Hauser’s law and why raising taxes on businesses hurt more than it helps
There are some that believe that raising taxes on the rich increases tax revenues so the government can expand its social programs. The facts and historically observed data are stacked against them.The Democrats and the Obama campaign argue for increasing taxes on wealthy and business thus:
- They can afford to pay more
- This will increase tax revenues
- Increased tax revenues will allow the government to undertake more social programs for the benefit of poor and disadvantaged and job creation, and
- It is patriotic duty for the rich and the businesses to pay more taxes in the name of fairness
However, the tax theory and history lends no support for this argument. Historically it has been observed that tax yield (defined as tax revenues as a percent of GDP) has remained constant at 19.5% regardless of the marginal tax rates. This yield has held when the top marginal tax rate was 91%, and it holds true today when the top marginal tax rate is 35%. What this means of course is that to increase the tax revenues that the government is able to collect, the GDP will have to rise. And only way the tax policy can affect an increase in GDP is by lowering taxes on businesses so businesses can reinvest the savings in capital expenditures and creation of new jobs. The following article lays this relationship out quite clearly
With this in mind, let us revisit the Democratic arguments
- The rich can afford to pay more in taxes.
This is true but then they will have less money left over for investments and business development. Additionally, higher taxes changes attitudes about risk taking to the detriment of the society as a whole. This risk taking drives innovation which drives (and has for the past century driven) the American economic growth
- This will increase tax revenues
This is patently false and has no basis in facts.
- Increased tax revenues will allow the government to undertake more social programs for the benefit of poor and disadvantaged and job creation
True but tax revenues will only increase when the taxes on the businesses are lowered. Resultant economic growth will then create new and more jobs thereby reducing the need for government programs for job creation.
- It is patriotic duty for the rich and the businesses to pay more taxes in the name of fairness
Don’t know how it is patriotic to accept policies that are detrimental to the prosperity of the country as a whole. This is a nice slogan but is just an empty rhetoric. Fairness is to allow every citizen an opportunity to realize the American dream. Fairness does not lie in hampering businesses from growing and creating new jobs even if the government decides to give handouts to the unemployed.
There is a right sized tax level, and that is the thing that it is hard to find and agree upon. If tax were the only variable in how well the average business performs we could easily manipulate the system to provide the optimal balance between maximum tax revenue and maximum business productivity.
Unfortunately, even people who share your view, and I am one of them, can’t pinpoint exactly where the optimal tax level is when all the other variables are added into this equation. This is why the counter side’s argument has some weight. I do believe that at the moment we are headed down the other side of that optimum slope, and that additional taxes will lower government revenue, not increase it.
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I said it before and I will say it again…flat tax!
15% income tax, 10% corporate tax, 3% capital gains tax and get rid of all the idiotic socialist programs which will require those high taxes to start with.
Any government which seeks to increase tax revenues needs to lower taxes. A tax increase has the opposite effect but socialists fail to realize that…sure it is much better to be ignorant about it and as long as they can fool their voter-base and buy a couple of votes…it is just pathetic.
It is so hilarious to listen to people who support an increase in taxes and who think they will benefit from them. There should by an IQ test for each voter and an economic check…idiots should be stripped from their right to vote.
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@Paul, the right sized tax level is the least amount of taxes to support the basic government functions. If the revenues come in in excess of what is needed, let the government pay it back to the tax payers or retire some of the national debt (instead of creating new and unnecessary programs). But you are right, the optimum level is hard to pin point
@Apollo, I share your sentiments but I myself am a consumption tax proponent. I think the ideal tax scenario is 0% income taxes, 0% corporate taxes and 0% capital gains taxes with taxes only levied on consumer spending at a flat rate. This would encourage people to save and invest more and will tax the rich and poor alike. It will also bring the drug dealers and other practitioners of the underground economy under the tax umbrella as I assume they buy stuff too. And finally no one will have any incentive to play any tax games.
@Apollo
Idiots will always be with us. We need to educate people. Unfortunately, the socialists control the educational system. In that respect they are quite smart. By corrupting the younger generation they ensure more socialist support over time. I know you know this and are just venting, but IQ does not equate to critical thinking. Almost everyone is smart enough to understand basic economic principles if they have the opportunity to learn them.
