Value-Added Tax Would Hurt Economy, Kill Jobs, Business Group Study Finds

By Matt Cover | October 14, 2010 | 8:52 PM EDT

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( – An economic analysis sponsored by the National Retail Federation (NRF) shows that a Value-Added Tax (VAT) would damage economic growth and kill hundreds of thousands of jobs. The study showed that a large reduction in federal spending would be better for the economy.

The NRF study was conducted because President Barack Obama’s Fiscal Commission,  which is scheduled to issue its first report soon, reportedly is considering a VAT as one option for reigning in out-of-control federal deficits.

“An add-on VAT would result in less economic growth as compared to a reduction in government spending, when addressing the nation’s long-term fiscal imbalance,” the report said.

This is because a VAT would “have distortionary effects on consumption and labor supply, but a reduction in government transfers [spending] would not,” states the report.

The study found that a VAT would cause a 0.2 percent reduction in GDP in 2012,  assuming that the tax was enacted in 2011. A spending reduction of two percent of GDP, on the other hand, would cause GDP to grow 0.1 percent more in 2012.

That damage to GDP growth would not remain confined to the early years of the VAT, according to the analysis. Using a VAT to reduce the federal deficit – the main reason for enacting one – would cause economic growth to be less than half what it would be if the government cut spending.

“A VAT has more adverse effects after 10 years as well – reducing the deficit through a VAT cuts the growth of GDP by more than half as much as a reduction in government spending after ten years,” reads the report.

With a VAT in place, the study projected GDP growth in 2021 to be 0.3 percent, as compared to 0.7 percent annual growth with a reduction in federal spending.

The vast majority of that economic damage comes in the form of decreased consumption caused by the tax.  Because a VAT is applied to consumer and business purchases – the origin of the term value-added – it makes that spending more expensive, thereby moving consumers and businesses to do less of it.

The NRF study found that a VAT would have severe effects on consumption, especially when compared to a spending cut – effects that do not dissipate over time.

“The drop in taxable retail spending and services is initially 7.5 times as large under a VAT (-5.0 percent) than after a reduction in government spending (-0.7 percent),” said the study. “After 10 years it remains 6 times as large.”

The study found that a VAT would also eliminate hundreds of thousands of jobs, both immediately and in the future. A spending reduction, on the other hand, could add jobs.

“A deficit-reducing VAT would result in an initial loss of about 850,000 jobs and a loss of 700,000 jobs for more than a decade,” the study reported.  “In contrast, reducing the deficit through lower government spending could add 250,000 jobs to the economy.”

This means that most of the job losses would occur relatively quickly following the adoption of a VAT, and that those jobs would largely remain lost for years after the tax was enacted.

The tax would negatively affect the livelihoods of Americans of working age at the time of its introduction, according to the report. The NRF study found that most Americans would be worse off immediately and into the future as a result of a VAT.

“Most Americans over 21 years of age when the VAT is enacted would be worse off due to a decline in their real wages and their inability to consume as much,” said the study.  “Households with incomes above $40,000 and over the age of 21 at the time of enactment would be worse off.”

President Barack Obama walks to the Rose Garden on Friday, Sept. 3, 2010 to make a statement on the rising unemployment rate. (AP Photo/Pablo Martinez Monsivais)

Those Americans 55 and older with mid-level incomes – between $40,000 and $80,000 per year – would be the hardest hit, losing 1.8 percent of their rest-of-life resources due to the VAT. Rest-of-life resources are the value of a person’s consumption and leisure spending a person will likely be able to do over the rest of their lives. A reduction in this figure means that because of a VAT, Americans would be less financially-able than they otherwise would be.

The study also revealed that a VAT – because it is levied on consumption – would amount to a large tax on mostly middle-income Americans who are likely to devote most of their disposable income to consumption, as opposed to investment. For some middle income families, that could mean a doubling of their effective tax burden: the total amount of their income devoted to paying taxes.

“Under a narrow-based 10.3 percent VAT, a middle income family-of-four with the U.S. median income of roughly $70,000 would pay $2,400 a year in value added taxes,” according to the study. “This would be a 100 percent increase over the federal income taxes currently paid by this family.”

When combined with the current weakened state of the economy, a VAT could prove especially disastrous, the study found, because its most deleterious effects would occur sooner rather than later.

“The near-term drop in output, loss of jobs, and sharp decline in consumer spending described by this report would raise additional economic worries, rather than shoring up the weak economy,” said the report.  “With the CBO projecting unemployment to not fall below 7 percent until 2013, the initial reduction in employment from a VAT, estimated to be roughly equivalent to 850,000 jobs, would make full economic recovery much more difficult.”