Saturday, September 20, 2008

A Rant about Taxation

Someone on a list serve sent me the following email, asking how to respond to a Republican friend who preaches lower taxes for the wealthy. The forward got my blood boiling, so I weighed in, and I thought I’d share the original forward and my response here.

Here’s the original forward:

Because it's the election season, let's put tax cuts in terms everyone can understand. [Way to start out with condescension from the get-go, eh?]

Suppose that every day, ten men go out for beer and the bill for all ten comes to $100. If they paid their bill the way we pay our taxes, it would go something like this:

The first four men (the poorest) would pay nothing.
The fifth man would pay $1.
The sixth man would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.

So, that's what they decided to do.
The ten men drank in the bar every day and seemed quite happy with the arrangement until one day the owner threw them a curved ball (or is that a curved beer!).
'Because you are all such good customers,' he said, 'I'm going to reduce the cost of your daily beer by $20.'

Drinks for the ten now cost just $80.

The group still wanted to pay their bill the way we pay our taxes so the first four men were unaffected. They would still drink for free. But what about the other six men ??[sic] the paying customers? How could they divide the $20 windfall so that everyone would get his 'fair share?'

They realized that $20 divided by six is $3.33. But if they subtracted that from everybody's share, then the fifth man and the sixth man would each end up being paid to
drink his beer.

So, the bar owner suggested that it would be fair to reduce each man's bill b y roughly the same amount, and he proceeded to work out the amounts each should pay. And so:

The fifth man, like the first four, now paid nothing (100% savings).
The sixth man now paid $2 instead of $3 (33% savings).
The seventh man now paid $5 instead of $7 (28% savings).
The eighth now paid $9 instead of $12 (25% savings).
The ninth now paid $14 instead of $18 (22% savings).
The tenth now paid $49 instead of $59 (16% savings).

Each of the six was better off than before. And the first four continued to drink for free. But once outside the restaurant the men began to compare their savings.

'I only got a dollar out of the $20,' declared the sixth man. He pointed to the tenth man, 'but he got $10!'

'Yeah, that's right,' exclaimed the fifth man. 'I only saved a dollar too. It's unfair that he got ten times more than me!'

'That's true!!' shouted the seventh man.

'Why should he get $10 back when I got only two? The wealthy get all the breaks!'

'Wait a minute,' yelled the first four men in unison. 'We didn't get anything at all. The
system exploits the poor!'

The nine men surrounded the tenth man and beat him up.

The next night the tenth man didn't show up for drinks, so the nine sat down and had beers without him. But when it came time to pay the bill, they discovered something
important. They didn't have enough money between all of them for even half of the bill!

And that, boys and girls, journalists and college professors, is how our Tax System works. The people who pay the highest taxes get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy and they just may not sho w up anymore. In fact, they might start drinking overseas where the atmosphere is somewhat friendlier.

David R Kamerschen, Ph.D.
Professor of Economics
University of Georgia
[and, because the intro wasn’t insulting enough, it ends with this flourish]

For those who understand, no explanation is needed.
For those who do not understand, no explanation is possible.”

This first thing I did when I read this was to google the Ph.D. who is credited with this deceptive story. It seems there is a David R Kamerschen, Ph.D. who teaches econ at the U. of G., but, of course, he may not have written this. For his sake, and for the sake of the institution where he teaches, I sincerely hope not.

The story shows a fundamental misunderstanding of what taxes are and what they pay for.
It's true that the poor pay less, but they receive less. Taxes don't go to beer. They go to things like police and firefighters and public schools. A policeman defends all homes from, for example, theft, so the wealthy person is receiving protection for far more valuable goods than the poor person. Likewise the firefighter, who is protecting a lot more property when he/she puts out the fire in the wealthy person's home than when putting out a fire in a poor person's home. The same even goes for public schools: the education may be the same for the child of a wealthy person or a poor person (or, at least, it would be if we had a more equitable system) but the wealthy person not only receives an education for his/her child, but a more educated workforce at his or her company, a benefit which the poor person doesn't experience. Also, the values of the expensive property of the wealthy person are related to the quality of the schools, just like the crime rate. Any of you who have crummy schools and have seen a decline in the value of homes in the area know this to be true. So, an economic professor might think we get beer for our tax money, but I'm not sure what country has such a system. I expect services, and the wealthy do benefit more, so they should pay more.

People like Bill Gates Sr. have said as much when they advocate for keeping the estate tax: they know how they've benefited, and that a more equitable system, even one that costs them more in taxes, benefits them even more in services. Bill Gates Sr. wrote: "The estate tax — our nation’s only levy on accumulated wealth — is the fairest and most important tax we have.

"It puts a brake on the concentration of wealth and power, generates substantial revenue from those most able to pay and encourages billions of dollars in charitable giving each year. The estate tax is not only fair but an essential component of our nation’s economic dynamism.

