Flat Tax Revolution

When I read the headline in The Washington Post that said, “Bremer imposes flat tax on Iraq,” I thought how dare the administrator of the Coalition Provisional Authority “impose” a fair, simple, low tax rate on those poor Iraqi entrepreneurs and small shop owners that will promote economic growth and prosperity and give them a chance to get rich without being crushed by taxes. Actually, L. Paul Bremer didn’t even impose a single-rate flat tax; he simply ordered that “the highest individual and corporate income tax rates shall not exceed 15 percent,” which is perfectly consistent with lower tax rates for lower-income individuals. What audacity Bremer demonstrated, to achieve in Iraq something we have yet to accomplish in the United States – fundamental tax reform and simplification that has worked so well in Hong Kong for years and is working for Russia under President Vladimir Putin, who cut the top rate to 13 percent. I only wish Bremer had sealed the economic deal completely by instituting a currency board to anchor the new Iraqi dinar to hard currency reserves or to a commodity base. I agree with Steve Forbes, who said in a recent Forbes Magazine editorial that putting the Iraqi central bank in charge of managing a new floating fiat currency is a prescription for monetary instability and debasement of the new Iraqi currency. In 1996, I chaired the National Commission on Economic Growth and Tax Reform – the Kemp Commission. We concluded that the income tax system was “impossibly complex, outrageously expensive, overly intrusive, economically destructive and manifestly unfair.” Despite the significant progress on capital gains tax relief, dividends tax relief and some modest improvements on individual income tax rates and business expensing and depreciation, the Internal Revenue Service code continues to tax income multiple times and penalizes work, saving, investing and entrepreneurial risk-taking. When the Kemp Commission issued its final report, the headline in The New York Times read, “Failings of the flat tax.” Similarly, Paul Samuelson wrote in Newsweek about “The flaky flat tax.” In that article he maintained that Republicans were “peddling the illusion that a flat tax will ignite a burst of economic growth that will wash our hardest choices away.” He smugly concluded, “It won’t.” Along those lines, William Gale of the Brookings Institute argued, “It is completely implausible that improving incentives to work, save and invest in a system that has already moved a long way in the right direction would make a significant difference to growth.” Thus, he concluded, “The flat tax is fine in principle … but could you make it function in the real – that is, messy – world of politics?” As a matter of fact, yes, as several countries are demonstrating. Since instituting a flat 13 percent personal income tax, the old Soviet bear has been transformed into a raging bull. In 2001, income taxes rose 47 percent, 28 percent if adjusted for inflation, and in 2002 real tax revenues rose another 20 percent. During this period economic growth averaged about 4.6 percent while many other countries’ economies around the world continued to stagnate or contract. Even The New York Times begrudgingly conceded, “Russia imposes flat tax on income, and its coffers swell.” Before Russia adopted its flat tax, countries that had adopted a pro-growth tax system were small city-states like Hong Kong and small countries including Latvia and Estonia, all of which benefited from the flat tax. Following the success of the Russia model, the Ukraine has recently passed legislation that would scrap a five-tier progressive tax scheme with a 13 percent flat tax. Regional tax competition spurred by the success of the Russian flat tax has compelled Communist China to consider adopting a flat tax by reducing their 45 percent top personal income tax rate to a more reasonable 20 percent. In the 1980s, Prime Minister Margaret Thatcher and President Reagan enacted tax rate reductions that forced countries around the world to cut tax rates in order to remain competitive. It would certainly be ironic if former Soviet Russia and Communist China were the catalysts of pro-growth economic policy at the beginning of the 21st century. With a new 15 percent maximum tax rate taking effect in January 2004, Iraq will have a competitive advantage over regional competition. In Saudi Arabia, the top income tax rate is 30 percent and the top corporate income tax rate is 45 percent. In Iran, the top income tax rate is 54 percent, as is the top corporate tax rate. And Syria has a top income tax rate of 64 percent. In addition to their burdensome tax systems, all of these countries are not free politically; they are protectionist, and they all are marked by extreme government intervention in the economy. When full political sovereignty is returned to the Iraqis, they will be able to decide for themselves whether to continue with the pro-growth, pro-entrepreneur tax system Bremer has “imposed” on them – or to raise taxes.