Is economic theory on the effects of higher taxes on higher incomes rational?
by Linda Beale
Yves Smith (Naked Capitalism) links to an interesting post on “Economists for Firing Larry Summers” (I’ll call this EFLS). The author of the blog is a PhD student in economics, in a “top 30” department who is obviously fed up with much of current economic thought. He writes on “The Case for the Millionaires Surtax” (Dec. 26, 2009).
The right is up in arms about the possibility of slightly higher taxes on wealthy people. I’ve received emails because of my blog postings favoring higher taxes, and also comments directly on the blog, to the effect that higher taxes will just drive people out of those jobs. They will quit rather than pay high taxes, or go take jobs abroad instead of paying higher taxes here, and then, the questioners ask, where will the good ole US of A be–no wealthy people working and no tax money collected, they say. I respond that they are missing a few essential steps in the arguments. Sure, some will be wealthy enough to drop it all and leave, but most won’t do so . They simply don’t wanna stop working at what they work at.
EFLS uses the case of super-athlete Peyton Manning. If you tax him 10% more, will he just arrnge to be paid only through the regular season, letting another substitute in championship competitions so he can pay less tax? No way. If he decides to retire, then another super-athlete will take his place, and the US can tax that person. If he decides to stay (most likely) then the US can tax him. Same for CFOs and CEOs and movie stars and all those other high-paid celebrities you could find if you do an onlyfans search. If they step aside, someone else just steps into the gap. It really is quite likely that raising the rates can achieve the result of higher taxes paid.
Now, if they take evasive steps, that’s another problem. As EFLS says, that doesn’t mean don’t raise rates. It means fund the IRS so tax cheats can’t get away with it. The net result of lowering tax rates is that the wealthy will still do the same stuff, pay less taxes, and there will be even more inequality in the economy than before–which is itself a problem.
And then EFLS makes the argument from the perspective of democratic egalitarianism.
[S]uppose the CEO of Anthem made $4 million rather than $40 million due to high tax rates on multi-million dollar incomes (which we do not currently have). While in the micro context, this would greatly reduce the government’s revenue, in this case, Anthem would have higher profits, or could afford to pay it’s other workers more, could cut prices to gain more market share, or might even be able to deny fewer claims. In other words, it wouldn’t make the whole pie smaller, it would just make it more equally distributed. And, to the extent that the Anthem CEO no longer flies around in a private Jet, owns 6 houses, and drinks $1000 bottles of wine, redistributive taxes would quite likely make the pie bigger…
Cross posted with ataxingmatter
The idea that some bozo bond trader or hedge fund guy who gets 40 million a year can’t be replaced by someone just as capable who gets one million a year is silly. A vast number of extremely bright people would be happy to work for a million a year. the 39 million more you pay bozoX is just wasted money better spend elsewhere. If bozoX can get 40 million from some foolish outfit elsewhere, good riddance.
Not be be picky, but
A millionaire is someone with a net worth of $1M of more.
That is not the same as someone who earns $1M or more in a given year.
Did any of these experts ever take an undergrad accounting course?
This really depends on how much you raise taxes.
Many discussions on this topic fail to explore all of the implications. If there are higher marginal rates, then Peyton Manning may simply demand a higher salary. This may have the effect of him earning more and lesser skilled players earning less (in a capped system) – becuase Peyton wants to gross his salary up to raise his after tax net. In fact, you could argue this is exactly what has happened as rates have gone up, and people swithced to compensation such as stock options (some of which is subject to ordinary rates and some not).
Take a look at Italy where tax evasion is rampant amongst all income levels, becuase people see those rates as too high.
http://www.csmonitor.com/World/Global-News/2009/1020/italian-tax-amnesty-could-bring-150-billion-home-but-at-what-price
Also, you raise taxes too much, then you will simply get new politicians voted in who will lower the tax rates.
So again, it depends on how much – it is a balancing act.
Moshe Adler (Columbia professor of economics), wrote an excellent article that gets to the core of wealth distribution, executive compensation and its affects on wages etc., and essentially all things economic. At the risk of coming off didactic, I think this article is essential reading for those of interested in our plight.
http://www.latimes.com/news/opinion/la-oe-adler4-2010jan04,0,7694112.story
The article also overlooks the cost of living (and the tax rates) in differnt areas. Making $300,000a year in Reno means you can live pretty well. In New York City you are not exactly starving, but you are not rubbing elbows with the guys from Goldman, either. In fact, you probably can’t afford to buy a house, if you have kids.
