Many of the various stimulus proposals floating around aim at an important objective: increase spending. Why allow businesses to write-off 100% of their equipment purchases? Then they'll spend more. Why extend the Bush tax cuts? With more money in their pockets, Americans will spend more. Of course a payroll tax holiday would have a similar effect. In a recovery, spending matters a lot -- particularly in the U.S. where consumers are responsible for some 70% of GDP. Businesses are waiting on demand to increase before they start hiring aggressively. But all of the proposals above can only hope to indirectly increase expenditures. So why not directly target spending through a sales tax holiday?
How It Would Work
The idea is simple enough. When consumers buy goods and services, if they pay sales tax, then the true price is higher. By temporary eliminating that tax, they will be encouraged to buy more. They will also effectively have higher disposable incomes, since they would pay less for the goods they would have bought anyway. This would especially encourage the purchase of discretionary products like consumer electronics and services, which are particularly important for job growth.
As businesses sense increased demand, hiring will ramp up. Ideally, by the time the holiday ends, employment will have recovered enough that spending at least maintains the level it had reached. So the hope is that the measure doesn't merely pull forward future demand like so many other stimulus attempts, but that's always a risk with any temporary stimulus.
The major obstacle here is that the federal government does control sales tax: states do. But that's pretty easily remedied. The federal government can just reimburse states for whatever income was lost due to the holiday. And this reimbursement should be based on what was budgeted, not what would have been paid, since the holiday should increase sales and consequently would inflate revenue. But since states would not necessarily have obtained that revenue without the holiday, any additional amount they might have collected does not need to be reimbursed.
How much is that? It's hard to tell. But based on 2009 numbers from the Census Bureau, states collected $342 billion in sales taxes. To be sure, that's a pretty big number. But it will also result in a potentially huge economic stimulus, so may be well worth the price. That would probably be approximately how much the holiday would cost if in effect for an entire year. Obviously, a six-month holiday would cost half that. You could also reduce the cost by leaving taxes on certain goods in place, like gasoline or tobacco (which are included in the 2009 tally above).
As already mentioned, this would almost certainly help to increase consumer demand, and consequently employment. Some Americans who choose not to spend more might instead use the extra money they save to rebuild their balance sheets. But that's okay too. If that saving was inevitable anyway, then the sales tax holiday will still help that happen more quickly, so they can get back to spending as usual sooner.
The holiday will be a very significant boost for consumers. On taxed goods, they will generally save somewhere between 3% and 8.25% on most discretionary purchases depending on their state, though a couple states have no sales tax. This is essentially like increasing consumers' disposable income by that amount.
The other really nice feature of a sales tax holiday is that it's one of the most progressive measures out there. Yet unlike most progressive tax schemes, the holiday doesn't stick it to the rich. Everyone benefits, but the low- and middle-classes will feel the holiday more, since they spend a larger amount of their income than wealthier Americans. But wealthier Americans will still benefit, and also still likely spend more.
Among possible stimulus measures, a sales tax holiday should be a standout. Yet the possibility hasn't been discussed at all. As additional proposals are being considered, an idea like this with so little potential downside and so much potential upside should have a prominent place in the debate.
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