Is a Flat Tax politically feasible in a grown-up Welfare State?

The introduction of a ‡at tax is supposed to have several advantages. Administration and compliance costs are reduced, as well as incentives for tax evasion. Furthermore, positive employment and growth e¤ects are expected. Despite these advantages, a ‡at rate tax is not very popular in most Western European countries. The most important objection against a ‡at tax states that a ‡at rate tax would be inequitable and unfair. The present paper uses a simulation model based on a unique database of German micro data to provide empirical evidence for the analysis of the equity and e¢ ciency e¤ects as indicators for the political feasibility of ‡at rate tax reforms. Our analysis shows that the selection of the schedule and tax base parameters are crucial for the e¤ects of ‡at tax reforms in terms of equity and e¢ ciency. A ‡at rate tax with a higher basic allowance and a higher single rate has less harmful distributional e¤ects than a ‡at rate tax with low basic allowance and tax rate. Nevertheless, the scenario with the lowest parameter values for basic allowance and tax rate is the only alternative that leads to positive labour supply and signi…cantly positive welfare e¤ects. Both labour supply and static welfare e¤ects, however, are quite small. Although we have derived our results for the case of Germany, we do think that similar patterns would be observed in other countries of Western Europe. If this proves to be correct, it will be hard for ‡at tax reforms to invade the grown-up welfare states of "Old Europe". JEL Codes: D31, D60, H20 Keywords: Flat Tax reform, equity, e¢ ciency, distribution, welfare Cologne Center for Public Economics (CPE), University of Cologne, Germany. E-Mail: [email protected], [email protected], schaefer@…fo-koeln.de