoid big deficits. He also says he wants the code essentially to retain its current progressive structure (with the top 5 percent of households continuing to pay a 60 percent share of income taxes). And he argues that simplifying the code, with lower rates for corporations as well as individuals, will boost economic growth.

He has brought the math debate upon himself, by announcing very ambitious goals (cutting rates by 20 percent would bring the top tax rate down from 35 percent to 28 percent) while leaving other key details unspecified.

Obama wants government to get more revenue than would occur if the Bush tax cuts all remained in place. On fairness, his stated goal is to keep taxes essentially the same for the bottom 98 percent of households, while asking the rich to pay more as their "fair share."

While his budget plan endorses the idea that tax reform can enhance economic growth, Obama talks more often about the positive growth effects that can come from government investments (such as in education or infrastructure) than from tax reform.

Like Romney, Obama has embraced the idea of lowering corporate tax rates, so that the US has a more level playing field against foreign competitors. But the two differ sharply on the details of how to do that (as explained in another Monitor story).

"Sadly, no true debate over the merits or means of tax reform is happening," Brill argued in his recent commentary. He complained that Obama has offered no alternative tax reform plan. "Instead, his near-singular focus has been to raise statutory tax rates for high-income households."

Obama, for his part, contends that Republicans have a single focus on protecting tax cuts for the rich. In the second presidential debate, he said this is Romney's "one-point plan" for the economy.

In its budget proposal, released in February, the Obama administration endorsed the general concept of tax reform that lowers rates while broadening the base.

"The president is calling on the Congress to undertake comprehensive tax reform to cut rates, cut inefficient tax breaks, cut the deficit, and increase jobs and growth," the document said.

That's a statement Romney could agree with, except for the words "cut the deficit," since Romney argues for “revenue-neutral” reform, meaning he does not want to increase the total amount of taxes collected, and for attacking deficits through spending cuts.

Bipartisan plans

Several bipartisan fiscal plans have also followed the general strategy that "base-broadening" reform can enhance economic growth. Among them, plans released in 2010 by Obama's bipartisan fiscal commission, by the Bipartisan Policy Center, and by Sens. Ron Wyden (D) of Oregon and Judd Gregg (R) of New Hampshire.

Many policy experts argue that fiscal reform should include a mix of spending cuts and new tax revenue.

One matter of hot debate, regardless of the details of Romney's revenue-neutral approach, is how much of a positive effect tax reform can have on economic growth.

"Relatively little has been said about the possible effects of the Romney proposal on economic growth," Princeton University economist Harvey Rosen wrote last month. "This is curious because increasing growth is the motivation for the proposal in the first place."

Mr. Rosen offered optimistic estimates of the growth spinoffs from Romney-style reform. The Romney campaign echoes these, saying in a statement this week that Romney's plan "would increase economic growth – significantly – and generate additional tax revenue as a result."

Other economists argue that the growth effects would only be modest.

This hints at a larger point. Romney's ideas reflect only one of many approaches to tax reform.

Another approach is a flat income tax without deductions, except perhaps for a standard deduction to make the system progressive. Another is to shift from taxing income to taxing consumption, introducing a value-added tax (VAT). Some economists believe that shifting to a VAT, in particular, would offer a big growth dividend, even after modifying the tax to make it progressive.

If many economists argue that a simpler tax system will be better, that doesn't mean simplification will be politically easy. For one thing, many Americans like specific tax breaks, and politicians like to dole them out. In some cases, economists too argue that targeted tax incentives help achieve certain economic goals, like promoting corporate investment.

In the second presidential debate, in which Romney responded to a woman worried about losing cherished credits and deductions under his plan, Obama embraced the role that so-called tax preferences can play.

"I think what grows the economy is when you get that tax credit that we put in place for your kids going to college," he said. "I think that grows the economy. I think what grows the economy is when we make sure small businesses are getting a tax credit for hiring veterans who fought for our country. That grows our economy."

Given the political challenges of doing away with all deductions, Romney's idea of a cap could achieve the goal of reining in the size of tax breaks, while limiting the political controversy over which deductions should be kept or scrapped.