People Respond to Tax Rates, Stupid!

In these two recent posts, here and here, I commented in the vein of the Wall Street Journal editorials detailing the effects of higher rates on specific income strata.

But recent video clips of Wonderboy's barnstorming this past week have reminded me of a more visceral, simpler point which he obscures.

When the First Rookie makes statements like,

'We don't need more tax cuts for millionaires or billionaires,' or,

'I'm just sayin' that rich people, like me, should pay a little (hold up finger and thumb just a small space apart) more.....'

He misses the most fundamental points about human economic behavior. The ones that put Art Laffer on the map.

First, raising rates generally causes whatever economic behavior people are doing at higher income levels to appear to contract, in order to avoid paying more tax dollars. Making relatively larger levels of income, they can afford to either earn less, out of desire to prefer more leisure over suddenly-less-lucrative marginal income, or shelter or delay said marginal income.

Second, it's simply stupid to go around mis-identifying the rates of top income earners, rather than the gross dollars they pay, especially as a percent of total taxes paid, GDP, or some other external measure. And Wonderboy, having apparently no practical life experience outside of organizing the poor in communities, seems not to understand that what ultimately matters is the total dollars raised by a tax rate, not the rate, per se.

Thus Laffer's famous curve, which has been sustained by tax policies ever since the early 1980s. The lower the higher-end rates, the more total revenue is raised, as the higher-income earners keep a higher marginal percentage of their earned dollars.

This is something that so many Democratic Senators, Congressmen and Wonderboy just don't get. Sure, it sounds good to proclaim soak-the-rich higher rates for higher incomes. But if the objective is to get more gross tax dollars from the upper-income earners, lower rates will do a better job.

Sounds counter-intuitive, bu only if you're either unintelligent or not an observer of human economic behavior.

Demagoging about tax rates for upper income earners misses the point. What ought to be preferred is the rate which maximizes tax revenues from said taxpayers. And those are not higher rates, as many empirical, post-hoc studies have shown. Studies which correctly discriminate and distinguish among economic externalities, income sources and respective rate changes.

If Not From High Rates, Where Will Tax Revenues Come?

Following on the two editorials about which I wrote in a post earlier this week, the lead staff editorial in Monday's Wall Street Journal focused on the middle-level income brackets, which, according to its title, is Where the Tax Money Is.

Here are the key passages from that piece,

"Consider the Internal Revenue Service's income tax statistics for 2008, the latest year for which data are available. The top 1% of taxpayers—those with salaries, dividends and capital gains roughly above about $380,000—paid 38% of taxes. But assume that tax policy confiscated all the taxable income of all the "millionaires and billionaires" Mr. Obama singled out. That yields merely about $938 billion, which is sand on the beach amid the $4 trillion White House budget, a $1.65 trillion deficit, and spending at 25% as a share of the economy, a post-World War II record.



In 2005 the top 5% earned over $145,000. If you took all the income of people over $200,000, it would yield about $1.89 trillion, enough revenue to cover the 2012 bill for Medicare, Medicaid and Social Security—but not the same bill in 2016, as the costs of those entitlements are expected to grow rapidly. The rich, in short, aren't nearly rich enough to finance Mr. Obama's entitlement state ambitions—even before his health-care plan kicks in.

So who else is there to tax? Well, in 2008, there was about $5.65 trillion in total taxable income from all individual taxpayers, and most of that came from middle income earners. The nearby chart shows the distribution, and the big hump in the center is where Democrats are inevitably headed for the same reason that Willie Sutton robbed banks.


Keep in mind that the most expensive tax deductions, in terms of lost tax revenue, go mainly to the middle class. These include the deductions for state and local tax payments (especially property taxes), mortgage interest, employer-sponsored health insurance, 401(k) contributions and charitable donations. The irony is that even as Mr. Obama says he merely wants the rich to pay a little bit more, his proposals would make the tax code less progressive than it is today.



Mr. Obama's speech was disgraceful for its demagoguery but also because it contained nothing remotely commensurate to the scale of the problem. If the President had come out for a large tax on the middle class, like a VAT, then at least the country could have debated the choice of paying for the government we have or modernizing it a la Mr. Ryan so it is affordable.



Instead the President will continue targeting the middle class for tax increases to pay for an entitlement state on autopilot, while claiming he only wants to tax the rich."


That chart with the single column of middle-income taxable base is eye-popping, isn't it? Thus the real target, after all the demagoging of the so-called rich. When you begin to consider the taxes Wonderboy has endorsed or promised- energy taxes, capital gains in Obamacare- you get a picture of federal taxation moving from income to expenditures, thus hitting the lower income groups harder. But they won't notice it quite so explicitly as having to file a 1040 with a higher rate.

This entire topic also begs an important and overriding question: why do we tax ourselves?

Is it, per Wonderboy's recent comments in town hall meetings, to 'pay our fair share?' Or is it to raise sufficient revenues to operate our government at the lowest rates consistent with that objective?

If you read the Constitution, you get the sense that of the two reasons, it would be the second, not the first. In fact, in the original Constitution, there wasn't even a taxation relationship between individuals and the federal government. Tariffs were the original tax source for the federal government.

It's a false representation of our federal government's purpose to suggest that 'fair share' taxpaying is a high priority. Who determines what's 'fair?'

Doesn't it make more sense to have the simplest tax code with the lowest rates on the most income, without any preferences? To make the entire process more efficient, truly fair with respect to each dollar earned, and no special preferences whatsoever?

Wonderboy's Budget Solution- Another Unelected Panel

Somewhere within Wonderboy's budget speech last week, given in reaction to Paul Ryan's 2012 budget, was the inclusion of yet another unelected governmental body to handle what our elected Congress should do.

