Radical Reform: A Modest Proposal

Filing one's taxes is always a pain, nowhere more than in Germany--home to the world's most byzantine tax code. German citizens have to abide by 118 tax laws, consider 96,000 regulations and choose among 185 different forms. They must distinguish between seven types of income, 69 sources of tax-free earnings and 419 categories of loopholes and write-offs. The average German spends 1,036 euros each year to do his taxes; demand sustains an army of 75,000 tax consultants and 70 percent of the entire world's output of tax literature. Generations of politicians have promised to tame this chaotic monster, only to end up "fixing" the problem with yet more regulations.

That's why the most electrifying news coming out of the German election campaign so far has been the sudden rise of Paul Kirchhof. Recently nominated by Christian Democratic leader Angela Merkel as shadow Finance minister, the former constitutional-court judge has promised a radical new tax system if Merkel wins the chancellorship in the Sept. 18 elections, as now looks very likely. (Last week Merkel's party had a stable 12-point lead over the incumbent Social Democrats.) Kirchhof's not-so-modest proposal? To sweep away all exemptions and write-offs--and introduce a 25 percent flat tax for all but the lowest of incomes.

He's not the first to call for a national flat tax. Slovakia has one. So, as of recently, does Romania. Quixotic presidential candidate Steve Forbes even proposed one for the United States, though neither it nor he was considered very seriously. But in Germany, Kirchhof might well soon be in a position to push his proposal. As he sees it, an ordinary German worker should be able to do his taxes in no more than 10 minutes. And a flat tax would be far more "simple and just," says Merkel, whose appointment of the rhetorically gifted Kirchhof is widely seen as the clearest signal yet that she's serious about German reform.

It's easy to see why tax reform would hit at the heart of the German malaise. Citizens have invested billions in dubious write-off schemes instead of profitable--and job-creating--ventures. One and a half million housing units stand empty in eastern Germany, to a large extent the result of lavish post-unification tax breaks. A low flat tax with no exemptions wouldn't merely put an end to this vast misallocation of resources. More, it would change the country's whole social contract with its citizenry. Those 96,000 tax rules are a product of Germany's traditional consensus that government needs to micromanage people's lives as well as the country's economy. Their continued existence bears witness to the power of lobbies and vested interests to resist change. Eliminating them wholesale, as Kirchhof advocates, would be nothing less than a revolution, getting meddlesome bureaucrats and lobbies out of daily life. "Germany would become a freer and more successful country overnight," the Berlin daily Die Welt commented last week.

Kirchhof faces predictable criticism. A flat tax is "unsocial" and favors the rich, officials of Chancellor Gerhard Schroder's SPD sniffed last week. Kirchhof snapped back, reminding Germans that it's the present system that favors the wealthy, who pay a far lower share of the national tax revenue than in many other countries, including the United States. (The richest 10 percent pay two thirds of all U.S. income taxes, while in Germany it's barely half.) It's also worth noting the experience of 11 mostly Eastern European countries that have recently introduced a flat tax. Revenues often soared even as rates were lowered--and that could prove to be the case in Germany, too. One reason: a simple, low rate makes evasion less attractive. And German multinationals that now move profits to lower-tax countries would be more likely to pay taxes at home. Economists estimate that a simpler tax code, by encouraging Germany's wealthy to invest in productive projects instead of obscure tax write-offs, could raise German GDP growth by several tenths of a percent.

To be sure, it's highly uncertain that Kirchhof's vision will become reality. In the complex dynamics of German coalition politics, it's not even clear if Merkel will be able to install Kirchhof in her cabinet. And even if she does, major figures within the CDU have already come out against his radical ideas. So far, the CDU election platform only promises vaguely to make taxes simpler and fairer, and even Merkel has made clear that Kirchhof's flat tax, for now, is a "longer-term goal," not concrete post-election policy. Still, it's a clue to how far Merkel might be willing to go. The fact that Germany is now at the forefront of the flat-tax debate is an encouraging sign that far-reaching change is not only thinkable but perhaps even possible.