Republicans should drop their fascination with the flat tax

Bruce W. Morlan works as a mathematician conducting research into medical practice and policy. He has served as a member of the Minnesota Republican State Central Committee, as an elected township supervisor, a member of two planning commissions, and a volunteer mediator for the Rice County Dispute Resolution Program. He conducts periodic political salons at a local pub and is a source in MPR News' Public Insight Network.

Republican candidates are scrambling all over each other to get their tax simplification plans in place. Gov. Rick Perry, for example, proposes a simple 20 percent flat rate, which is most assuredly a part of a secret jobs program for editorial cartoonists. Cain's 9-9-9 plan fared no better.

These plans, and plans like them, are popular not because they are fairer than the existing, progressive tax codes, but rather because they are simpler. The byzantine U.S. tax codes are legendary, and the immediate appeal of these flat-tax plans is their simplicity, a simplicity that promises to remove all those special-interest advantages that distort the free market that principled Republicans believe in.

The guiding idea behind the flat income tax is the idea that all taxpayers should be treated equally. But any introductory economics class will introduce the student to the concept of the law of diminishing utility, which leads, from a fairness argument, to the concept of a progressive tax structure. As explained by the Economics Concepts website:

"For example, a person who earns $90,000 per month attaches less importance to $10. But a man who gets $1000 per month, the value of $10 to him is very high. A finance minister knowing this fact that the utility of money to a rich man is high and to poor man low bases the system of taxation in such a way that the rich persons are taxed at a progressive rate. The system of modern taxation is therefore, based on the law of diminishing marginal utility."

So, while the candidates try to use a flat tax to appeal to the voters, it is a gesture only, with no hope of ever becoming law. What sincere candidates might find more success with, in a manner consistent with basic principles of human behavior, is a "smooth and fair flat tax." What is it about the current codes that people find so egregious? The current tax code is, at its heart, a simple progressive tax that recognizes the aforementioned economic concept of decreasing marginal utility.

A plot of the basic rates against taxable income would show ever-increasing tax rates, up to a current maximum of 35 percent. The steps occur at different points based on filing status (this is the first of thousands of concessions to special interests), but conceptually we could plot a simple curve to show the progressive nature.

But in its highly modified form (71,000-plus pages of tax code, by one estimate), the simple curve becomes a treasure trove of special breaks for powerful groups, groups that are able to get their congressman to favor them over the less powerful. If we plotted the effect on the actual tax rates of having these breaks, centered on the average income of people using those breaks, we would find our simple plot of rates looks more like a sawtooth than a line.

And what coarse and deep teeth it would have. We would see a deep pit for nonprofits, which pay no tax. Many small pits are also found (how many llama farmers are there, anyway?). Sometimes they are larger (oil companies and capital gains come to mind) and sometimes they are simply politically powerful special interests (renewable energy companies). Some even experience negative tax rates, due to tax credits and the like.

The complex nature and blatant cronyism of these taxes are easily used to generate support for the simple flat taxes, whether 9 percent (a la Cain's proposal) or 20 percent (Perry's) or other proposed rates (28 percent is sometimes quoted). These simplifications are popular not because they are flat, but because they eliminate all of those special-interest loopholes. This makes them appealing to all those taxpayers who, at the end of their very long tax preparation day, find that they do not qualify for those gifts.

But the simple flat tax is unfair. Consider a flat tax of 20 percent. The person earning $20,000 per year will miss much more from the tax of $4,000 than the person making $100,000 will miss from his tax of $20,000. The former may miss some meals, the latter may miss some trips to restaurants.

Instead of the current codes and flat proposals, we could try for a smooth and fair tax. This tax would be smooth in that it would not create pockets of unfairness that applied only to special interests, but it would also be fair in its reflection of the economic law of diminishing utility. Principled Republicans can argue for both smooth and fair.

They can argue for smooth because some of them have already argued that those special tax breaks are fiscally equivalent to earmarks, and earmarks are a well defined and widely despised system whereby Congress buys the votes of the people using the people's own money. The anti-earmark voices in the Republican Party are open to being converted into smooth-tax proponents because they sense the unfairness of the "pick the winner" nature of the current tax codes.

Similarly, they can argue for fair because of their belief in economic models, as evidenced by their support of the free market and their disinclination to buy into Keynesian growth models. The law of diminishing utility is clear and they could easily be motivated to support a fair tax -- one that was not the simple flat tax of the candidates, but instead correctly recognized the decreasing marginal utility of money as a function of income.

This proposal could be done, if offered in a spirit of compromise. If we all compromise to get a smooth tax, we can also agree to make the tax economically fair. It would also be best to do this quickly. Like removing a Band-Aid, sometimes slow and steady just means that each hair gets to complain bitterly, while quick action gets the job done before the "what abouts" of the special interests can rally.

If Republican candidates were to propose smooth and fair taxes, then the editorials would have to take them seriously and the cartoonists would have to find honest ways to make a living.

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