Then why doesn’t the company which is wasting the 39 mill hire bright person Y for 1 mill?
If you can’t sell your economic program with its shared sacrifice to the general population then you ought to abandon it or at lease scale it down. The problem today is that Obama’s expansion of government is fiscally unsustainable and the broad based taxes needed to pay for them don’t have popular support. The democrats already lost tax debate; Americans don’t want high taxes and if the government raises them on people then the people will vote the democrats out of office. Given this reality the democrat’s fallback position is to put the taxes on 0.3 percent of the population with higher incomes. The theory goes that since this a small percentage the people their votes won’t end up ousting them from office.
There is plenty of evidence that throws cold water on the democrat taxing scheme. Higher rates bring about tax avoidance strategies. If you look at the data from 1960s to present each decade the percent of government revenue to GDP is around 18 to 19 percent. If high marginal tax rates were such a great idea you would expect a higher ratio in the years when the top rates were more than twice what they were today. But his is not so. In addition, the data for example in the 1980s showed the percent of taxes paid by the highest percentile of income earners increasing as their top rates were falling.
In the world we live in the countries growing the most rapidly are the ones that have liberalized their economies. In many ways the current administration with is supporters in the congress are trying to take us in the wrong direction. I wish they would replace their leadership today rather than making us wait until we can push them out of office.
Guest,
Obviously the people running those companies that hire the bozo bond traders and hedge fund managers don’t like money, and thus they would rather give it to bozo than keep it for themselves.
Cantab,
Raising taxes on the 0.3 % has been made more doable by the progress made on safe-haven banking of late (UBS and Swiss Guv deal with IRS). This could change the dynamics of taxation on the super-rich to a significant degree. Moving large amounts of money out of the country has become risky.
Rusty, I realize you can carp without asking whether the people you are carping at have taken an accounting course, but in the context of this carp, the question is largely irrelevant. You could better ask in this case about dictionary ownership. Accountants don’t decide what words mean in general parlance, except as accounting terms slip (in unaltered form) into the general parlance.
This post, like so many others on this blog, treats taxes as a “revenue maximization” question. Like the business problem “How high can I raise my prices before it affects my revenues?”
The answer, if you are the government, is “pretty darn high,” which is no great economic discovery as 1) they can imprison you if you don’t send them the revenue, and 2) they have a 50%+ percentage of voters who are either envious, or have their hand out.
The pertinent economic question is “where is the money best utilized for the good of the whole?” Is it better to leave it in the private sector to be spent and invested as millions of consumers vote with their dollars? Or to ship it off to the government to have them spend and invest it for us?
When I look at virtually all the history of government spending in terms of efficiency and innovation, I say “I would like to minimize the amount sent to the government, for the good of the whole.”
RLL, Swiss bank accounts is only one way to hide wealth. Hiding income is a totally different matter. How many ways can we defer income? How many ways can we convert income to investment? How many ways can we make income appear less than it actually is? Once they are identified the word is spread to others that can take advantage of those loop holes, and the are revenues change accordingly.
The other item that’s missed in this post is that the U.S. taxes household income, and we’ve got a lot of high-earning households with dual incomes. Sure, Citadel-founder, hedge fund mogul, Ken Griffin is going to continue to work for $250 million a year regardless of whether tax rates are 35% or 70%. But his wife, Anne Dias Griffin, would likely choose to quit her own hedge fund if their marginal federal income tax rate was 70%, because her income’s effective tax rate is also 70%.
This taken together with the trend that highly successful people are coupling at an increasing rate than they have historically, needs to be considered when trying to gloss over Peyton Manning’s marginal propensity to supply labor.
Because of the lottery effect. That is, those who pay do not believe that a good track record in taking risk involves as much luck as it does. So they tend to overpay. (Probably not at a 39:1 ratio, though.)
Another factor is the diminishing utility of money. At this level, compensation is mainly a matter of keeping score. If our CEO makes more money than yours, he is (obviously) a better CEO. And we are a better company because we can afford to pay our CEO more than you pay yours. And we are a better company because we also pay our (winning) traders better. Besides, if we don’t pay them enough, you might offer them more and steal them away. Avoiding that loss of face is (at this level) worth a few million.
Oh Lord of Oxidation, they did not take an English course. 😉
Some economist on a blog (I forget who, where, and when 🙁 ) said that economists are sloppy with language. This is an example, I suppose.
sammy,
Yes, that is what you would say. It is what a whole army of talking-points conservatives would say. There is no reason for anyone else to believe what you believe, though.
