Cain the Tax-Code Killer

Cain the Tax-Code Killer
By Larry Kudlow
10/15/2011

Herman Cain is the only GOP presidential candidate who wants to kill the tax code. That's right. Put a knife in it. Junk the entire system. And people are cheering as he rises in the polls in his quest for the nomination.

Cain's 9-9-9 plan is not perfect. But then again, the good should never be the enemy of the perfect.

Rep. Paul Ryan gives the plan a thumbs-up. Supply-side mentor Art Laffer tells me it would be "far, far better than the current system." And Chris Chocola, president of the free-market Club for Growth, calls it "a truly revolutionary tax reform that would amount to a massive job-creating tax cut on investments, savings and income."

As the world now knows, 9-9-9 translates to a 9 percent income-tax rate, a 9 percent value-added net sales tax rate on business and a 9 percent national sales tax overall. Like many conservatives, I am troubled by the national sales tax piece. It reminds me too much of Europe. It could start low and then build on top of the other taxes. But I totally support the first two nines on personal income and business. In my view, these are vast improvements.

For his part, Cain argues that the sales tax nine would pick up revenue and help to lower the rate for everybody, especially the middle class. His economic adviser Rich Lowrie told me in a CNBC interview that the sales tax is a replacement tax, not an add-on tax like you'd find at the state level. This is a key point. Lowrie said, "All we are doing is pulling out taxes that are invisible. We're cutting the rates. We're putting them back in at lower rates."

Lowrie is referring to the payroll tax, which in the Cain plan will go from 15 to 9 percent. That constitutes a net tax cut and a good deal more transparency regarding costs and prices that are embedded in the current code. I'm not sure I buy into this point entirely, but it's an interesting argument.

Liberals oppose the sales tax because they say its regressivity will hurt middle- and low-income people. But the Cain plan partially deals with this by exempting everybody below the poverty line. Cain also states that sales of existing goods would be exempt. I have no knowledge, however, of the treatment of services, and I am somewhat skeptical about enforcement complexity overall.

Nevertheless, a mammoth drop in marginal tax rates for individuals (35 to 9 percent, or 18 percent including the sales tax) and for businesses (also 35 to 9 percent) would supply an incredibly strong economy-wide growth incentive.

Lowrie argued further that the 9-9-9 plan will add $2 trillion to U.S. gross domestic product, create 6 million jobs, increase business investment by a third and lift wages by 10 percent. "And if you fold all that growth together," said Lowrie, "federal revenues go up by 15 percent."

I'm still a flat-tax guy, and I can't vouch for these numbers. But I can vouch for the proposition that greater marginal incentives will drive economic growth into high gear. I know there are many skeptics on this. But as always, I point to the Harding-Coolidge-Mellon tax cuts of the 1920s, the John F. Kennedy tax cuts of the 1960s and the Ronald Reagan tax cuts of the 1980s.

Remember, too, that the Cain tax plan would eliminate the double-tax on saving and investment by removing capital gains, estates and dividends from the tax code. All this would throw off strong economic incentives.

Given the current economic malaise, which in large part can be traced to the weakened balance sheets and net worths of families suffering from the multi-year slump in stock prices and home values, increasing returns to saving and investment through a much lower marginal tax rate will boost asset values. Just what the doctor ordered.

As for businesses, not only would they get a globally super-competitive 9 percent tax rate, but they'd receive 100 percent expensing for new purchases of capital equipment.

Former Treasury hands Gary and Aldona Robbins priced out the Cain plan on a static basis and discovered it to be revenue neutral. Essentially, they found a $26 trillion tax base yielding $2.3 trillion in revenue for a 9.1 percent overall rate. Hence, 9-9-9.

In essence, the Cain plan combines the flat tax (with its single marginal rate) and the fair tax (which uses the national sales tax). I don't know if this is really possible. But in terms of first principles, throwing out the tax code, lowering marginal tax rates, getting rid of the carve-outs and deductions that make the current code impossible to understand, and providing an economic-growth tonic to heal our current funk, it makes a lot of sense.

That Herman Cain is rising in the polls is no surprise.