Sales Taxes vs Tariffs

With the President pushing tariffs to level the international playing field for American producers, he and his administration should seriously consider a National Sales Tax (NST) as an alternative or at least in concert with targeted tariffs. By getting rid of the Income Tax (IT) and replacing it with a NST, the burden of maintaining the U.S. market is shared by all who participate in it.

Let's first look at the current situation with the cost of the U.S. Government being primarily carried by U.S. citizens under the IT. Even with the new 'tax reform', a dollar earned by a typical citizen is first reduced by 25 cents with federal IT and a nickel for payroll tax. Then in most states, at least another nickel is appropriated by state IT, and a further nickel in state sales tax on the products bought with the 65 cents remaining. Thus the American consumer loses a third of his buying power regardless of where the products originate.

The labor cost for the U.S. producer is the full dollar cited above plus the employer's share of the payroll tax, plus of course any additional overhead for health benefits, etc. If the employee then buys his company's product, he is in effect paying, say, $1.10 (just for the labor costs) for which he netted about 60 cents. His own labor is costing him twice what he received for it.

The additional cost of a tariff on the imports used in making a given product could vary widely, but even for an equivalent product (a TV or an auto) subject to a tariff, the consumer ultimately pays the extra amount with the reduced buying power of his taxed income.

If the income taxes (and payroll taxes) are replaced by a NST of 30% (the rate proposed by the Fair Tax), the consumer will pay $1.30 for the labor share of a domestic product for which he received $1.00, or about 30% more. He will still bear the extra amount of a tariff, but with a net income of the full dollar rather than 60 cents. The tariff will still penalize the foreign producer relative to the domestic producer, but the impact to the U.S. consumer is a third less.

Even without a tariff, a NST taxes the foreign product at the same rate as the domestic product. This not only levels the tax burden between the foreign and domestic producers, but considerably enhances the competitive position of the domestic producer in the foreign markets since there is no taxation on labor for exported products. And, since the product rather than the labor involved in producing it is taxed in the U.S. market, automation and foreign labor (or even undocumented labor) hold no advantage for the domestic producer.

As we see, in many respects the NST achieves the same result as an import tariff, with considerable benefit to domestic production and consumption as well. Since all imports are equally affected, a retaliation in the form of a 'trade war' is unlikely. If, alternately, a penalty is intended for a given country's products, selective tariffs can still be imposed for political reasons.

The use of a National Sales Tax instead of the fatally flawed Income Tax is a no-brainer, but implementation in the short run begs caution based on system engineering considerations. Step functions - a sudden major change in inputs or characteristics in a dynamic system - can produce wild deviations before ultimately settling out to the long term behavior. Thus, although the NST in the long run is to be preferred, ramping it up as the IT is ramped down (say over 5 years) may be necessary. However, in no way must the IT be allowed to exist past the phase-out period. Ultimately the 16th Amendment must be repealed, and ITs forever banished in the U.S.