I have a couple of simple rules of thumb in considering other people’s arguments. One is, do they actually have an argument, with facts and logic and all that? The other is, do they say more or less what I would have expected them to say, without regard to the details of the question at hand? You haven’t offered facts or logic, but merely a personal observation. You have taken exactly the position I’d have predicted. Which, by the way, helps a lot in explaining why your personal observation is what it is.
Same for sammy’s fellow travelers, by the way. C’mon, guys. Say something new, pertinent, falsifiable, interesting…anything by the same old claptrap.
Let me reiterate the point I made at the other blog. Income tax, sales tax. VAT, and tariffs all tax economic activity, therefore they disincentivize it. Do we really want to do that? (Especially under the current circumstances.)
OTOH, a wealth tax at, say, 4% will at most tax 4% of income, and will increase the incentive for economic activity. 🙂
Tax loop holes are bound to follow tax hikes. They always have. Part of tax avoidance is to form a lobbying groups and petition your representatives in government. You can do this, its in the constitution. Are the democrats trying to tell us that lobbying as we know it has ended.
Until it is demonstrated that hedge funds serve a socially useful function, Anne Griffin’s choice to run a hedge fund or not is not really of interest in this discussion. If she decides to stop curing cancer or stop writing beautify music or stop teaching in a poor neighborhood, I’ll worry. If, that is, the additional taxes paid by her husband don’t cover a replacement worker.
There is a tacit assumption, in maning this “they won’t work if you tax them” argument, that the most highly paid workers produce enough social value to justify their pay. Hedge funds are part of a zero-sum transaction. If they win, their clients and managers are enriched by exactly the amount that somebody else is impoverished. That is a magnificent target for taxation.
rusty:
If you follow the links, you will see they are discussing taxpayers who have incomes > $1 million.
Min,
Peter Drucker agreed with you. His view was that high pay for people at the top was bad for the firm, and mostly involved ego, but not necessarily motivation. If overcompensated guy #2 didn’t have overcompensated guy #1 to envy, he wouldn’t feel the least bit slighted at not being overcompensated.
CoRev,
I must seem very lacking in what is commonly known? Should I list all related knowledge with each comment? Did you consider the context of my reply to Contab in its relation to his comment before insulting my intelligence?
Kharris,
Once again you guys go off the rails. Who gets to choose what is a “socially useful function.”?
My bet you say government. Thus giving even more power to the people who have the legal right to use force to coerce people into “socially useful functions.”
Did you ever really, truely get the message embedded in Orwell’s ‘1984’??? Or do you just think you will be part of the overlords? You know ‘some animals are more equal than others’? (quoting from anotehr of Orwell’s works). In every case your fellow travelors wish to give more control to government and decreasing liberty at every step. Can you say something new and pertinent that doesn’t cheerlead for the loss of individual liberties?
Islam will change
I thought that hedge funds borrow and therefore aid economic expansion via residual interest as a result of fractional reserve banking. Do those involved with hedge funds not also deserve the same social value as any other investors? It also seems that the examples of teachers and composers are “zero-sum”. Is the social value of a composer something we all have some say on, or are composers so valuable that YOU think they should be subsidized? Or is it that you think tax rates reach equilibrium at the point when the wealthy still have just enough to support unpopular entertainment, but nothing else of a conspicuous nature?(this is not meant as sarcasm)
I think wealth redistribution is paramount but by first eliminating the manipulations of market forces. I also agree with Dr. Stiglitz in that bad behavior should be taxed, not good behavior. We have plenty of bad behavior but an unwillingness to admit to it. So whether I think we need more or less taxation is ???
K-
What if his wife were a doctor? The term I was searching for before but failed was “assortive mating”. I know lots of couples where one person has an MBA and the other an MD. If the marginal tax rate goes to 70%, it’s not the MBA who’s quitting. Despite their lack of “socially useful function”, hedge fund managers make more than their MD spouses.
Good point buff. In addition to the “efficiency” argument, there is a morality argument. That is, what is the basis, and to what extent, to deprive a citizen of his property and freedom? Is it a kharris-defined type “socially useful”?
In addition, to those who are the “redistubees,” what demands do the overlords have for you? and how does that affect your freedom and individuality? You will have to jump through their hoops, whatever they deem them to be. You can be sure of that. That is not a free, nor productive, life to me.
“They will quit rather than pay high taxes, or go take jobs abroad instead of paying higher taxes here, and then, the questioners ask, where will the good ole US of A be–no wealthy people working and no tax money collected, they say.”
