09 December 2010

On Taxes

Like most people, I don't like taxes.  I pay my taxes because I acknowledge that the government provides certain necessary services, and that as a recipient, it's my responsibility to pay for them.  Sure, I don't collect welfare or medicaid or unemployment, and I'm not really expecting to receive Social Security when it comes time for that, but I can't really complain.  I understand that as a citizen, I should pay taxes.
But do you realize that the lower 50% of income earners cumulatively pay less than 3% of the country's total income tax? Less than 3%!  One-third of  tax filers pay zero taxes, and that doesn't even count the number of people don't file at all, either through evasion or because they earning no taxable income.

This is only moderately acceptable, but the recent claims that everyone should get a continued tax break except for the top 5% of income earners-- people already paying 35% of their income, and 60% of the country's total tax yield-- are just plain ridiculous.  Everyone else gets a pass except for those already shouldering way more than their fair share?!

I used to buy the argument that a progressive tax might be considered equitable because people with more have more to lose if the rule of law is not provided by a steady government.  But I was thinking about that more this week, and have concluded that the exact opposite is true: government provides protection for the poor of the earth- the wealthy usually manage just fine on their own.  So there goes that point-- and most other arguments devolve into class warfare or "legal plunder."

In Utah, we have a beautiful flat tax.  Everyone pays the same percentage of their income, so there's no disincentive to produce more.  A dollar earned is a nickel paid in taxes, no matter whom or what or how many.  And it takes literally five minutes to file my state taxes, as compared to the drudgery of the federal tax labyrinth.

Even better would be a tax on consumption (like a sales tax) rather than on production (income tax), because if we really want to punish someone, then why not those who consume more than their share, rather than those who produce extra.  Don't we like it when people contribute more than they are expected to?

Ugh...  I really don't like taxes.


Kristin said...

Music to my ears....

be said...

Good rant.

So, I'm not a fan of taxes either, and in general I'd agree with the idea of shifting some income taxes over to sales taxes, but more for the transparency and ability to choose that it provides. I am curious about your ideas of it being a punishment, though.

I can totally understand seeing tax as a punishment: even if it's not intended that way it definitely can act as a deterrent.

My question is whether there is an ethical or logical difference between punishing "production" or "consumption", and whether sales tax and income tax really make that distinction anyway.

Russ said...

Maybe punish was the wrong word. I think maybe disincentivize would have been more appropriate for what I was trying to say.

My thinking is that if we accept the premises that 1) taxing an activity will influence people to do it less, and 2) generally speaking the more we produce, the better; then we ought not to tax production. Conversely, one way to deal with scarcity is to tax consumption.

Arguments against a sales tax usually revolve around the thought that taxing consumption unfairly harms the poor (because they consume more than they produce). This is why certain staple groceries are taxed at a much lower rate than luxury goods.

Ethically, I'm not sure if there's a reason to favor taxes on consumption, other than ensuring that the people who benefit from a product are the ones who pay for it (toll roads, for example).

be said...

I can definitely see that sales tax ties the benefactors of a tax to those that pay it, and I agree that ethically that's a good choice. It gives the consumer a choice as to what government programs they participate in, making the tax voluntary instead of obligatory.

What about consumption versus production?

For one, why is income equated with production? Does a person producing more necessarily the same as bringing home a bigger paycheck?

Second, why is production better than consumption? It seems like both consumption and production lose their value without the other. It's the cycle that adds value to the system.

Third, why does the tax system need to deal with scarcity at all? Does the market handle scarcity on its own by way of price?

be said...

Here's an example that might illustrate my confusion about this.

Recently in Washington state a law was passed that started putting a sales tax on some food items. (There was no sales tax at all on food before.) Leading up to the elections last month, there were a lot of television commercials asking people to vote to repeal the tax because it was hurting local farmers.

So here's the way I see it (and you can correct me where I go astray).

As you've explained, sales tax disincentivizes consumption. So, as we'd expect, adding that sales tax on food items lowered consumption of the taxed products. However, it was the producers, not the consumers, that found themselves hurt by the new tax. The farmers that were before able to produce and sell their goods now found demand lowered because of the sales tax.

So, it seems to me that punishing consumption also punished production.

Russ said...

A couple quick thoughts:

Income does not necessarily equal production, but is probably the best realistic estimate we have, in the same way that dollars are a good approximation of value. In a free market a paycheck is just another form of a price tag, where goods and/or services are exchanged for dollars between willing parties. Your company pays you for your contribution to its overall production.

As far as the taxing production versus consumption debate, I think you are right in assuming that one without the other is equally bad either way you slice it. They are two sides of the same coin. Any tax will depress one side directly and the other indirectly.

But what your example made me realize was that maybe the best policy is to tax (disincentivize) the more elastic of the two in order to achieve equilibrium with the least harm done. In your example, scarcity (demand exceeding supply) is not really an issue, because the farmers were able to produce in excess of demand. Maybe in those cases it's more appropriate to tax production (by subsidizing fallow fields?), driving supply down and raising prices to equilibrium. In cases where scarcity is an issue, it probably makes more sense to tax consumption, driving demand down and lowering prices to equilibrium.

I'm not sure how we would implement that tax strategy, but it may be worth thinking about. If I had to err on one side though, it would be for supply to exceed demand (and farmers be damned!).

This is of course, assuming that we have to tax one or the other. In a perfect world, you are absolutely right: a free market functions fine on its own, and there is no need to tinker with scarcity-- the invisible hand pushes everything to equilibrium, without the meddling fingers of government getting in the way. Taxes impede the free market, plain and simple: our task is to select the least of all evils.

What do you think?

be said...

