Mr. ALLEN. That does not necessarily follow, unfortunately, Mr. Chairman. I should say lack of money in the lower income groups, yes, that is right, but not necessarily lack of money so far as the economy as a whole is concerned.

You see, the money gets jammed up into the pipes and does not get back into the income stream. We have just as much money today in this country-I think I am safe in saying that; I have not checked this exactly-as we have ever had in the history of our country.

The CHAIRMAN. You do not view it, then, as a situation where there is need for more money and credit for investment purposes. Rather, you view it as one in which there is more need for money and credit for consumption.

Mr. ALLEN. Generally so, except perhaps in the case of housing. As I understand it, some increased moneys have been made available for housing, and it could be that there is some need for some further money for housing.

The CHAIRMAN. Very definitely, there is a need for more money and credit for housing.

Mr. ALLEN. But in the capital investment field, I do not think generally there is any lack of funds.

The CHAIRMAN. Are there any further questions of Dr. Allen.

If not, we thank you again, Dr. Allen, for a most interesting discussion.

(Following is the statement filed with the committee:)

SUGGESTIONS FOR REVISIONS OF INTERNAL REVENUE LAWS BY H. KEnneth Allen, PROFESSOR OF ECONOMICS, UNIVERSITY OF ILLINOIS

The major recommendation that I desire to make pertains to the reduction, under conditions to be indicated later, in the rates of Federal taxes, particularly in the rates of the individual and corporation income taxes. This major recommendation will be followed by suggestions for changes in three specific features of the Federal tax laws.

TAX REDUCTION AS A COUNTERDEFLATIONARY MEASURE

The Full Employment Act of 1946 affirmed that a high level of business activity and full employment was a goal of national economic policy. This policy has been reaffirmed by statements of President Truman and President Eisenhower. Implicit in the policy is the control of inflationary forces as well as the combating of deflationary forces. Thus far in the postwar period primary responsibility for the stabilization of business activity has been left to the Federal Reserve System. Even the Federal Reserve System was unable effectively to exercise its traditional powers over money and credit until the so-called accord was reached with the Treasury in March 1951. Within the limits of its powers the record of the Federal Reserve System from March 1951 to date in controlling money and credit is highly commendable.

During the postwar period, however, there has been an almost complete lack of effective coordination of monetary and fiscal controls. The strong inflationary forces that prevailed at the end of the war called for a vigorous policy of surplus financing and debt reduction. Expenditures should have been cut to a minimum, and tax rates should have been maintained or increased. In this respect, the post-World War II practice is in sharp contrast with that of post-World War i. In the 10-year period immediately following World War I, the Federal debt was reduced $9 billion or about 35 percent. Coordination of fiscal and monetary controls is highly desirable during both upswings and downswings in the business cycle, but is especially desirable during the latter. As a matter of fact, primary emphasis must be placed upon fiscal controls during a period of deep, protracted economic depression. That monetary controls are largely impotent during a period of severe depression was conclusively demonstrated during the great depression of the 1930's.

It is a well-known fact that this country is in an economic recession. Economists are not agreed as to whether this will be another relatively mild and short-term recession like those of 1948-49 and 1953-54, or whether it will be more serious. Without attempting to analyze the multiplicity of factors involved, there is a strong possibility, in my opinion, that the current recession may be of the more serious variety and it could be of a highly serious type. It is recognized that we have numerous shock absorbers, nonexistent in the 1930's, which will cushion an economic depression. Some of these are the size of the total Government budget relative to gross national product; automatic changes in Federal tax collections without a change in rates; unemployment compensation; social-security payments; guarantee of bank deposits; and the large amount of liquid savings. It is also recognized that the Federal-State highway program, debt-financed State and local public works, and stepped-up Federal expenditures for military purposes will have a counterdeflationary effect. These devices, however, will prove to be insufficient to reverse the tide of a major economic recession.