That is a most ass backwards and assinine concept. The implication is that those people can’t be replaced. Wake up ducky. Anyone can be replaced. It’s the job that get the pay, not the individual occupying the position. Will we lose great minds because of high taxes? Some of the greatest minds in our society’s history weren’t paid enouogh to worry about high taxes. have any of our multi-liion dollar a year execs invented a cure for cancer? I don’t think so.
Did Jonas Salk earn multi-millions of dollars for his discovery. Not so. Did he run off to another place in order to garner a higher income. Not so, again. As noted, the idea that we will experience some loss of talent due to a tax structure is absurd. Execs across the globe don’t earn what they do here.
I think it is critical that the high taxation threshold is fairly high. For example, my wife and I are both professionals (MD and Professor). If our marginal rate was 70%, instead of the 42% or so it is now, we would definitely work less. Not see extra patients, not write a book, not do needed consulting, etc.
“That is, what is the basis, and to what extent, to deprive a citizen of his property and freedom? Is it a kharris-defined type “socially useful”?” Sammy
No, it is certainly not a process of deprivation nor an issue of social usefulness. Those who benefit most from our economic structure should be bearing the greatest share of the cost of maintaining the government that supports and guarantys that economic structure. The wealthiest one percent control our government and the way in which it oversees the economy. That is the rationale for collecting high levels of tax from high income individuals. You get what you pay for and one should pay for what one gets.
This raises a real fundamental question is money the only motivator? Obviously it is for the Wall Street types, but not for others. Some go into lower paying professions to help people, and some are out to change the world regardless of the salary associated with it. For some on Wall Street it is the thrill of the deal that motivates them. Where money is not the motivator taxes won’t make much difference. If you are really out to make money you don’t go to med school, and then 4-5 years of residency before you can make any money you get an mba. In the case mentioned above of the MBA and MD being married, the MD might volunteer the skills instead of for pay. The financial media’s thought that money is all that motivates people is to simplistic, else everyone would go for the MBA and no one would go into teaching, social work, police work, and other areas that demand a degree and pay poorly.
rl love,
Did you consider the context of my reply to Contab in its relation to his comment before insulting my intelligence?
What in intelligence is there to insult? My user name is only six letters and you managed to screw it up.
Lyle, these seem to contradict:
“…is money the only motivator? Obviously it is for the Wall Street types…”
“The financial media’s thought that money is all that motivates people is to simplistic.”
Then why doesn’t the company which is wasting the 39 mill hire bright person Y for 1 mill?
They do. Then the guy making $1 million makes the firm $100 million tarding, and then demands a bigger cut or threatens to leave. Not all traders make $40 million. In fact some make pretty regular wages.
Cantab,
So is spelling your standard for intelligence, or just the spelling of your handle the standard? Are you challanging me to a game of petty insults?
So Madonna writing “beautiful” music is more valuable than a hedge fund manager? Does Madonna gove more to charity than these hedge fund managers?
http://www.telegraph.co.uk/news/uknews/1556331/Founder-of-hedge-fund-gave-230m-to-charity.html
This question of finding the revenue maximizing marginal tax rate has been well researched, both theoretically and empirically. We know the answer. The revenue maximizing rate is around 65%. It’s true that with each marginal increase, some worker will withdraw labor or take some kind of alternative compensation; but not every worker will do that. Revenue will still increase right up to a tipping point. The best work on this is by the Emmanuel Saez, who recently won the John Bates Clark medal for best economist under 40.
http://elsa.berkeley.edu/~saez/
In particular, see this paper:
http://elsa.berkeley.edu/~saez/derive.pdf
rl love,
Are you challanging me to a game of petty insults?
Yes. Game on.
The term “insulting my intelligence” is a cliche and is sure to illicit a snicker any and every time you use it.
Slugbaits,
A leftward version of the Laffer Curve?
Kharris,
Yes, that is what you would say. It is what a whole army of talking-points conservatives would say.
That’s better then all the out of context random gibberish that the liberals would say. What you call talking points are actually philosophical points of view. You don’t like them so you try to talk them down.
Slugs,
is by the Emmanuel Saez, who recently won the John Bates Clark medal for best economist under 40.
Its nice to see a potential future Nobel Prize winner carrying out the research agenda set by Dr. Laffer.
Well as noted for some wall street types its the chase of the deal not money. If you attend a corp managment training class they say that money is only a negative motivator, not a positive one, i.e. insuffiecent money will demotivate.
