To Promote U.S. Employment, Change FICA

The easiest way for the U.S. Government to improve domestic job growth would be to change how the businesses’ obligations under the Federal Insurance Contributions Act (FICA), or Social Security are calculated. Instead of basing a company’s contribution to the Social Security Trust Fund on its U.S. payroll, we should base it on each company’s U.S. revenue. Doing so would immediately lower U.S. wage costs by 7.65% relative to the rest of the world, which will have a far larger impact on domestic employment than any worker re-training program. Basing a company’s FICA contribution on its U.S. revenue would be more consistent with the distribution of benefits and further would arguably be less manipulative of the economy.

At a fundamental level, taxes are payments for services. One of the most basic services that government provides to its citizens and businesses is to promote economic stability; the government protects against extreme swings in the business cycles to insure a recession doesn’t become a depression and that an expansion doesn’t become hyperinflation. Social Security is a critical part of the government’s economic management. By mandating an income transfer to people who are retired from the labor force, Social security helps maintain a basic level of demand, insuring that people who are no longer able to work are still able to afford and keep buying food and shelter. This steady buying-base of retirees greatly broadens our base of consumers, helping to dampen swings in the business cycles and to protect against extreme drops in demand which might lead to a depression.

The honesty of the transactions between a government and its citizens do matter. Democracy is better served when taxes are explicitly linked to the service government actually provides, and except in policies with consciously redistributive goals, the payment for the services should be born proportionately by all the parties using the services. All individuals and businesses in the U.S. benefit from the government’s efforts to insure a stable economy. Further, individuals benefit in that they themselves will eventually be retired, and receiving payments from Social Security instead of paying in, and businesses benefit in that they have additional consumers to sell to.

Currently Social Security is paid for by two taxes – 7.65% on an individual’s income up to $87,900, and a matching amount collected from the individual’s employer. For individuals, the distribution of the tax burden matches the distribution of the benefit – every employed or self-employed person pays into the fund. For businesses, the distribution of the tax burden does not match up to the distribution of benefits. All businesses selling their products in the U.S. benefit from economic stability and the broader base of Seniors to sell to. However only businesses that employ U.S. workers pay into the trust fund. Essentially, businesses with more U.S. employees subsidize businesses with fewer or no U.S. employees.

When Social Security was first established in the Depression, the idea that the government should have a role in the economy was still very much in debate. Structuring the business contribution to Social Security as a match to the employee’s portion was a political convenience; businesses weren’t paying government to manage the economy, they were paying for the privilege of employing U.S. workers. Further, given the modest level international trade at the time and the labor-intensiveness of most economic activity, the distribution of the tax burden wasn’t necessarily unfair.

Needless to say, our historical situation has changed - we are in an internationally-competitive marketplace. With significant global trade and competition for jobs, we are grateful when a business employs U.S. workers. All taxes shape the economy in some way. The distribution of the Social Security tax burden shapes against U.S. employment, by making foreign labor less expensive relative to U.S. labor. And as noted, the distribution of the cost no longer matches the distribution of the benefit – businesses that pay very little into the trust fund still enjoy the benefit of a stable U.S. economy and have the opportunity to sell to Seniors on social security.

It is time for our tax code to reflect the evolution of our economy and the role government actually plays in that economy. All businesses that sell to U.S. seniors benefit from Social Security. Why should General Motors be charged by the government for the privilege of selling to Seniors, but a company which produces outside of the U.S. pay no fee? Both benefit equally from demand manipulation. Why should domestic producers be penalized for a government service used by all companies that sell in the United States? Basing a company’s FICA contribution on its U.S. revenue would be more consistent with the distribution of benefits and by lowering U.S. labor costs by 7.65% would remove an economic distortion that is costing the U.S. jobs.

The math of moving from a match of employer’s contribution to a revenue based FICA tax is fairly simple, though there is certainly room for discussion as to which numbers should be included in the math, for instance gross domestic product versus gross domestic purchases. The employer’s match for Social Security was about $342 billion in 2003. Gross domestic product, by at least one measure, was about $10.6 trillion in that year. This translates into a tax rate of 3.22%, or $3.22 for every one hundred dollars of domestic sales. Thus under revenue-based taxation a small business generating sales of $1,000,000 would pay $32,220 contribution to the Social Security Trust Fund. A corporation with U.S. sales of $50 million would pay $1.6 million in taxes.

Moving to a revenue-based FICA tax is certainly much simpler to write about than actually to accomplish. Any change of this magnitude generates significant political pushing and shoving as the different interests work to make their desires known. While exponentially less complicated than defining the multiple costs and depreciation schedules necessary to calculate profit, defining revenue can still leave room for interpretation. Arriving at the correct tax rate to make the transition revenue-neutral will be complicated, and proponents of tax cuts and tax increases will certainly be tempted to use the changeover to advance their specific agendas.

Moving to a revenue-based business FICA tax would probably not have an immediately noticeable impact on our economy; companies with foreign production will not suddenly start moving jobs back to the U.S. However revenue-based business FICA taxation would be a good long-term policy, and would be a more honest tax. Government taxing a company’s revenue rather than its U.S. payroll would create a closer link between the actual benefit of governmental services and who is charged for it. A revenue-based business FICA tax would be a meaningful reform which over the long term will help insure the continued health and vibrancy of our economy in the global market.

Posted by at March 26, 2004 11:37 AM