The Republican Party’s European Tax Policy

When was the last time an American political leader of the Republican Party embraced a European economic policy? Or a European policy of any kind, for that matter?

It’s difficult to recall such an event, isn’t it? You might need to go all the way back to President Dwight Eisenhower’s support of the New Look strategy, a policy that marked the apex of Euro-American cooperation against the Soviet Union. Or perhaps you could point to the fall of the Soviet Union during the 1980s and early 1990s, an era when U.S. Republican Presidents Reagan and Bush collaborated closely with European leaders like Margaret Thatcher, Helmut Kohl, and Francois Mitterrand.

More recently, though, Republican Party politicians have expressed far less friendly sentiments towards their European colleagues. Presidential candidate Mitt Romney, for instance, sharply critiqued Greek economic policy throughout his campaign. And anti-European sentiment during George W. Bush’s invasion of Iraq peaked with the banishment of french fries from the cafeteria of the U.S. Capitol, and the introduction of “freedom fries” in their place.

So why are conservative Republican politicians now embracing a quintessential European tax policy? And what does their embrace tell us about today’s political climate in the United States?

From Kansas to Louisiana

The policy in question involves an increased reliance on sales taxes to finance government operations. Conservative governors Sam Brownback of Kansas and Bobby Jindal of Louisiana have both recently advocated for increases in sales taxes.

Republican politicians advocating for tax increases? At first glance, that would appear to contradict the traditional conservative orthodoxy against tax increases of any kind. Ever since Republican President George H.W. Bush famously abandoned his read my lips, no new taxes pledge over twenty years ago, Republican lobbyists have stood firm against any form of tax increase.

But today, Governors Brownback and Jindal are making a more subtle argument. They are not simply advocating for increases in sales taxes; they are concurrently advocating for reductions in (or even an outright elimination of) income taxes. Thus, they are defining their proposals as modifications of existing systems of taxation, as opposed to increases in rates of taxation.

A more balanced system of taxation, one that more equally distributes taxes across earnings (i.e. income) and consumption (i.e. sales), strikes Brownback and Jindal as an improvement over the status quo. Unsurprisingly, however, neither one has acknowledged that such a modification would bring the system of American taxation into far closer alignment with the existing European system.

Value Added Taxes

Strictly speaking, the European tax on sales transactions isn’t really a “sales tax” in the American sense of the phrase. Instead, it is a tax on the incremental value added by each party to the development and sale of a product or service.

Imagine that a European farmer sells a bucket of milk that is worth five euros to an artisanal cheese producer. Then imagine that the cheese producer transforms the milk into an eight euro package of cheese. If the cheese is then sold to a retail store for twelve euros, the European farmer would pay taxes on five euros of value, the producer on three euros of value, and the retailer on four euros of value.

Within an American system of sales taxation, the retailer would pay sales taxes on the entire twelve euro purchase. Under either system, though, taxes would be calculated on a basis of the value of sales, purchase, or transfer transactions, as opposed to a basis of income or profit levels.

But why is this debate emerging now? What trends are occurring in the American political climate that would empower conservative Republican politicians to embrace such policies?

Bowing To Reality

Reality … What A Concept! That was the title of a 1979 stand-up comedy album by the American actor Robin Williams. Nevertheless, it could just as easily serve as the description of the current state of affairs in American politics.

After all, the federal government’s cumulative budget deficit now stands at $16.5 trillion, and it continues to grow by more than $1 trillion each year. Such worrisome numbers, considered in tandem with President Obama’s resounding electoral victory, are persuading Republican lawmakers to seek compromise. That is why America avoided a federal government shut-down during the fiscal cliff negotiations on New Year’s Day, as well as during the subsequent debt ceiling debate of early 2013.

Some commentators believe that demographic trends in American society are pushing the political parties towards the center too. An agreement regarding America’s illegal immigrant population is expected to occur within the next six months, in contrast to the outcome of a similar but ill-fated bipartisan policy initiative by the Bush administration in 2006.

An immigration reform bill that offers a path to citizenship to individuals who have entered the United States illegally? And a system of taxation that emphasizes the very features that have been implemented throughout the European Union? These may appear to be highly unusual positions by Republican politicians, and yet they may have been necessitated by the unique realities of the contemporary era.