The finacial media being all wall street types think of wall street motivations. The point is that if a society was composed of only wall street types it would be a very sad society.
If we have less motivation on wall street perhaps the world would be better off with less skuldugerry going on there.
Dennis:
In which case, others of talent would fill the gap.
Actually, he’s carrying out research laid out by Mirrilees.
You are obviously too skilled for me, petty insults with an obvious disregard for hypocrisy is a game which is daunting to me. When I challenged you I did not realize who I was up against. Anyone who is either beyond the use of cliches, or too stupid to know that he uses them, or so delusional that he fails to read his own material, is not beatable in this game.
Besides, your comments are a waste of time as it is, and rife with solecisms. Do you have nothing better to do than look for ways to be a hypocrite?
buffpilot,
Who gets to choose what is a “socially useful function.”?
This is actually a fairly easy problem to solve. If the marginal dollar represents what economists call rent (and I don’t what people pay for their apartment), then the marginal increment is socially useless and should be taxed at 100 percent.
http://en.wikipedia.org/wiki/Rent_(economics)
buffpilot,
Who gets to choose what is a “socially useful function.”?
This is actually a fairly easy problem to solve. If the marginal dollar represents what economists call rent (and I don’t mean what people pay for their apartment), then the marginal increment is socially useless and should be taxed at 100 percent.
http://en.wikipedia.org/wiki/Rent_(economics)
The revenue maximizing rate is around 65%
Makes sense. Let’s just stipulate that. It’s just that damn “Leaky Bucket:”
“Okun believed that wealth transfers by taxation from the relatively rich to the relatively poor are an appropriate policy for government. But he recognized the loss of efficiency inherent in the redistribution process. In Equality and Efficiency: The Big Tradeoff, Okun introduced the metaphor of the leaky bucket, which has become famous among economists (ed. note: except here on AB). He wrote: “The money must be carried from the rich to the poor in a leaky bucket. Some of it will simply vanish in transit, so the poor will not recieve all the money that is taken from the rich.”
“Okun attributed the losses to administrative costs of taxing and transferring (ed note: your friendly giant Govt bureaucracy) , and to incentive effects. The poor who are recieving welfare or other transfer payments have less incentive to work because their transfer payments are reduced as they make more money. The rich have less incentive to work because high marginal tax rates take a large graction of their additional income. The relatively rich also have more of an incentive to spend on tax-deductible items and on tax shelters as a way of avoiding taxes.”
http://www.economyprofessor.com/theorists/arthurokun.php
This is one reason we all get poorer by soaking the rich, even though we can.
Ultimately, the entire discussion about tax rates doesn’t matter at all, except in our moods.
The only amount of money that matters (in terms of buying power) is what you have left to spend, and as long as you have the most you’ll be able to make more claims to the goods in the market. Prices reflect what you have to spend not what you make. If we taxed the richest guy down to 10,000 dollars (and everyone else was commensurately taxed) he would still be the richest guy.
Now, of course, there are debts to service and those debts dont go down when your spending money goes down but the people we are talking about taxing have very little personal debt in comparison to the other 95% of the population. The debts most of them have are business and I’ve not known too many big businesses to fret from walking away from debt if it is in their best business interest.
Now, I want to go on record as saying I do think taxes should be slashed now…… BUT, there should also be no cut in public services as a result. The connection of taxation and public spending needs to be broken, because they are not related in reality. We must stop equating the two.
sammy,
Okun was talking about deadweight loss, which is something different. There is a difference between a socially optimal tax rate (in terms of minimizing deadweight losses) and a revenue maximizing rate. The discussion going on here was primarily about the revenue maximizing rate.
The poor who are recieving welfare or other transfer payments have less incentive to work because their transfer payments are reduced as they make more money.
This is only half right. There are two competing forces; the income effect and the substitution effect. What the “economyprofessor” is talking about with respect to the poor is the income effect. But he pulls a sleight of hand because he then switches to the substitution effect when talking about the rich. The point of Saez’s research (as well as Mirrilees’) was to find the point where the elasticity of the income effect is exactly balanced by the elasticity of the substitution effect. That is the revenue maximizing rate.
sammy,
In addition to the “efficiency” argument, there is a morality argument. That is, what is the basis, and to what extent, to deprive a citizen of his property and freedom?
