The close of 1997 marked two significant episodes in the life of the Lithuanian Free Market Institute-the seventh anniversary of the institute’s founding and the completion of a pro-liberal tax and budget reform proposal. The latter is a gratifying and noteworthy result of seven years of consistent and focused efforts in conducting research, exploring the history and geography of taxes, and providing input to the policy making process and public debates in Lithuania. These activities have furnished LFMI with the expertise necessary to develop a plan for a full blown tax and budget reform. Its direction was not prompted by fortuitous findings, personal preferences, or intuition. It draws on that vision of a free market which we at LFMI have been championing, and Lithuania professing, ever since the restoration of independence in 1990.
The proposed tax reform is designed to replace the arcane and unwieldy tax system, a system that distorts the workings of the market, cripples individual motivations, fuels the expansion of the shadow sector and presents a drag on the growth of real incomes. The spirit of and approach to the reform tally with the most progressive trends around the world, for it is universally recognised that taxes have come to be marked by complex and costly compliance mechanisms, a lack of procedural transparency, and fragmentary tax relief. What is more important, taxes today are invariably used as tools for regulating the economy, either openly-through varying tax rules and rates, or covertly-through untransparent and personalised enforcement of laws. Lithuania is no exception.
The reform proposal from LFMI draws a picture of tax and budget systems that would facilitate liberating creative human powers and providing conditions for the pursuit of well-being by means of efficient work, private ownership, and free exchange.
Before launching a far-reaching reform, the aim should be to formulate and justify the tenets of the new system. This is essential for a consistent approach to reform and for preventing eclectic, incoherent decisions and attempts to copy the models adopted in other countries.
The traditions of classical liberalism were the bedrock on which LFMI’s efforts rested. It also explains the heading “a pro-liberal reform proposal.” The principles attached to the proposed tax system, which were delineated in The Free Market No 4, include a revenue-generating, as opposed to regulating, role of taxes, economic neutrality, fairness, a declining tax burden, single taxation, regular tax rates for all tax payers, transparency as well as inexpensive and automatic tax compliance and administration.
The method we used in defining the direction and steps of the tax reform was by assessing how basic types of taxes conform to the said principles. The unrivalled tax in this respect is capitation, or poll, tax. Its effect is that every person carries an equal share of the cost of the state. Obviously, replacing other taxes with capitation tax requires society’s profound understanding of the essence and purpose of government as well as readiness for change.
The pivot of the proposed reform is therefore the removal of income taxes and a shift to a single tax, similar to value added tax, coupled with earmarked, or trust fund, taxes. The former is viewed as a uniform tax unfettered by breaks or exemptions. Earmarked taxes are contemplated as taxes levied on public services that continue to await privatisation and charged directly on the recipients of the services, thus preventing redistribution.
The proposed tax reform is intended to replace the tax code so as to minimise its destructive effects on market processes and economic agents, to cut down the cost of tax administration, and to ease and level the tax burden. Yet, the tax burden is manifold. If it is to be reduced in all it forms, a comprehensive revision of budgetary policy and public spending is needed along with tax cuts, the conversion of targeted tax breaks to general tax relief and the adoption of simple and explicit rules. A steady privatisation of government functions is regarded as the only effective measure to ease the tax burden, curtail redistribution and provide conditions for resources to be channelled to their most efficient uses.
This issue of The Free Market expands on the forms and ways of lifting the burden of the state, indicating the place and role of the proposed tax and budget reforms. The remaining measures- the revision of government borrowing as well as monetary and banking policies-are featured without proposing explicit policy actions.
The LFMI’s programme for tax and budget reforms, which is presented in this issue of The Free Market, may look extreme but it is only coherent and logical. It outlines a sequence of action for an invariable pursuit of the aim chosen. The society’s and government’s readiness to undertake reforms is a vital prerequisite, but it is worthless in the absence of a timely and exhaustive programme of what to do, why, and how. We saw our mission in working out such a programme.