I like the flat tax idea, but even better the elimination of income tax for individuals and instead charge a national sales tax. Both have advantages and disadvantages. Sales tax would catch the people who get paid under the table and largely eliminate the waste of money that is the IRS. It would leak people to a black market of sales, and we would need some kind of enforcement there, but for the most part everyone would have to purchase things legitimately for the most part. On the other hand a flat income tax would still require the IRS, although in a limited capacity. It wouldn’t be affected by black market sales, and it would ensure regular income for the government, but we would still struggle with people wanting to go back to the old ways because the infrastructure would still be in place to do so.
For myself I would prefer the national sales tax because if I choose to invest my money, which will make me wealthier, then I have more to invest. When I go to spend it I will spend more and thus generate more income for the government.
I realize these are simplified views, and there are thousands of topics that would have to be addressed surrounding both, but to my original point, education is key. We need to regain control of the school system and teach real economics among other things.
@Arohan
Yes, once the national debit is eliminated I agree with you. Right now we need to pay that debt back down. I’m glad to have found another proponent of a national sales tax.
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Arohan:
The problem with a national sales tax can be seen clearly in Hauser’s Law: The tax would necessesarily be about 19.5%. That makes a black market entirely too profitable, and a huge amount of the economy would go underground, then the tax would need to rise, then more goes underground – - that’s a positive feedback process, and goes to completion with amazing rapidity.
John
John,
That is a great insight! Maybe that is why the governments everywhere are moving to a VAT system (which can still be structured as a overall flat tax). This way, there is less incentive for the black market.
Arohan
@Paul: You are right, education is the key and each one possesses an IQ which will allow that person to comprehend basic economic principles. You are also right that the socialists control the educational system and therefore the next generation of failure is already being educated and round and round it goes. Of course IQ does not equate to critical thinking…lol.
Nothing will change for the better if the education problem will not be solved.
@Arohan: Now that I think about…I like the Tripple 0% Tax System! It would create a fair playing field for all income classes and it would increase consumer spending. One thing it will also get rid off is the idiotic socialist programs and individuals will not rely on them if they are not taxed and therefore get what they actually earned.
Those who are disabled will be taken care of by the tax revenues from the sales tax and the government should have enough tax revenues to take care of what they need to take care of. Maybe the highway systems should be privatized as well, just like the education system and the less government needs to take care of the less tax revenues they require which will allow over time to even reduce the flat sales tax.
Hey, maybe we should create our own party…hehe.
Apollo’s last blog post..Ooops! Ben did it again…
Arohan, good post!
I hate the idea of penalizing someone for being successful. The problem I have is that we really don’t know how much the rich are putting back into their businesses.
I think we can all agree there is a huge divide between the haves and the have nots. Are current policies are not working but neither has socialism. Honestly, I don’t know what the answers are to this problem.
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I’m sorry, but this is a laughable post. You write:
“Historically it has been observed that tax yield (defined as tax revenues as a percent of GDP) has remained constant at 19.5% regardless of the marginal tax rates.”
This seems to be assuming that income tax is the only source of tax revenues! How about taxes on companies and government revenue from social security programs?
Rebuttal: http://www.portfolio.com/views/blogs/odd-numbers/2008/05/20/lying-with-charts-wsj-edition
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@Wan Kong Yew, I do not assume that income tax is the only source of tax revenues as you seem to have understood from the post. All I am trying to show is precisely what was written: tax revenues as a percent of GDP has historically stayed constant regardless of the marginal tax rates.
As you rightly pointed out, tax revenues have multiple components and you will get no different opinion from me.
The thrust of the argument is that to increase tax revenues, we need to adopt policies that result in growing our GDP and not the policies that result in increasing marginal tax rates.
Thanks for posting the rebuttal link. I would encourage all readers to go and read the article as well as the comments to that article at Portfolio.com. The charts in this rebuttal article clearly shows a. tax yield has stayed constant even as the marginal rates have declined, and b. Individual income tax revenue (just one component of the tax yield) has actually risen as a percent of GDP as the marginal tax rates have declined
Final thought: All taxes are a tax on individuals income regardless of what diverse mechanisms are used to collect it. You take more of this income and there is less that remains to reinvest in growth. Understanding of this simple fact will help us devise better policies for the country.
Hello All,
If you cut taxes on the rich, they do not necessarily invest it wisely in things that result in a sustainable return. Also, they often do not share the return by plowing it back into their businesses but rather hoard it paying capital-gains taxes only when required and/or spend it on personal high living. Meanwhile, the poor and lower-middle class and middle class do not do better in constant-dollar terms (adjusted for inflation). Of course, the method of calculating inflation has been altered to make it appear to be lower than it has been.