The “morality” argument is laid out by John Rawls in
http://en.wikipedia.org/wiki/A_Theory_of_Justice
. This is probably the best and most influential case for progressive taxation. The libertarian counterargument was by Rober Nozick in http://en.wikipedia.org/wiki/Anarchy,_State,_and_Utopia
BTW, Rawls makes a point of arguing that this is not actually a “morality” issue, but rather a “justice” issue. He makes a careful disctinction between morality and justice.
sammy,
I forgot to point out that in the Saez paper (see the link below), alongside the utilitarian criterion, Saez includes a separate “Rawlsian criterion” for the optimal revenue raising rate.
2slugs,
I accepted and stipulated that 65% might be the rate that maximizes revenue to the government. Is maximizing the amount of revenue that goes to the government best for us all? I think not. See “dead weight loss”
Yes, I know that.
I have gotten into disputes with lawyers during depositions who had trouble with “revenue” versus “income.” Like duh.
Words having meanings, that’s all.
The worst way to think about this is “it (high marginal rates) worked in the 1960s so it should work now.”
Tis a much different world and a much different economy.
On anotehr note, using professional athletes is always bogus. They represent a tiny sliver of a small pecentage of the population, and have very limited careers.
Same for actors, etc.
Sorry, kharris. I will try to do better.
Slugs,
If the marginal dollar represents what economists call rent (…), then the marginal increment is socially useless and should be taxed at 100 percent.
This sound like to you everyone should be earning a subsistence wage.
sammy,
No, the point of govt is not to maximize tax revenues. But the discussion about maximizing tax revenues is useful to the extent that it tells us when the “tax cuts pay for themselves” argument makes sense and when it doesn’t. It almost certainly made sense 50 years ago. It almost certainly does not make any sense today. So when you hear arguments from the WSJ that raising the marginal rate a few percentage points will end up losing revenues, then you should know that the WSJ (and Fox News) are full of it.
Rusty,
Salaries of superstar professional athletes are also the (in some cases literally) textbook examples of rent. If an athlete makes $10M/year but would be willing to play just as hard making $7M/year, then $3M/year is rent and is “socially uesless” compensation because it does not change actual economic behavior. The athlete might be less happy, but it doesn’t change what he or she does. Ditto with overpaid CEOs.
Are you factoring in things like wear and tear on an athlete’s body?Many athletes can have a short career, and a loooong retirement, so they try to maximize their earnings while they can. So it may not be to your benefit they earn a lot, but they are not looking at that. They look at their long term situation. And I think that is totally reasonable.
Mirrlees is a follower of Dr. Laffer? I thought Mirrlees was one the those guys that became famous with the brilliant observation that some people know more than others.
You are rather missing the point of high marginal rates. The number one tax avoidance strategy is *business deductions*. If there’s a tax in place, money gets routed into business development. Without the tax, it gets routed into the casino games. Business investment fell off the cliff the year the bush tax cuts kicked in. It’s less a revenue-collection strategy as it is a money-routing strategy. Doesn’t matter whether it gets to the workers through the government or through tax avoidance, as long as it gets there.
Cantab,
No, Mirrilees came long before anyone ever heard of Art Laffer. Mirrilees was a real economist. Laffer just plays one on TV.
Mcwop,
Yes. In my pithy example the “wear and tear” would be part of the $7M. This is effectively a depreciation cost and not accounting for depreciation would have very real economic effects. So accounting for a short working career is something that has to be taken into account. The “rent” portion of an athlete’s salary is anything that he or she receives that is above and beyond what would be required to get them to do the same thing that they would do at a lower salary. So if the old, undamaged goods Tiger Wood made $100M last year but would have still chosen to play spectacular golf making only $10M, then $90M would have been socially useless rent. On the other hand, if only making $99M/year would have caused Tiger to quit golf and take up some other occupation, then the “rent” would have been only $1M. The way to think of it is to ask yourself if earning less money would affect your decision to work in that occupation or not. If the answer is yes, then you are not collecting rent and all of your income is economically productive; but if the answer is no, then the govt might just as well tax every dime above some critical threshold because taxing the rent portion would not have any economic consequence.
I don’t remember Ben Stein in Ferris Buhler’s Day Off explaining the Mirrilees curve. Does Mirrilees even have a curve?
http://www.wikio.com/video/2227873
kharris,
Thanks for the reference to Drucker. I have always admired him, and read a couple of his books years ago. Maybe something rubbed off. 😉
“If you look at the data from 1960s to present each decade the percent of government revenue to GDP is around 18 to 19 percent. If high marginal tax rates were such a great idea you would expect a higher ratio in the years when the top rates were more than twice what they were today.”
