Using a VAT for Deficit Reduction

Nov 21, 2011

The federal government’s fiscal policies are contributing to unsustainable deficits and debt in the long term. High debt loads can lead to rising interest rates, the crowding out of private investment and other government spending, and increased risk of a fiscal crisis that would necessitate quick and dramatic changes in spending and revenue policies. Policy makers are considering ways to address the deficit and debt, including spending cuts, tax reform, and the possibility of a new consumption tax, such as a value-added tax (VAT).

The paper, Using a VAT for Deficit Reduction, by the Tax Policy Center (TPC), is designed to help policy makers better understand the impact of a VAT if used for deficit reduction. It compares adoption of a new VAT and higher income tax rates as alternative strategies for raising revenue to reduce the deficit. It looks at these two options in isolation from other policies such as spending cuts that also could contribute to deficit reduction and would allow for a lower VAT or smaller income-tax increases. In addition, it does not model any behavioral consequences of implementing these revenue policies.

This paper is the second in a series, written by TPC and sponsored by the Pew Fiscal Analysis Initiative, that analyzes issues related to enactment of a VAT. This series will provide analysis and facts as policy makers consider options for a new consumption tax over the next several years.

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