Thursday, July 30, 2009

The rich - an exploited minority

The IRS data on US tax returns for 2007 have been released and make sobering reading. Some statistics:

1. the US population is 304, 059, 724 (as of July 2008);

2. 141, 070, 971 people paid federal income tax. Only 46.3% of the population pay any income taxes;

3. the top 5% of federal income tax payers contributed 60.63% of the total income taxes paid. This is up from 37.44% in 1986 and shows that the rich have been bearing a steadily increasing proportion of the total tax burden for at least the last 23 years;

4. the 7, 053, 549 people who make up the top 5% of people paying income tax pay more tax than the remaining 134, 017,422 tax payers;

5. in effect a mere 2.3% of the population is paying more than 60% of the income taxes.

The raw data makes political cries of "soak the rich" sound self serving, hypocritical and hollow. Stupid and wrong are also words that come to mind. The facts are that the rich have been soaked already. "Fair" is hardly a word that can be said to describe proposals to increase taxes on high income earners further.

Leaving aside subjective questions of "fairness", having such a narrow tax base is a highly dangerous way of managing an economy:

1. a narrow tax base creates a moral hazard in that there is political incentive to appease the masses by imposing the burdens of new electoral bribes on a relatively small minority of people who have no ability to protect themselves;

2. a narrow tax base is highly vulnerable to revenue shortfalls when something happens to affect the obligation or ability of the taxed to pay. Given that a lot of high incomes are closely linked to economic performance, you would expect those incomes (and the taxes paid on them) to fall during periods of economic contraction. This is what has happened in California, happened in the great depression and has happened in all of the other economic contractions I have looked at. It would be very surprising if tax receipts do not fall substantially during the current downturn;

3. high taxes act as a disincentive to invest (with consequences for job creation) and an incentive to adopt behaviour which is designed to reduce the tax burden (legally or illegally).

The blunt reality is that governments and the people they claim to represent cannot continue to soak the rich ad infinitum. At some point people have to accept that there are limits to what a country can do to provide a better quality of life for its people. Forcing a small minority of people to bear such a disproportionate amount of the burden is simply bad economics.

As much as I dislike her writing style, Ayn Rand's "Atlas Shrugged" would make excellent mandatory reading for those advocating higher taxes. If people want something more contemporary, press clippings on California's budget debacle would do as well.

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