Not necessarily. Increasing socio-economic inequality is a threat to democracy (and to a republic, too, for that matter). Lower maximum income tax rates have gone along with increasing inequality in the U. S. Cause and effect is another question, but it is part of the picture. Higher maximum tax rates are probably good, even if the overall tax collected stays the same.
You are doing theory in a vacuum. There is income mobility. The other thought is that increasing the role of government decreases freedom. Increasing taxes decreases economic freedom.
In the case of the Obama administration, they are starting to sound like the Beatles song Taxman. At first, increases for only over 250K. Populist taxation. Once elected, increase those taxes, increase taxes on small business via cap and trade, health care, a VAT, a proposed trading tax, increase taxes on carried interest, increased cap gains…you get the idea.
What we should do is a straight flat tax. 15%, no write offs send it in. The wealthiest taxpayers already account for most of the tax dollars. They can stop producing, and then tax revenues drop.
Your Payton Manning example is interesting. He could choose to get pay in a different way. Instead of dollars, maybe he barters for services? He could choose to defer pay a number of years until he thinks it’s safe to take it (after 2012 or 2016 say) He could negotiate different compensation that is taxed differently, like options or shares of ownership, or something like that. he could take payment in the form of a funded annuity. The underground and black market economy will grow under Obama.
Slugs,
Your rent construct to me does not provide a convincing reason to take money away from people with special skills that are the basis of the rent. If rent is willingly paid such as when someone goes to a sporting event or buys a record from a pop star then according to our free market economy it’s not society’s business to determine if this transaction should occur and to set its price; or for example to capture the differential in wages between being an elite athlete and a janitor.
According to my values society has the right to do what we collectively let it do. Having a right to do something is not the same thing as doing the right thing. It’s the difference between can do and ought to do.
Cantab,
I agree that this alone is not a reason to tax rent. My point was that taxing rent…pure rent…does not have any negative economic effects because rent itself does not influence economic decisions. So if you have to tax something, then as a practical matter it makes more sense to tax rent than earned income. It’s a similar argument with taxing inheritances; viz., if government has to tax someone, I’d rather see the government tax the dead than tax the living.
Jeffrey Carter,
Most of the taxes that you cataloged are better thought of as corrections to market failures. For example, cap and trade corrects a market failure. And the revenues from cap and trade get recycled and redistributed. Cap and trade taxes tend to increase economic freedom for more folks than see their freedoms reduced. And taxing carried interest also corrects a market failure and makes the economy more efficient.
Your flat tax proposal is fanciful at best. A 15% tax rate would not even come close to covering the costs of government. It’s just a completely made up number that bears no resemblance to reality.
I would agree that it is better to reduce the number of loopholes while lowering rates. That was the theory behind the 1986 tax reform, which was a complete reversal of Reagan’s disastrous 1981 tax “reform” bill that took the exact opposite approach. The 1981 tax chaanges had the effect of increasing loopholes and bogus deductions and bizarre credits. It was a tax accountant’s dream come true. Reagan deserves some credit for correcting that POS tax code and replacing it with the 1986 tax reform.
Slugs,
My point was that taxing rent…pure rent…does not have any negative economic effects because rent itself does not influence economic decisions.
I don’t think this this is true in reality even though it might be true in a model or an analysis given some assumptions. In cases not involving anti-trust issues or getting special favors from government I think rent seeking actually creates value for society. If you’re blessed with the genes to be an elite athelete it still takes hard work to reach the highest levels. If you’re smart enough to work in an elite medical specialty it again still takes hard work to develop your skills and years of study qualify for the specialty. Therefore, diminish the reward reduces the incentive to do what it takes to earn the rent, and we end up with less rent seeking.
Anyway, I still would rather have Uncle Jeb move to Beverly Hills after shootin for some food and ending up with a bubbling crude then to have the government take it all as rent leaving them stuck in the back woods of Missouri or Tennessee.
Jeffrey Jeffrey Jeffrey
If the top guys stopped producing (yeah thats gonna happen, that means they stop earning too) someone else will step in and produce in their place……as long as there is demand for what they were producing. John Galt was a mythical creature and there are no such “principled” Americans who would forgo their earning power because of a 5% hike in taxes. If they do, its good riddance because someone else will step right in and run that business and take the $950,000 instead of $1,000,000.
Besides who cares if tax revenues drop. There is absolutely no reason why tax revenues must dictate govt.spending anyway. Get with the program…. thats so gold standard thinking
More obscene plutocratic excess. I would make sure couples have two homes, of reasonable size, at most. And tax away the remainder one way or another. Time to cut down the wild excesses of the greedies at the top and raise up the welfare of the impoverished at the bottom, by government action as needed.