In the light of the foregoing facts, it is strongly recommended that the Congress prepare a plan of tax reduction to be put promptly into effect when unemployment reaches the 5 million level. When unemployment reaches this fig. ure it will be signal that the recession is more than a mild one. It is suggested that the initial reduction should be an average of 10 percent in individual incometax rates and somewhat smaller rate reductions in excise taxes and the corporation income tax. The proposed reduction in individual income-tax rates should apply particularly to the lower brackets of income, that is, to those under $8,000. A strong case can be made for the reduction or even complete discontinuance of certain Federal excise taxes such, for example, as the transportation tax on freight, but for the instant purpose general reductions in existing excise-tax rates would probably be somewhat less effective than reductions in the income tax. If excise taxes should be reduced, sellers would probably not promptly reduce prices by the amount of the tax reduction. Commodities subject to Federal excise taxes, moreover, represent a small percentage of the items purchased by a family. The benefits of tax reduction would thus be widely dispersed, and would probably not be sufficiently recognized by purchasers to cause them to increase purchases of nontaxed items by the amount of tax savings on taxed items. Notwithstanding the limitations indicated, a reduction in some or all excise taxes would be appropriate.

As a counterdeflationary device a reduction in the corporate income-tax rate is less desirable than a reduction in individual income-tax rates. It is true that the corporation income tax is shifted to a certain extent, and that a reduction in the rate would probably result in a decrease in prices of goods sold by such concerns. Reduction in prices, however, would probably lag behind the reduction in taxes. To the extent that the corporation income tax is not shifted, a reduction in the rate would accrue to the benefit of stockholders. But corporations might not pass along this benefit promptly to stockholders in increased dividends and, if they did, incomes of persons in the middle and higher income groups would be increased because most stocks are owned by persons in these groups. For these reasons, the initial reduction in the corporate income tax should be less than the 10 percent reduction proposed for the individual income tax.

The most effective counterdeflationary measure is to reduce taxes paid by the masses of the people. Reduction of income taxes paid by individuals whose employers are subject to the withholding tax has the effect of an increase in wages. The highest percentage reduction in rates should be made in the lowest brackets of incomes, with smaller reductions in the higher brackets. Persons in the low income,brackets have a high propensity to consume and will promptly spend increases in spending power which result from tax reduction. Personal exemptions should remain unchanged because an increase in these allowances would confer a greater dollar tax benefit to individuals in the higher income groups than it would to persons in lower income groups.

The initial reduction in rate should be followed promptly by further reductions of equal magnitude if unemployment should continue to increase substantially after reaching the 5 million level. Successive rounds of tax reduction should be planned for predetermined levels of unemployment. A second round should become effective at least when the number of persons unemployed reaches 7 million. The difficulty of administering more than one round of tax reduction in the same year is recognized, but it is a minor problem as compared with the economic and social costs of a major depression.

Tax reduction is preferable to increased spending as a counterdeflationary device. Increased spending for military purposes is slow in being felt by the entire economy. Such an increase may, of course, be necessary in the period ahead for reasons other than countercyclical. Increased expenditures for public works has often been suggested as an effective counterdeflationary measure, but most public works have a low social priority as compared with the things individuals would buy with increased purchasing power resulting from tax reduction. A great deal of time is required, moreover, to implement a vast public works program. Increased public expenditures for countercyclical purposes might become necessary but it should be subordinated to tax reduction in the emphasis placed upon it.

The implications of the proposal set forth above upon the Federal debt are readily apparent. If it should become necessary to reduce tax rates to combat an economic depression, a substantial increase in the public debt would be inevitable. To pave the way for such an increase, the maximum limit of the debt should be increased immediately. It must be kept in mind that it would be easier to support a public debt of $300 billion to $325 billion with an annual gross national product of $400 billion than it would be to support a debt of $275 billion with a gross national product of $300 billion. If left to take its natural course, gross national product could easily fall to $300 billion or below in a major economic depression. This possibility is supported by the precipitous decline which occurred in gross national product during the 1930's. The size of a public debt in itself has little significance; it is the ability of an economy to support the debt that is important.

