Introduce a 10 Percent Value-Added Tax

The United States is one of the few countries in the world that does not have a value-added tax (VAT). A VAT is like a sales tax in that it is designed to tax all final consumption. Typically, VATs are administered through a credit-invoice system, in which companies at every step of the supply chain charge VAT to their customers and receive a credit for VAT paid on business inputs. VATs are usually border-adjusted, meaning they tax imports but exempt exports.

This option introduces a VAT of 10 percent on a broad base, covering approximately 72 percent of US GDP. As such, even a low-rate tax could raise a significant amount of revenue. In practice, most VATs exempt certain sectors of the economy, such as non-profits and health care. A VAT with large exemptions would raise much less revenue. A VAT would reduce after-tax returns to labor. As a result, it would have a negative impact on incentives to work, reducing hours worked and total economic output.

On a conventional basis, this option would decrease the primary deficit by $16,291.2 billion over the budget window. Long-run GDP would fall by 2.6 percent, and long-run GNP by 1.1 percent. The gap between the effect on output (GDP) and income (GNP) is a result of the large change in the US budget deficit; a smaller budget deficit reduces interest payments to foreigners, which increases GNP.

On a dynamic basis, the primary deficit would decrease by $12,959.0 billion from 2027 through 2036, $3,332.2 billion less than the conventional estimate. Incorporating changes in interest costs, the publicly held debt-to-GDP ratio would be lower than baseline, reaching 71.6 percent by 2056.

On average, in 2036, taxpayers would see decreases in their after-tax incomes of 8.1 percent. The top quintile of taxpayers would experience a 7.9 percent decrease, while the bottom quintile would experience an 8.1 percent decrease. On a long-run dynamic basis, taxpayers would see a 10.1 percent decrease on average.