Case in point:
http://realestalker.blogspot.com/2010/01/great-peter-guber-real-estate-sell-off.html
exellent comment Bruce.
Cap and Trade has nothing to do with market failure. It is a scheme to fix “global warming”. Mankiw correctly argued that a straight tax on carbon would change behavior better than cap and trade.
15% flat tax would cover the cost of govt. We would have a highly productive economy that generated more tax revenue-plus our government is too big anyway 😀
As far as people that make a 1M to do a job that someone would do for 950K, why not take that argument all the way down and eliminate minimum wage? Certainly someone will work for less.
The real crime in taxing high wages with high marginal rates is that it would hurt smaller businesses that might file as an individual, but really are businesses employing people. Those types of businesses may make the choice to cut production, not expand, or go out of business if taxes are too high. With the myriad of taxes that Obama is proposing, there is no question it will have a slowing effect on all economic growth.
Taxes that are being proposed are taxes on wealth and income. If you want less of something, tax it. Income is very variable. There is huge income mobility in the US. The person that was a high earner yesterday may not be a high earner today. A majority of high incomes are in pretty high risk jobs-so the income is not guaranteed YOY.
Flat tax. 15%. Everything. No write offs. Cut the size of government. You’d see this economy roar, along with higher tax revenues in the long run.
“Flat tax. 15%. Everything. No write offs. Cut the size of government. You’d see this economy roar, along with higher tax revenues in the long run.”
That’s a tired and still unsupported cliche that’s been touted by the right for years now. What parts of the government do we cut first. The part that suppoerts the bloated military budget? The part that no longer provides much support for education? The part that can’t seem to come up with a reasonable health care finance system? And several threads on this site have already addressed the discredited concept of lower taxes leading to more tax revenue.
Bruce,
Did the wealthy pay a higher percent of the taxes in the 60s and 70s versus in the 80s, 90s, and 00s. Its funny that with a marginal tax rate in the 60s and 70s almost twice as high as during the mid to late 80s onward yet federal tax as a percent of GDP was between 18 and 19 percent from the 1960s through the past decade.
Jack,
What parts of the government do we cut first.
Healthcare reform followed by doing nothing on global warming. Then we ask the banks and those receiving bailout money to pay back what they took right away.
Jack,
How about things that we can do that will eliminate bureaucracy? School choice, vouchers-and cut the size or eliminate the Dept of Education. Eliminate the Rural Electrification Administration, eliminate the Interstate Commerce Commission. There are so many unnecessary agencies in the government I don’t know where to start.
How about opening up Energy policy? Build lots of nuclear plants, drill for oil, end subsidies for wind, solar and ethanol.
Brings up another point, how about ending crop subsidies? Ending corporate welfare that the govt gives out.
A flat tax would increase economic output, creating jobs, taking people off the welfare rolls, and increasing all income. The liberal ideas are out dated. Don’t tell me that Bush put in place conservative ideas that didn’t work, because he didn’t. He expanded the federal government.
to compare 1958 to 2008 is a straw man. the tax code is much different. In 1958, while the marginal rate may have been 90%, there were all sorts of loopholes to avoid paying tax. Hence we wound up with AMT in the 70’s. Now AMT gets incomes as low as 75K a year. Reagan closed most of the loopholes, but lowered marginal rates.
Want to do it right. End all loopholes-no deductions. Flat tax at a percentage rate. makes tax prep easy. Plus it will increase government revenue.
today the rich pay more than anyone else. the top 6% of taxpayers pay 60% of all tax revenue to the feds. Plus the state and local taxes they pay too.
Liberals do tax the rich. Eventually we will get to a point like NYC, where only the super wealthy pay taxes. What happens when they all move away?
rl love,
Excellent comment Bruce.
I disagree. He doesn’t seem to understand Okun’s “leaky bucket” metaphor, and so it is just a bitter anti-wealthy rant – a “Margery Meanwell” with a couple of historical anecdotes (not the singular of data), and moral preening, thrown in.
This is interesting to me as a MarketMinder.com editor. For a related story on this topic, see our commentary: http://www.marketminder.com/a/fisher-investments-to-the-tax-mobile/de9dfdf5-1950-423c-a42f-2fd4043a14e6.aspx?source=home
This is interesting to me as a MarketMinder.com editor. For a related story on this topic, see our commentary.