"Without our society’s substantial investments in taxpayer-funded research, technology, education and infrastructure, the wealth of the Forbes 400 richest Americans would not be so robust."

And as to the spurious argument that the ultra-wealthy will leave the U.S. for a country where high taxes and a strong government do not protect their wealth: show me the wealthy person who has decided to invest all his money in countries with low taxes and no stable banking system or protections of personal property, and I'll show you someone who may become very poor very quickly then they government falls or decides to seize his assets without cause. There's a reason a country like the U.S., which taxes the wealthy more than the poor, has the largest GDP in the world, and there's a reason why the economy slips when McCain, Bush, and the other acolytes of anti-tax activists gain power and try to do away with the very regulations that protect us all, wealthy and poor alike.

[I wrote that last bit on September 16th. This is not to say that I have some unusual powers of prognostication when it comes to the markets, but I think any economics professor worth his/her salt would concede that deregulation has shown its darker side quite vividly in the five days since.]

The next day I thought of another example as I fumed about the guy's perverted parable: Imagine that you have a hundred dollars in a bank, and somebody comes along with a hundred million and wants to open an account. The bank decides it will have to build a new, two million dollar high-tech vault to keep all that money safe. A conservative tax scheme would dictate that the most fair way to divide that cost would be for both you and the multi-millionaire to pay an even million each for that protection.

I think, when reduced to that oversimplification, it's easy for anybody to see that fair isn't always equal and equal isn't always fair.


Anonymous said...

Maybe I'm a socialist (ok, no maybe about it), but i'd say having the rich guy buy us all beers is equitable. How's this for guy has the money to sell beer buy the barrel full, so our free market lets him pocket all the gain he gets from his sales....suddenly, the economy worsens and rich guy can't sell beer anymore...since we all love rich guy so much, we all chip in to cover his loss. I too, would like to see the research that shows people will expatriate themselves and there assets if taxes get to high. (not to mention the huge expatriation tax congress just passed to punish those leaving for tax reasons.) Uggh! I'm in the wrong line of work. - Bill

Anonymous said...

No to mention that the estate tax doesn't go far enough in reducing the pooling of wealth at the top of the heap. Currently a married couple can pass along $4,000,000 to their heirs free of estate tax and the government only gets 45% of the excess above that. I saw take it all above a certain exclusion (or a much higher percentage)...give an exclusion for truly family held and operated businesses (which exists under current tax law) so we can stop listening to the "i had to sell the family farm" fables. - Bill

JMJ said...

I stumbled upon your blog from your comment on Sojourners.

It seems that you are far more left-leaning than I, which is not a bad thing. Different perspectives lead to discussion which (in my mind) should lead to broader understandings.

Most of your posts, I simply read with out much of an urge to comment. But here, I felt otherwise.

Not meaning to offend, but my initial impression is that you are responding with emotion to a viewpoint violently opposed to your own without properly understanding what you are responding to.

As a sidenote to my response, let me say that one cannot quantify police/fire protection in terms of amount of possessions. It may be worth more to a richer person, but that worth is assigned by the receiver. An appropriate comparison would be a teacher: should the less intelligent pay more for teachers? After all, the smarter children learn far quicker than the less intelligent, and therefore require less of the teacher's time. The easy answer is no! The teacher is there for everybody, regardless of ability, and therefore, should be "paid" equally by each student. (I know the analogy doesn't fit 100% perfectly, but you understand the point I'm trying to make.)

I would agree with you that there is a fundamental inequality in public services: richer school districts have newer textbooks, better paid teachers, etc.

However, consider a poor family and a rich family in the same district. Each family is getting identical services, police/school/fire, and each family is paying a share, with the rich family paying a larger share.

This is the problem with your analysis. It's doesn't compare apples to apples. If we compare degree of service, we should compare a rich person and a poor person in the same tax paying district.

Having said that, let's consider the email's (admittedly oversimplistic) message again. Anytown, USA has population 10. These 10 people each receive the same exact service, but pay different prices. The government decides to reduce the public burden to those 10 people. But how to distribute the reduction? Beer is irrelevant. The issue is equivalent service to an unequal population.

When you consider the issue from this perspective, the email is true. The rich pay more taxes (fair), but a tax cut will affect the rich more, because of proportionality (also fair).

Interesting blog. Hope to read more.


Benjamin Gorman said...

Thanks for your thoughtful comments. I'd like to address a few. First off, we absolutely can and do evaluate fire and police in terms of what they protect. We wouldn't pay more for fire protection than the value of the goods they protect, just as we wouldn't pay higher insurance premiums than we pay mortgages. Now many crimes not only hit us in the wallet but shock our consciences, but police officers and district attorneys have to make calculated decisions about which crimes to prosecute, both to protect individuals and to protect property. Certainly people place value on goods beyond the monetary value, and no fire-fighter I've ever met would refuse to fight a fire because of the value of goods inside a house, but when they put out a wealthy person's house they are protecting more in monetary value than they protect when saving the house of a poorer person, and the value of the intangibles is, well, intangible. So, when it comes to measuring the benefits the wealthy person receives more, measurably, than the poor person, while the immeasurable benefit is, well, immeasurable, and therefore not germane to argument.