Whether the current recession will degenerate into a major downswing cannot yet be determined, but the Congress should be prepared to take prompt and vigorous action when unemployment reaches the critical level of 5 million. The proposed plan of tax reduction should be given priority over increased expenditures at least in the early stages of a major economic depression.

CHANGE IN TAX TREATMENT OF INTEREST ON GOVERNMENT SECURITIES

One of the remaining major vestiges of the doctrine of reciprocal tax immunity which was established by decisions of the United States Supreme Court in the 19th century is the exemption of interest on municipal securities from the Federal income tax and of interest on Federal securities from State and local income taxes. By court decisions in the 1930's, salaries of Federal employees on the one hand and of State and local government employees on the other were removed from the exempted status which they had long enjoyed.

The exemption of interest on municipal securities from the Federal income tax is especially objectionable because it confers a substantial tax advantage upon individuals in the higher income brackets who own such securities. The advantage in the case of Federal securities is much less because the rates of State and local income taxes are much lower than those of the Federal income tax. Not only does the exemption feature confer an unwarranted tax advantage upon wealthy individuals, but the competition among investors for such securities enables State and local government to borrow at substantially lower rates of interest than would otherwise be possible. Municipalities with good credit ratings have been able in recent years to borrow funds on a long-term basis at rates markedly lower than the rates on comparable United States Government bonds. The ridiculousness of the situation is apparent when a small city can borrow long-term funds at a lower rate of interest than that on a United States bond. Municipalities admittedly derive substantial savings in interest costs from the present arrangement, but these savings are offset, or more than offset, by higher Federal taxes than would otherwise be necessary. Municipalities and wealthy individuals gain from the tax-exemption feature but taxpayers in general lose. Another highly objectionable aspect of the present arrangement is that it distorts the normal pattern of investment. It gives municipalities an unjustifiable advantage in competing with private corporations for capital funds with the inevitable concomitant of a misallocation of resources.

It is recommended that the interest on new issues of municipal securities be made subject to the Federal income tax and that State and local governments be permitted to tax the interest on new long-term issues of Federal securities. A possibility exists that the proposed change would require a constitutional amendment, but there is at least a fair chance that it could be effected by statutory enactment. If such a statute should be held unconstitutional, steps should then be taken to amend the Constitution.

DEDUCTION OF DIVIDENDS IN DETERMINING TAXABLE NET INCOME

The inequity resulting from the double taxation of corporation dividends has long been recognized and a modicum of relief has recently been provided. Dividends paid by a corporation to individuals are not deductible under existing law in computing the corporation's net taxable income under the Federal law. Except for a small deduction and a small tax credit, corporation dividends are subject to the individual income tax. This double taxation discriminates against corporations as compared with unincorporated businesses, and encourages unreasonable retention of earnings by corporations in order to minimize the individual income-tax liability of stockholders. The excessive retention of earnings is especially prevalent in family-controlled corporations. A further objection arises from the preferential treatment accorded interest on borrowed capital. Since interest on borrowed capital is deductible and dividends are not deductible in computing corporate net taxable income under existing law, corporations financed extensively by borrowed capital enjoy an unwarranted advantage over those financed primarily by stockholders' capital.

The best solution to the problem of double taxation of dividends is to allow corporations to deduct amounts paid out as dividends to stockholders in computing taxable net income. Under this plan, undistributed corporate profits would continue to be taxed under the corporation income tax and dividends would be taxed to stockholders. Dividends would thus be subject to the graduated rates of the individual income tax in the same manner as other income. Except for the difference in rates between the corporation tax on undistributed profits and the personal income tax, the plan would attain the highly desirable goal of integration of the two taxes. The proposed plan, moreover, would remove one of the major incentives under the present law for the unreasonable accumulation of undistributed profits. Finally, it would better equalize the situation as be tween debt-financed and equity-financed companies. Because of the impact that the proposed change would have on Federal revenues, it would have to be put into effect gradually over a period of 5 to 10 years.

