Tuesday, November 20, 2007

Tax burden

Almost everybody agrees that tax burdens should be fair. You're arguing with the wind if you argue about that. Disagreement comes when you start trying to define what fair means. Most would agree that it means the utility of the tax burden should be equalized. Some don't think that, but most do. But that still doesn't answer the question because who decides what utility function to use?

Simplistic answers (such as equal dollar burdens) seem to work very well for simplistic minds. But such answers aren't really answers because they fall apart when you try to implement them.

For an example of why a tax with a flat dollar amount, the same for each person, won't work consider a country with 10 citizens that costs $20 per year to operate. Total personal income is $2,000 so the total tax burden is just 1% of total personal income. Not bad at all. $2 per person per year.

But that income isn't distributed across the citizens uniformly. Two citizens are very poor, two are very rich, and the other six are somewhere in the middle, something like

Two @ $1
Two @ $2
Two @ $20
Two @ $100
Two @ $877

It's not only not fair to tax everyone $2, it's not possible. That's why the rich pretty much have to have a higher tax burden than the very poor.

Update:
A comment talks about John Kerry as a billionaire. His wife is the one that's rich, not him.

The same commenter argues for a flat tax, where everyone pays the same percentage. That also falls apart if you have large dispersion in income for the same reason having everyone pay the same amount falls apart -- to those at the very low end the tax might mean skipping a few meals.

This post had been a response to a thread in rec.gambling.poker where there was a lot of debate about "fair" taxation. I often turn a discussion group post into a blog post. My point was that we're never going to agree on what fair means.


Lifestyle and Political Blogs


2 Comments:

Blogger Major Bob said...

"Fairness" is a normative issue which isn't going to be resolved by debate. The (relatively) poor will always think it's "fair" to tax those who are wealthier and transfer the benefits to themselves. That is (as someone once described democracy) two wolves and a sheep voting on what to have for dinner.

We should be concentrating less on what we think is "fair" and more on what we think is both "smart" and "permissible."

Progressive taxation imposes a significant excess burden (the welfare loss associated with inefficiency). It's a leaky bucket that loses water as we transfer from one trough to the other.

Progressive taxation has a severe disincentive effect for work. This is best illustrated in Sweden where the 60% marginal tax rate induces doctors to work only half a year.

It also induces tax avoidance (legal) and tax evasion (illegal). This is why John Kerry (a billionaire with several mansions and a yacht) paid only 12.5% of his income in taxes one year.

The "fairness" of a progressive tax is, as you state, based on Diminishing Marginal Utility of Income. This notion is correctly criticized for fallacious interpersonal comparisons of utility. While marginal utility of income clearly declines for all people, it does not decline at the same rate for all people.

Many small business owners, farmers, and people living in high cost-of-living areas are considered "rich" by the tax code but struggle day-to-day to pay bills and secure their future.

There is much research in economics which shows that this excess income (becoming wealth) is a huge engine for investment, risk taking, and innovation leading to economic development. Even Karl Marx admitted this point.

It is also doubtful that it is "permissible" to levy a progressive tax. Our government was instituted with limited powers, and specific and implied restrictions. The transfer of wealth from one party to another transgresses that boundary. That it has been done for 150 years does not make it right - I'm sure Ron Paul would agree.

A flat tax would be more "fair" according to many people; the idea polls very well. It would also eliminate a great deal of tax avoidance and tax evasion. It would eliminate huge amounts of red tape that causes further inefficiency (the cost of collecting taxes).

Take a close look at those people who rose from poverty and see what they have in common. You will find that most of them:
- rejected, did not rely on, or did not qualify for government assistance
- worked incredibly hard for long hours
- saved and did not waste money
- blamed no one for their mistakes
- ignored vacuous concepts of "racism" and "glass ceilings"
- never quit, even after failures
- learned English and adopted good business practices

Look at the people still in poverty. 40 years and $7 trillion after the Great Society, they're still poor, stupid, lazy and angry with an overdeveloped sense of entitlement.

"Something for nothing" is not a sound strategy for an individual to escape poverty nor a sound government policy to cure it.

The wealthy in America not only pay two-thirds of all US taxes, they are the most generous class of citizens in the world, giving huge amounts of money to charity. (except, of course, John Kerry who gave NOTHING to charity for four straight years in the 1990's)

If you want to see an endless, unwinnable quagmire waged for the profit of a few, look at the War on Poverty. Then, all you have to do is figure out who profits from it.

8:52 AM  
Blogger Major Bob said...

BTW, you seem to be confusing a lump-sum tax with a flat tax.

Taxing everyone $2 (as in your example) is a lump-sum tax.

Taxing everyone 10% of their income is a flat tax. Even with a flat tax, the rich pay MORE, but they pay the same RATE.

Although lump-sum taxation is the most efficient form of tax (with zero excess burden), NO ONE is arguing in favor of it. YOU are literally arguing against the wind.

Many people are arguing for a flat tax rate (with minimum income exemptions).

If you're going to argue in favor of progressive taxation over an alternative tax regime, try using one that people are actually proposing. Simplistic minds beat up on a straw man.

Maybe rakes in poker should be adjusted according to the income (or rolling year-to-date poker earnings) of the players. That would make the game much more fair and accessible to the poor, now wouldn't it?

9:05 AM  

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