How's this for revising the tax code?

The other day I was contemplating the federal government's various sources of revenue, marveling at the wisdom of the framers in constructing a government that has such a hard time approving new revenues (i.e. tax increases), and lamenting that the political class can simply borrow the money instead -- or even print it if needed, as the Federal Reserve Bank has done to astonishing levels recently.

I then free-associated to the nature of the fed's money-printing privileged.  It's essentially a free license to counterfeit.  The reason counterfeiting is considered 'bad' is because it effectively reduces the value of the currency being counterfeited, which can cause a lack of confidence in the currency, and all of the attendant issues arising from that lack of confidence.  But many economists seem to believe that not only is it acceptable for the federal government to issue counterfeit* paper, but that it is in fact the only way to get out of a business cycle recession in which the core issue is perceived to be a 'liquidity trap' (i.e. we're in a recession because of a lack of spending, but people are spooked so they won't spend).  As I understand it the theory is that you pump the economy so full of liquidity that people 'feel' rich, and therefore spending resumes, thus pulling the economy out of the 'liquidity trap'.  In this case, the fed is putting the cash directly into bank reserves in order to 'pump up' their books so they look less risky.  This is supposed to encourage short-term lending, which is supposed to allow businesses to borrow-and-spend at pre-recession levels.

My purpose with this post is not to get into whether or not that theory is valid, or whether or not its implementation has worked (although I think evidence shows that it hasn't -- thus Obama's new $400b+ jobs bill stimulus package).  My purpose is rather to highlight a solution to the revenue problems of the federal government, based upon the fed's ability to counterfeit.  The solution is this:

Instead of bothering with trying to get taxes and spending cuts passed; instead of implementing and maintaining a tax code that is thousands of pages long and impossible to comply with in an absolute sense; instead of periodic political squabbling over revenue vs. tax increases; instead of maintaining the charade that we're ever going to cut spending and increase revenue such that the budget can be balanced, why not simply do four things:

1. Eliminate all taxes
2. Authorize the federal government to borrow all the money it needs for spending
3. Use the federal reserve to print all the money necessary to pay for that borrowing
4. Require a balanced budget

The result would be an inflation rate that would most likely be in the double-digits, but it would also be the effective tax rate -- the amount of money each person loses due to inflation each year would be their yearly federal tax rate.  It would also mean that any time new spending was approved a corresponding change in the inflation rate would also have to be approved.

Now, this is somewhat tongue-in-cheek.  I certainly don't believe it is a viable (to say nothing of moral or ethical) solution.  But that's the point.  The only difference between what the federal government does now, and this plan, is a matter of quantity.  Are we to print money to pay for all spending, or just some portion?  If just some portion, what makes that more sustainable than the alternative?  At what point does the portion that we are paying for through counterfeit become large enough that the plan fails?  Is that failure point some absolute value?  A specific rate of inflation?  A percent of GDP?


Now, I know there are very obvious arguments against this: Keynesian economists would probably argue that massive expansion of the monetary base is not warranted except in dire circumstances -- using it as a matter of course is not recommended.  Progressives would probably argue that the result is a flat tax that doesn't allow them to practice class warfare effectively target revenues according to financial status.

Really, the point is simply to highlight the questionable nature of the fed printing machine.  However, I actually prefer this plan in some ways to what we have currently:

• It would inflict real, immediate pain on the people each time new spending is approved -- the associated increase in inflation rate would force politicians to convince the current electorate of the need, rather than simply off-loading it to future generations.
• It's effectively a flat tax -- there is no way for the federal government to divide the people into groups by their finances, and then pit them against each other... unless they issue separate currency for poor people versus rich people and set the inflation rate for each at different levels.
• It would make it clear to everyone exactly how much of their wealth was being confiscated each year by the federal government. With a tax code that fools even Warren Buffet into believing his effective tax rate is only 17%, this would be an improvement.
• It would make it transparent whether or not the federal government's tax rate was helping or hindering the economy: If interest rates settled under this regime to a value less than the inflation rate, then it would become quite clear the the federal government was destroying wealth rather than creating it!  (of course, that would only work if the fed wasn't manipulating interest rates)
• It would make it more difficult for the fed to pick economic winners and losers (i.e. crony capitalism) -- if there were no tax breaks to hand out then there would be no way, other than explicit handouts in the form of direct subsidies and/or guaranteed loans, for the fed to create preferential conditions for specific industries and companies.
• It would make it more difficult for the fed to interfere with free trade since it would no longer be able to implement punitive and/or preferential tariffs (remember point 1 -- all taxes have been eliminated).  
• It's potentially more stable and predictable than the current regime... though I suppose there's no reason to think the fed wouldn't make quantitatively large adjustments to the spending (inflation) rate over short-term periods.

At this point I think I've taken it far enough...