Banking Compensation and Debt Addiction

Why do physicians recommend NicoDerm skin patches or Nicorette chewing gum to smokers who are trying to kick the habit? Why don’t they simply recommend that smokers go “cold turkey” and stop ingesting harmful chemicals?

Alcoholics, after all, aren’t given smaller and smaller bottles of liquor over time when they enter rehabilitation. They’re simply required to stop drinking. So why are smokers encouraged to wean themselves away from their addictive habit in a progressive manner?

The choice of detoxification method apparently depends on the nature of the substance itself. Nicotine, for instance, becomes less addictive as individuals reduce their ingested volumes, and thus an incremental “weaning” approach can be effective. A single glass of liquor, however, can throw a recovering alcoholic back into full-scale addiction, and thus a “cold turkey” strategy is often the preferable one.

On Friday last week, Morgan Stanley became the first of the mega-sized Wall Street banks to announce its annual employee bonus plan. That announcement may not have brought much pleasure to their rank-and-file workers, but it did provide support to those who conceptualize our current economic malaise in terms of nicotine (as opposed to alcohol) withdrawal.

Addicted To Debt

It isn’t very difficult to find references to debt “addiction” in the global press. The characterization pervades the world of global diplomacy as well; a Chinese government press release, for instance, recently excoriated America’s federal government for failing to address its over-reliance on credit.

But government leaders around the world can’t seem to reach a consensus about the appropriate method for treating this addiction. British Prime Minister David Cameron, for example, was elected with a mandate to slash government debt immediately, even if it necessitated a fundamental downsizing of the national social safety net. On the other hand, even conservative Republicans in the United States have advocated for a more gradual approach; many would prefer to place America on a glide path to debt elimination.

Which approach is the optimal one: a dramatic slashing strategy or a glide path reduction plan? The recent evidence is mixed and thus non-conclusive. Although nations from Germany to Thailand opted for more radical approaches during the past decade and appear to be reaping the benefits of that approach, many European nations (such as Greece, Italy, and now Britain) are finding that government austerity policies can douse economic growth and thus accelerate national decline.

Just Say No

Sometimes, of course, cigarette smokers and alcoholics begin to modify their behaviors without taking the time to develop conscious strategies and plans. Heavy smokers who reek of cigarette smoke may start to reduce the number of packs they consume each day, without enrolling in formal detoxification programs. And binge drinkers may start to tire of awakening to debilitating hangovers, and thus may decide to “just say no” to multiple drinks when they hit the bar.

In other words, sometimes addicts begin to moderate extreme activities on their own, without professional intervention or guidance. It is possible that this natural process is occurring in the American economy as well.

Last Friday, for instance, Morgan Stanley announced that its employee bonuses would be capped at $125,000, even though strong performers had grown accustomed to payments many times larger than that limit. And with the other major Wall Street firms soon expected to follow suit, industry experts have begun to speculate that the entire banking industry is about to enter a natural process of retrenchment.

Debt Appetites

Pundits have offered numerous explanations for the development of this retrenchment trend. Some note that the new Dodd-Frank legislation restricts the abilities of banks to magnify their trading gains (and losses, of course) through debt leveraging activities. Others assert that stakeholders are now resisting the type of highly leveraged buy-out transaction model that was popularized by firms like KKR and Bain Capital during the past thirty years.

And although some pundits argue that the retrenchment of the banking sector is more easily explained by a global lack of consumer demand for products and services and not by a newly emerging distaste for debt, others note that today’s tepid level of consumer demand is in fact attributable to stratospheric levels of residential mortgages and other loan liabilities.

In other words, like an addicted chain smoker who slowly begins to turn from Marlboro and Winston to NicoDerm and Nicorette, it appears that our entire economy is now transitioning away from its debt-fueled addiction. That may explain why, despite the continued willingness of global creditors to lend funds to the American government at interest rates that approach zero, Congress is less and less willing to extend the debt ceiling.

It’s easy for us to be pessimistic and interpret shrinking bank compensation levels as harbingers of a looming economic crash. If today’s prevalent addiction metaphor is valid, though, it may be more reasonable to interpret these bank policies as addiction withdrawal pains that may fade as we transition to a brighter future.