You'd better be careful what you say about farmers, or the Republican party will disown you. ;)

So, I agree about consumption and production being flip sides of the same coin, and especially about the direct and indirect results of taxes. It makes the issue complex, IMO.

I'm still not convinced about income and production, though. I understand that we need a way to quantify things, and I get that income is a price tag on how much we value some job. I'm not sure that's the same thing as production, at least not directly. But honestly I don't think that is even the real cause of my confusion with this. I think it's just that I don't see how sales tax and income tax are representative of the distinction between consumption and production. More specifically, I don't see that income tax disincentivizes production the same way that sales tax disincentivizes consumption.

Let me see if I can better explain how the whole dichotomy of taxing production or consumption doesn't make sense to me:

It makes sense to see sales tax as a deterrent for consumption. Price is already a deterrent, and so by adding a sales tax, we effectively increase the price, decrease demand, and now we have less consumption than we had before.

The difference with income is that it is not a deterrent, it is an incentive. Adding a tax to income doesn't change income into a deterrent, it just slows the rate at which it increases. But it still increases. At no point is there a negative incentive for a person to increase their income. The net income always increases, even if the tax rate also increases.

So even if you consider income as a measurement of production, it doesn't seem like taxing income disincentivizes production the same way that taxing sales disincentivizes consumption. In the case of sales tax, consumption can actually decrease. That's not the case with income tax.

be said...

Sorry to split this into two comments, but the last one was just getting out of hand...

Anyway, I think that in general you're right that the market will find its own equilibrium if left alone.

I think there are (rare) cases where private parties interfere with the market, and taxes or subsidies can help overcome that. But that's not really the issue here, right?

The complicated problem is when there's a service that the government needs to offer and where it's unclear who should pay for it, or if everyone should pay for it.

For instance, if some giant corporation is in a position to behave anti-competitively, they are impeding the free market. The government's job in that case is to intervene, maybe adding fines or taxes. Here we don't intervene for the sake of manipulating the market to artificially set equilibrium, but rather to undo the damage done by the private company setting an artificial equilibrium.

But now consider a thief selling stolen goods. This also impedes the free market. Again the government intervenes, and we have law enforcement that tries to put a stop to it. Now, however, it seems less clear (to me, at least) who needs to pay for it. Obviously the thieves are the people responsible for the costs of law enforcement, but it's unlikely that they're capable of repaying that cost. The beneficiaries of the law enforcement might be the original owners of the stolen goods, or the legitimate vendors whose sales might have been impacted, but it hardly seems just to have the victims of a crime pay for their own rescue. And what about the other members of the community who haven't been robbed yet. Aren't they also benefiting from law enforcement as a deterrent for future crime?

And then of course are the cases where the government stops some other injustice that may not have any bearing at all on the free market. Who is to pay that cost?

It seems to me like there are a lot of government programs that we've decided need to paid for by everyone, and that simply living in our society means that you need to share in some of the cost of its up-keep. I don't know if income tax is the only or best way to try and make the general public share some cost, but it does seem like it handles that case better than sales tax. Which of course is one of the reasons why sales tax can be great in some cases, because it lets the consumers choose how or when to participate. But I'm not sure it would work for all programs or if it could accomplish the same distribution as income tax.

Phil said...

I know I’m late to the game here, but I don’t have the time/attention span to keep looking at your blog everyday. I just wanted to point out three things that may be getting lost in all this.

1) After giving this a solid 10 minutes or so of thought, I agree with Russ that this seems to be a choice of the lesser of two evils. Either tax income at the risk of discentivizing production, or tax consumption at the risk of lowering buying power. But the way it looks to me, you can’t tax consumption without hurting production. Sales taxes result in higher prices, which results in less total consumption. The key issue that then comes into play is that less consumption must then result in less production (or inefficient surplus). With lower real purchasing power, you buy less, meaning that producers earn less. Those producers then become consumers in another market with twice the restriction on consumption (i) the higher costs because of sales tax and ii) less cash due to selling fewer goods in their market. Essentially you are just restricting the flow of funds. Although, by this logic you would run into a downward spiral of continually decreasing availability of funds. As I said, I’ve only put a few minutes of good thought into this, so I admit that I must have some sort of major logistical oversight.

Phil said...

2) Take a step back and you see that the benefactors of taxes are across the board, albeit for different reasons. The producers benefit from regulators protecting the market (i.e. catching thieves) and the consumers benefit from regulators watching over the producers (i.e. no monopolies). Same is to be said if you talk about the haves vs. the have-nots. You can make the argument that the rich have more to lose if there is no one to enforce the rules (i.e. sales, homes, cars, businesses, etc.), so they should be the ones to carry the load of the tax burden. On the other hand, the poor may have less to lose from an absolute value perspective, but I’m willing to guess someone barely making ends meet would be in much more dire circumstances if they didn’t have food stamps, unemployment support, etc. than if someone stole a truckload of some farmer’s potatoes. I’m not trying to make an ethical point that taxing the wealthy is the right approach (especially since I aspire to be one of them someday), but that it’s important to remember that everyone benefits from the tax so it only makes sense that everyone pays for them.

3) It seems that we are looking at a Macro environment with at Micro perspective. You can run into problems if you’re looking at it as only consumption vs. production. As I alluded to above, you have to consider that producers are also consumers, savings equals investment, supply works with demand, the law of diminishing returns, and all those other things they the guys in tweed jackets preach in college econ classes. Therein lays the problem when you talk about taxes. There are so many intertwined forces at play that making changes to one thing may drastically change something that you are not even thinking of. Sorry to sound like a Freakonomics intro there, but it seems those guys are onto something.