As to education, I can speak to this with some experience. Even two kids in my class to not come in from equal backgrounds and do not go out to equal outcomes. Assume I manage to give two students perfectly identical education (which wouldn't be possible or even right, because we try to personalize education to each student, but, for the sake of argument...). One kid comes in from generation poverty and does well for himself, puts himself through a state school and comes out with bearable student loans, and gets a job at a company that makes widgets, where he works as a manager. The other kid goes to the same state school, minus the debt because his folks can afford to pay for the whole shebang. He goes to work at the widget factory owned by his father and within a decade he's running the place. Now, he makes a calculation that he can pay the first student X amount because the student will produce X+Y profit for the company. That's not evil or anything, just sensible business. As long as the first student works for the second, the equal education I provided in my class produces a greater economic benefit for the wealthier student, who is served by both his own education and the education of his employee.

When liberals propose taxing both corporations and then taxing the incomes of the CEOs, conservatives call it double taxation. So, when an employer benefits from their own public education and the educations of their employees, does anyone complain about their tax-funded double benefit?

So, back to your summary of the original email, the problem isn't the proportionality or distribution of the tax cut. It's the fact that the benefit was not equal initially. Beer is relevant in that it's such a bad analogy. when we talk about taxes, we are talking about services that are not distributed equally, but, by defending us all, educating us all, maintaining the status quo for as all, benefit us proportionately to our places in the society they maintain.

Perhaps Bill, above, who not only identifies himself as a socialist but also works as a tax attorney for the ultra-wealthy, can explain this better than I can.

Bill, help!

JMJ said...

Thanks, Benjamin, for your response.

Let me address some of the things you said by clarifying what I meant.

First of all, I want to address this point you made:

It's the fact that the benefit was not equal initially

This is the idea I was trying to counter in my initial comments. Perhaps I can clarify:

I was making the point that even though public services such as police and fire may be worth more to the rich man than the poor man, that assigned worth is not assigned by society (nor the service providers), but by the rich man himself. After all, it's his possessions that are getting protected. Both the rich man and poor man are getting the same services, but it's worth more to the rich man because of what he owns. the worth is self assigned.

If you argue that because he's getting more protection, he's getting an unequal distribution of those services, can it not be argued that those families with more members (i.e. more children) are getting unequal distribution of police protection from harm?

I think the same concept is in both examples. But the answer is not that services are being unequally distributed, but that the services are worth more to the receiver, depending on the individual's own needs/wants.

We can make similar arguments for public parks, libraries and the arts. These services are available to all. But only those who make use of them are benefitting. Are they, then, getting an unequal chunk of services? Again, the answer is no.

This is why I was arguing that beer is an apt analagy, because it is being equally distributed. If, on the other hand, the analagy was based on a buzz from alcohol, then your points may be valid.

Benjamin Gorman said...

Last night I posted a long reply to your most recent comment, only to have the computer lose it mysteriously. You'll just have to trust me when I say it was brilliantly written and remarkably persuasive.

Anyway, the point I tried to make was that the flaw in the beer analogy is this: the rich guy in the story owns the bar. When he lowers his prices for the poor guys, he's effectively raising the price of his own beer by cutting into his own profits, but he does it anyway, and maybe even buys a round on the house every once in a while, because that makes his bar successful. The bar owner down the street is obsessed with making the prices fair to himself, so he never has a half-priced drink night or buys a round for his customers, and, as a consequence, he has no customers, so he gets poorer, too. It's the same without countries, except instead of losing customers to other bars, the poorest customers go without health care, education, food, etc., and some of them die, which makes for a crappy country for the wealthy, too. Also, it makes that country very politically unstable, and as a consequence some of those rich folks end up dead as well.

Check out the quote about taxation from the "Conservative Crackup" dialogue on Slate which I quoted in my most recent post. We can reasonably debate the angle of the tilt of a progressive tax scheme, but denying one altogether on the ground of fairness not only lacks compassion, but its ultimately not in the "enlightened" (read: greedy) self-interest of the wealthy.

Trust me, that all sounded a lot better the first time I wrote it.

JMJ said...

The owner of the bar and the rich man are 2 different people. Unfortunately, that makes your point inapplicable to the discussion.

Benjamin Gorman said...

They may be in the professor's story, but they aren't in our country. People who make more than 250 thousand dollars a year (the top 5% of income earners) either have employees on their payrolls or are independently wealthy million-heirs. In both cases, they directly benefit from a customer base composed of those who have less. Much less. So for the analogy to truly be related to our economic conditions in this country (and therefore be applicable to a discussion of U.S. tax policy) the wealthy man DOES own the bar.