Essentially, in order to be able to have taxes raised without Congressional action, he wants a special panel established that will take measures to close budget deficits. You can bet that, if a Democrat is in the White House, the measures will rely more on tax increases than on spending cuts.

This, to me, is the most insidious and egregious element of the First Rookie's budget. Hasn't it been enough to have some 15 unelected 'czars' in this administration? I don't approve of them in any administration of either party.

But this latest invention is without question the most harmful to our Constitution? How on earth can a president propose an unelected panel to do what Congress is elected to do? If Congress doesn't have the will or ability to pass fully-funded budgets, so be it. Then voters will elect one that does.

But there's absolutely no place in our federal system for an unelected, appointed panel to suddenly become the last word on tax and spending policies. I can't even believe it's Constitutional, but shame on Wonderboy for even suggesting it.

If you doubted his desire to damage our country, look no further than this invention of his. It's completely antithetical to our form of government.

What About Libya?

It's been almost a month since the US backed into its Libyan operation under NATO's flag. If memory serves, the US was going to be out of the action in a week.

So much for promises. But it's worse than that.

Not only does the US still have military personnel and assets at risk in Libya, but now it looks like Qaddafi won't be dislodged. Between truce talks and rumors of carving up the country into two zones, it's hard to argue that the NATO action has done much to cause the dictator to worry that he might actually have to flee.

I asked a friend last week what he would have done, were he president, in the case of Libya. Would he see the prospect of civilian slaughter, alone, as reason to intervene?

He would not. In fact, he noted the reports that Al Qaeda is heavily represented among the rebels, and suggested a much different action. He would have seen this as an opportunity to eliminate some of the anti-US terrorists in the Mideast, and offered to help Qaddafi to do so.

It's a radical alternative, to be sure. But it points up the inanity of our present situation. We're caught between aiding a dictator, or helping rebels who are likely, should they win, turn viciously anti-American.

Perhaps, absent a clear-cut choice that benefited the US, we should have simply stood aside and let the Libyans go about their civil war unaided.

It's In The Details

Matt Ridley wrote an editorial in the weekend edition of the Wall Street Journal discussing how cause and effect are often confused.

What was of specific interest to me was Ridley's noting,

"When in 1999 Antarctic ice cores revealed carbon-dioxide concentrations and temperature marching in lockstep over 400,000 years, many- including me- found this a convincing argument for attributing past climate change to carbon dioxide. Then four years later came clear evidence from finer-grained analysis of ice cores that temperature changes preceded carbon-dioxide changes by at least 800 years."

Yet we continue to hear about global warming due to carbon-dioxide. Even the EPA is currently treating C02 as damaging to the environment, despite this evidence to the contrary.

Two Important WSJ Editorials by Alan Reynolds & Phil Gramm

In two editions of the Wall Street Journal late last week, Alan Reynolds and Phil Gramm provided key insights into why Wonderboy's proposed tax policies and overall tax-and-regulatory programs of since he took office in 2009 are bound to fail in reviving the US economy and placing it on a sound footing for long term, non-inflationary growth.

Reynolds, whose sensible pieces on tax policies may be found under posts on my companion business blog under his name, wrote that,

"Both individual income taxes and overall federal taxes have long been a surprisingly constant percentage of GDP- 8% and 18%, respectively- regardless of top tax rates on salaries, small business and investors. It follows that the only reliable way to raise real federal revenues over time is to raise real GDP."

The 18% figure which Reynolds cites is supported by David Ranson's WSJ editorial from May of last year, in which he refers to "Hauser's Law." That is his term for the nearly-constant relationship of federal taxes collected being a near-constant 19% of GDP.

Reynold's recent editorial is worth reading for the wealth of detail he provides on behalf of his argument. It's very convincing.

Further, as he notes, "rich" has been defined, or dumbed, down to only the $250K and up level. It's sounds, as Reynolds quotes the First Rookie, impressive to say "trillions of dollars in....tax cuts that went to every millionaire and billionaire in the country."

But we've all read pieces dissecting how a real family of 3-4 with an income of between $250-300K is far from "rich," never mind very, very far from being "millionaires."

What I take away from Reynolds' excellent piece is the continuing confusion, whether deliberate or the result of genuine economic illiteracy by the administration's and Congressional Democrats, is that incomes associated with specific tax rates, total taxes paid, and taxes as a percentage of GDP, are all quite different.

Regardless of rates being moved up or down, over time, personal income tax filers generally pay about 8% of US GDP. Raising rates won't change this because the economic behavior of people, and economies, are extremely sensitive to tax policies. Taxes are not a static arithmetic product of incomes and new, higher tax rates.

Phil Gramm, also a trained economist, and former Texas Senator, makes a different, but equally important point in his editorial entitled The Obama Growth Discount.

Gramm provides a simple Gordian-style analysis of the relative changes in economic situation from Carter to Reagan and, again, from pre-Obama to Obama.

Gramm's point is that,

"A compelling case can be made that Reagan's tax cuts, Social Security reforms, regulatory reforms, and limits on the growth and power of the federal government not only helped the economy shake off the malaise of the 1970s but generated an economic growth premium that bore dividends for Americans until 2007."

Like Reynolds, Gramm provides a wealth of statistics to support his contention.

He then observes the federal government's actions under the current administration, concluding,

"Whether in absolute or relative terms, whether in comparison to our own experience or the performance of our competitors, America's wealth-producing ability has been diminished.....Big government costs more than higher taxes. It is paid for with diminished freedom and less opportunity. You can't have unlimited opportunity and unlimited government."

It's a simple but powerful insight. And, with Reynolds' reminder that Americans can really only afford some 18-19% of GDP as tax revenues, Gramm's points explain why our current economic 'recovery' has been so anemic. It's not a Reagan-style recovery, but a much more limited, stifled one.