McCain and Obama on Tax Reform

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Both prefer to embrace tax subsidies targeted toward boosting valuable social goals, such as health-care reform. Problem is, that strategy carries a cost in complexity.

What Would Adam Smith Say?

Then there are value judgments. Personally, I like McCain's idea to cut the corporate income tax rate, although I would go further and abolish it altogether. But I prefer the greater progressivity of Obama's tax approach.

That said, I'd like to propose this standard for judging tax reform. It was written more than two centuries ago by political economist Adam Smith. In Book Five of The Wealth of Nations, he proposed four maxims with regard to taxes in general. They are equality, certainty, convenience, and economy.

Smith wrote: "All nations have endeavored, to the best of their judgment, to render their taxes as equal as they could contrive; as certain, as convenient to the contributor, both in the time and in the mode of payment, and, in proportion to the revenue which they brought to the prince, as little burdensome to the people." Of course, as Smith went on to say, most nations have also fallen far short of these goals.

A Flatter Tax Rate Is More Efficient

(I'd also add that Smith embraced progressivity: "It is not very unreasonable that the rich should contribute to the public expense, not only in proportion to their revenue, but something more than in that proportion.")

In other words, the centerpiece of tax reform should be simplification, reducing the interference of the government through the tax system in the financial affairs of households and business, and streamlining the progressive income tax system. Flattening the rate structure and broadening the tax base would go a long way toward improving economic efficiency and simplifying taxpayers' lives. The long-forgotten 2005 proposals by a blue chip panel appointed by the White House offered up a starting point.

But in this election, neither candidate is paying much attention to the Report of the President's Advisory Panel on Federal Tax Reform, let alone Book Five of The Wealth of Nations.

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Farrell is contributing economics editor for BusinessWeek. You can also hear him on American Public Media's nationally syndicated finance program, Marketplace Money, as well as on public radio's business program Marketplace. His Sound Money column appears on BusinessWeek.com.