"If you tax investment income what will people do? Stuff their money in the mattress?"
Richard Thaler asks exactly the right question. This from the latest IGM Forum poll of big-name economists, on the effects of taxing income from “capital.”
I’ve been over this multiple times before, but it’s nice to see the thinking validated by a real economist. If you’ve got money, there is no (practicable) alternative to “investing” it. (Those are irony quotes: referring to “buying financial assets,” as opposed to “buying/creating real [fixed] assets,” which is the technical meaning of “investing” in national-account-speak.)
Or actually — there is one alternative to “investing” your money: spending it.
Are the neoclassicals really going to argue that if we tax returns on financial assets at a higher rate — so “investors” have less after-tax income — they’re going to spend more? I don’t think I have to cite sources to prove that they consistently argue exactly the opposite.
But just for grins, let’s say they will spend more. That would be great! They’d increase the volume of private money circulation (P*T, or M*V, your choice) — boosting demand for real goods and services, stimulating production, and goosing GDP.
And if we’re lucky, they’ll use it for investment spending instead of consumption spending. They get to write off those real investment expenditures against their taxes, after all. Not true with consumption expenditures, much less purchases of financial assets.
In which case — this seems kind of obvious when you think about it — taxing “investment” income will increase investment (while reducing the federal deficit). What’s not to like?
See also David Cutler’s apt comment:
I prefer not to think of all capital as the same.
In particular my pet peeve, the rampant confution of financial “capital” with real capital.
Cross-posted at Asymptosis.
At todays interest rates one might say put currency in a safe deposit box, or perhaps buy gold or diamonds for fear of the future.
Heh indeed. I don’t know about your cites, but I think it is clear that many supply siders believe that lower taxes on capital income will cause lower consumption. This is theoretically possible, but can’t be reconciled with data on consumption.
It is very clear that, given assumptions on behavior based on data, higher taxes on capital income cause higher national saving
which causes higher growth if there is full employment.
See http://bit.ly/P5Se5x (warning pdf generated by Sigve Indregard so it doesn’t thank him for generating it).
The confution is really importnat. The idea that financial capital (saving) implies investment is equivalent to the idea that output is always supply constrained.
Thanks, Robert. I especially appreciate that you picked up my “confution” coinage. It’s not actually a word, as far as I can tell, but it sure oughtta be.
Yeah, me and Shakespeare…
Berle and Means noted this back in the early 30s. High taxes, they considered, would encourage corporations to reinvest money in the corporation rather than issuing dividends or increasing executive pay. The data since then seems to have borne this out. High taxes have historically encouraged all sorts of economic growth.
The federal deficit is savings. Federal deficit = net private savings + net imports
The equation shows that federal deficits are the ultimate source of all dollars, and despite economically suicidal efforts to reduce deficits, if there were no deficits there would be no dollars. Without federal deficits, your net savings — even Bill Gates net savings — would be zero.
http://rodgermmitchell.wordpress.com/2012/08/14/mathematical-proof-that-deficits-should-be-increased-send-it-to-your-favorite-debt-hawk/
There are options as to the type of investment and the timing of realization, these will change with higher tax rates.
For the better or worse? Difficult to predict.
I totally agree with Lyle. As with this unstable economy it is very difficult to choose th right way for investments. If I were to invest I would either invest in Apple or in companies like Cash Advances US as with this economical crisis people more and more turn to money lenders online or elsewhere.
If you make investment decisions based on taxes, you are sub optimal.
Investment decisions based on taxation got the US into 30 years of voodoo, and money printing.
Or maybe it was Ayn Rand and the libertarians.