His policy plans are unique but risky

His policy plans are unique but risky

Fred Thompson’s policies are a model of Republican orthodoxy. The former legislator, best known for his Law and Order acting career, would stay in Iraq, expand the military, do little about health care, partly privatize social security, enhance border enforcement and limit federal control over education.

Only on tax is he original, giving the taxpayer an option between the current system and a flat tax. While attractive in theory, that risks blowing the federal budget.

Thompson wants to eliminate the alternative minimum tax (AMT), replacing it with a flat tax with lower rates. However, with high exemptions, few deductions and a single rate across all brackets, the AMT already is close to a flat tax. Whereas under current AMT rules, taxpayers must pay the higher of the two tax calculations, under Thompson’s plan they could choose the lower.

That would probably be very expensive.

How expensive? Well, abolishing the AMT would cost $1.2 trillion (Rs47.52 trillion) over 10 years, or roughly $100 billion in 2008. That’s the cost of removing the Internal Revenue Service (IRS) option over the tax calculations of the 23% of the population affected by the AMT.

In order to be attractive to a majority of the voting population, Thompson’s flat tax must appear to benefit 51% of the voters.

Giving the option over their tax calculation method to 51% of the population should cost around 2.2 times as much as removing the IRS option by more than 23%.

Hence Thompson’s flat tax should cost about $220 billion per annum.

Keeping President George W. Bush’s tax cuts after 2010 ($160 billion per annum), abolishing the AMT ($100 billion) and introducing the new optional flat tax ($220 billion) would altogether cost $480 billion, or 3.2% of the gross domestic product—about 18% of current federal revenues.

Thompson believes that beneficial supply-side effects would pay for much of this. However, since state taxes would no longer be deductible, the marginal rate reduction for a top-bracket taxpayer with 10% state and local taxes would be smaller than it might appear—from 41.5% currently, to 35% under the new system. Whether that’s sufficient to encourage behavioural changes that produce a large supply-side effect is a big gamble.