FEDERAL ESTATE TAX

The credits allowed under existing law against the Federal estate tax liability for State inheritance, legacy, or estate taxes should be increased to a flat 80 percent. Revenues from the Federal estate tax represent a minor source of Federal tax collections, but allowance of an 80 percent credit against the total Federal estate tax would provide a substantial measure of relief to State governments. This proposal is further justified by the fact that the transfer of property at the death of the owner is governed by State laws and State and local governments provide the probate courts and other facilities for the administration of estates.

A serious loophole in Federal estate tax and gift tax laws arises from the provisions which permit deduction of bequests to various types of nonprofit organizations. Many wealthy individuals have been able to avoid these taxes completely by giving their property to such organizations. The Federal Government thereby loses large amounts of revenue that must be recouped from other taxpayers. There is a strong possibility that the taxpayers or the Government could use these funds to a greater social advantage than can the nonprofit organizations which now disburse them.

These comments are not intended to reflect unfavorably upon the many socially desirable projects financed by tax-exempt organizations. It is submitted, however, that it is desirable for these organizations to subject their programs to the "test of the market" to a greater extent than is now done. It is recommended, therefore, that the allowance for gifts and bequests to nonprofit organizations be limited to 50 percent of the amount so transferred. In making this recommendation, it is assumed that present allowances for deductible contributions under the income tax law will be continued.

The CHAIRMAN. Our next witness is our friend of a number of years, Dr. Atkeson. We remember you quite well from the years you served in the Internal Revenue Service. We welcome you back to the committee in your present capacity as professor at the College of William and Mary.

Dr. Atkeson, for the purpose of the record, will you give your name, address, and the capacity in which you appear? Mr. ATKESON. Thank you, Mr. Chairman.

STATEMENT OF THOMAS C. ATKESON, PROFESSOR OF TAXATION, COLLEGE OF WILLIAM AND MARY

Mr. ATKESON. Mr. Chairman, with your permission, I should like to suggest 3 adjustments in the individual income tax which will facilitate compliance and administration, and to suggest 2 changes affecting the base. In selecting these items I should like to mention that I have attempted to cover areas which I did not think some of the other witnesses would cover.

Mr. MASON. Mr. Chairman, may I ask this first?

You are a professor of taxation at William and Mary, and not a professor of economics?

Mr. ATKESON. No, sir; professor of taxation.

Mr. MASON. That is what I wanted to get clear, because the first one was a professor of taxation, the second one was a professor of economics, who gave the results as he saw them of the taxation, and now we are getting this approach.

Thank you, sir.

The first of the sections dealing with compliance and administration is section 141, related to the standard deduction. In general, this section allows a deduction in an amount equal to 10 percent of the adjusted gross income or $1,000 whichever is smaller, in lieu of itemized deductions. For taxpayers with adjusted gross income of less than $5,000, the effect of the 10-percent allowance is built into the optional tax table prescribed by section 3, which must be used by all taxpayers with incomes of under $5,000 who elect to use the standard deduction.

Thus, an unmarried wage earner making $60 a month, or $720 a year, who uses the tax table is liable for tax of $8. This is the tax for all adjusted gross incomes in the bracket of $700 to $725. For purposes of the table the tax is determined by use of the midpoint of the bracket; namely, $712.50 minus 10 percent as the standard deduction and minus the personal exemption of $600, leaving a taxable income of $41.25 to which the 20 percent rate is applied resulting in a tax of $8.25 which is rounded to the nearest dollar.

The standard deduction in this case is, therefore, $71.25. If this wage earner had deductions for charity, taxes, medical expense, and the like of more than $71.25, he would be entitled to itemize his deductions and pay a lesser tax.

But the wage earner with a total income of only $720 is not often able to afford these types of deductions on such a low income, and, therefore, cannot claim them. Moreover, if he could it would require burdensome recordkeeping, particularly in respect to medicine and doctors' bills.

The infrequency of his ability to itemize deductions is evidenced by the fact that out of 1.3 million returns reporting incomes for 1954 of from $600 to $1,000 on which a tax was paid, only 71,000 showed itemized deductions.

Because of the need to keep the personal exemption at the present low level of $600, the tax and recordkeeping requirements seem unduly