If you raise taxes on the super rich, the 19.5% can remain while the percentage of tax paid by the poorer people can go down or disappear entirely, thereby allowing them to save or spend more into the economy in the form of demand. The rich may not then keep more for themselves but so what? They won’t be poor, not even close to it. They will be surrounded by more people able to live decently thereby making the quality of life for those with higher incomes all the better without having to pay to be insulated behind high walls with hyper-security.
The economy was not small in the early 1950’s when the tax rate was at its highest. In fact, the U.S. economy was about 50% of the world’s economy. Granted it was just after WWII and the other nations had sustained war damage. The truth though is that one-income families in the 1950’s were doing better in real terms (equity and purchasing power) than two-income families have been doing for a long time, ever since the tax rates were so dramatically lowered with the promise of all ships rising with the tide for the rich. Trickle down didn’t work though. The Laffer Curve turned out to be a laugh, as predicted.
There are other costs involved in the equation as well, such as the costs of environmental damage and other costs of no regulation and insufficient regulation. Just using GDP doesn’t take those into consideration.
One must look at the overall quality of life across the entire society. Some of the social democratic nations have had much better statistical results in that regard than has the United States for instance. Infant mortality, literacy, longevity, health care, crime, vacation time, and many other factors must be weighed as well. Total quality of life for all is the proper gauge, not just what will afford the most growth of any kind (including detrimental to the environment and human health) and tax revenue.
Let’s not forget that it was military Keynesianism that finished pulling the U.S. out of the Great Depression and military spending isn’t as productive as infrastructure such as with the case of the U.S. super highway system built up under Republican President Eisenhower. Those super highways were and are socialist highways (at least the ones that haven’t been foolishly privatized into toll roads).
There is absolutely no truth in the notion that government cannot plan but only react. That idea is just false propaganda pumped out by those who stand to make the most selfish gain at the expense of everyone else. The ultra-rich pay people to conjure up public-relations sound bites to drill into the minds of people to duped them and make them or keep them as minions and servants and who don’t hear the alternatives, because the ultra-rich control the mainstream media and actually own the government that was supposed to belong to all the people. That’s why the losses on Wall Street were socialized for those hand picked by Henry Paulson but profits were not.
If you want to go far in cleaning up the mess, get rid of the Federal Reserve and switch to United States Notes. Get rid of the usurers. Adjust the volume of notes to exactly match the needs of productivity.
If you do this, it won’t be inflationary or deflationary. You don’t need any metals backing it up. You don’t need to issue any bonds, because you don’t need to borrow from anyone. Use the notes to pay off the National Debt, and be done with it.
Blessings to all, not just the greedy,
Tom Usher
Tom:
I will agree and disagree with you. First, the disagreement: The rich do not put their wealth, ill gotten ot not, in a matress. They invest it or buy things. If invested, it perforce creates jobs, if they buy things (say a yacht) they make jobs for ordinary folks employed in building yachts. The only rich that behave the way you suggest are those who hoard wealth generating means. Fortunately we have a minimal number of such in this country, unlike places such as Saudi Arabia.
Now, for the agreement: truly balancing the monetary supply to the overall wealth divided by the circulating rate would result in a stable economic system. It’s a great idea that has been suggested before, but the big problem – and why it hasen’t been workable-is that politicians can’t keep their grubbies out of the system.
Our basic economic problem is the politicians, not the rich or the poor.
John
@Tom,
Sorry the response has been long time in coming. I really appreciate you taking the time to write this detailed comment and hopefully I can do justice in my response to you.
First of all, let me agree with you that the overall quality of life across the society as a whole has declined in US, whether you compare it to other countries or to US 50 years ago. And yes, the government could have planned things a little better and not let consumerism run amok.
But I would disagree with you that cutting taxes at the bottom and increasing taxes at the top will lead to more spending and therefore more economic growth. The way I see it is that you will be increasing demand while stifling domestic supply, resulting in greater CPI inflation and/or increased trade deficits as foriegn companies rush to fill in the void. The tax policy needs to be balanced between producers and consumers.
And lastly, regarding your comment about the currency, I believe that the reason Federal Reserve exists is to control the money supply, which is basically matching the volume of the notes to the needs of productivity. It is not an exact science and all the wheels of the economy do not turn congruently and there fore you have the economic cycles and inflation.
Arohan