Opinion: A value-added tax is one solution to the crippling debt problem

Interest on the national debt in 2024 will cost a staggering $870 billion. This sum exceeds the amount we spend on defense, which is the largest of the discretionary items in the budget, according to the non-partisan Congressional Budget Office. Put another way, one-third of what Americans pay in personal income taxes goes to servicing our national debt whose largest holders are Japan, China, and the UK.

What’s more, the CBO believes that the problem will get a lot worse.

In the past, Republicans railed about deficits and clamored for a balanced budget. No more. The budget profligacy has been as bad under recent Republican administrations as under free-spending Democratic administrations.

What this means is that we will be saddled with high interest rates for much longer than we, or the Federal Reserve, had hoped. The buyers of our debt, including the aforementioned Japan, China and the UK, will demand higher interest rates that reflect our declining credit standing and apparent lack of concern over our mounting deficits.

This is already happening.

Early this year, Fed watchers expected the central bank to reduce interest rates six times during calendar 2024. Chair Jerome Powell even suggested that there would be multiple rate decreases.

Those optimistic expectations have faded with the wind.

Now we will be lucky to get a single rate reduction and even that is not guaranteed. The cause for the change is generally blamed on the persistence of inflation. That’s true, but interest rates remain stubbornly high and our mounting debt can take some of the blame.

When will Congress address this issue?

If history is a guide, Congress will not address the mounting deficit issue until a major crisis forces them to act. The crisis will likely take the form of a spike in interest rates that the Fed will be unable to control, while buyers of our debt demand higher interest rates.

The effect of higher interest rates will reverberate dangerously throughout the economy and force Congress to take action.

What can Congress do?

The options are few and hard to swallow.

Reductions in spending are limited since so much of our budget consists of mandatory obligations like Social Security, Medicare, and Medicaid. In FY 2023, mandatory spending was $3.8 trillion out of a total budget of $6.1 trillion. Of the $1.8 billion in discretionary spending, the defense budget took up almost half the amount with interest on the national debt close behind. And as pointed out, interest expense has now eclipsed defense spending in size.

So where to cut? Reduce Social Security? That’s the proverbial hot rail of politics and no member of Congress who wants to keep his or her job will even entertain a discussion of it.

The hard fact is that we need to increase revenue to balance the budget.

There is only one way to raise the amounts that will make a difference and reduce the deficit: do what every other developed country has done and institute a value-added tax.

The VAT, as practiced in most countries, is a tax added at various stages of production rather than at a point of sale. As such, it is invisible since it is not an annoying add-on at the cash register.

The Congressional Budget Office estimates that a broad 5% tax of this kind could raise $3 trillion over the next decade. Critics of the tax often claim that it is both inflationary and regressive in that it would hurt low-income Americans the most. That part can be solved by allowing a tax credit for lower-income earners.

So what will it be? Will there be timely congressional action to address the problem or will we have to wait for a major crisis for action to be taken?

Sadly, I’m betting on the latter.

Peter J. Tanous is the founder and chairman of Lynx Investment Advisory in Washington, D.C. He is the author of several investing-related books, including two with CNBC’s Jeff Cox: “Debt, Deficits and the Demise of the American Economy” and “The Thirty-Minute Millionaire.”