The interim Liberal leader said Wednesday that forcing employees and employers to pay Employment Insurance premiums is counter-productive, discourages hiring and inhibits job creation.
He said those who can't find jobs must be supported financially but Canada needs a "serious debate" on how best to pay for it.
"A premium is a tax and payroll taxes discourage hiring," Rae said in a major speech to Toronto's Economic Club of Canada.
"Make no mistake. Payments to people who have no work is essential and a hallmark of a decent society and an automatic stabilizer for the economy. But how we pay for them should be the subject of a serious debate."
The text of Rae's speech was made available in Ottawa.
Rae called on the Harper government to freeze EI premiums now and launch a review of the whole notion of payroll taxes.
Finance Minister Jim Flaherty announced Tuesday that the government is cutting by half a payroll tax hike scheduled to go into effect Jan.1, which would have raised premiums by 10 cents on workers and 14 cents on employers per $100 of insurable earnings.
In an interview prior to his speech, Rae said the announcement "is not as much progress as I would like Mr. Flaherty to make, although he is finally admitting the strength of our argument."
"This is not a time to be increasing employment taxes at all," he told The Canadian Press.
While he wants to end premiums, Rae offered no specific alternative for paying for Employment Insurance.
"We've got a while to prepare for that."
Still, Rae said the review of the tax system should look at which taxes act as a disincentive to job creation, innovation and economic growth and which "are just a pain in the neck but aren't actually a disincentive." He said the latter includes a range of taxes, including personal and corporate income taxes.
In the speech, Rae said the negative effects of consumption or sales taxes should be offset by deeper income tax cuts and more refundable tax credits for those who are less well-off. He said the income tax code needs to be simplified by doing away with the Tories' non-refundable "boutique tax credits," which he maintained rarely benefit those who need help the most, and by closing loopholes and exceptions for corporations.
Apart from the tax proposals, Rae used the speech to argue that Canada's current economic travails underscore the need for a centrist, pragmatic Liberal party that can steer a middle course between what he described as the dogmatic approaches of the ideologically-driven Conservatives on the right and the NDP on the left.
"We Liberals find ourselves competing with two other parties with simplistic messages. The Conservatives want tax giveaways for the better-off, the NDP wants to raise taxes and then throws in a 'tax the rich' message for good measure," he said.
"The trouble with the populist narrative, whether of the left or the right, is its essential dishonesty, as if a simple bumper sticker 'tax the rich' or 'tough on crime' is really going to provide the answers to the real issues we face as a country."
By contrast, Rae cast the Liberals as a party which believes "the greatest respect we can show people is to talk candidly about the problems we face and how we might deal with them, not pander to every whim and prejudice."
Rae noted that Flaherty likes to boast that Canada has weathered the global economic storm better than most due to its regulated banking system, progressive tax system and strong social safety net. But he said all of that was done by previous Liberal governments, over the objections of the Conservative party.
"When it comes to Canada's strengths today, the Conservatives were born on third base and think they hit a triple."