Taxing the poor to help the rich, or the other way around?
Monday, March 26th, 2007People have attacked Bush’s tax cuts as tax cuts for the rich. Many people seem to believe that the government helps the rich and disregards the poor. The notion is that some people think that the rich pay too little in taxes and not enough help is given to the poor. The questions of “how much is enough help for the poor?†and how much of the incomes of the rich to be paid in taxes is enough?†never seem to be answered, though. Of course, we should all see that these are just normative questions, questions which cannot be answered objectively.
Often, people have looked at the question what proportion people’s incomes go to taxes and whether that proportion tends to go up or down as incomes go up. The idea is that people with higher incomes “should†(that’s a normative “shouldâ€) pay more, and pay a larger share of their incomes, than poorer individuals, an idea sometimes referred to as the “ability to pay†principle of taxation. If we tax a good, say by $1.00 per unit of the good, and that good has an income elasticity equal to one, the percent of the average person’s income going to pay that tax would stay constant as the incomes rose. This is termed a “proportional tax.â€
If the income elasticity of demand is greater than one for some good that is taxed, the proportion of incomes going pay that tax increases as incomes go up. A tax on such a good is termed “progressive†and clearly meets the “ability to pay†principle. Luxury goods are generally considered to be those with income elasticities greater than one, and so a luxury good tax seems to meet this “ability to pay†principle. We have be careful about this, because sometimes such taxes affect the sellers more than the buyers because the sellers have a lower elasticity of supply than the buyers’ elasticity of demand. In these cases, we would be concerned about the workers in the luxury good market. And of course, if the income elasticity of demand on some taxed good is less than one, the proportion of the average person’s income going to pay the tax goes down as income goes up. Such a tax is considered to be a “regressive†tax, and clearly violates that “ability to pay†principle.
What we should really be doing though, is instead of looking at taxes in isolation, is looking at the spending that taxes finance and see if the net effect of the taxes and the spending is proportional, progressive or regressive. For instance, what if we taxed the poor a bit more than the rich, but, in the meantime, used those taxes to pay for goods and services that would be extremely beneficial to the poor, such as Head-Start programs?
That is exactly what is done in a newly released study from the Tax Foundation. That site gives an overview of the study, but the entire report can be downloaded from the site. This study is one of several that has looked at both government spending to benefit those in certain income groups and the taxes paid by people in those income categories, together. The study boils things down to a few easy to understand numbers. The study asks the question, “for each dollar paid to government in taxes, how much do people get back?†Alternatively, we can see this as the price of government spending for one’s benefit? The poor get over $8 for each dollar in taxes they pay, while those in the top 20% of incomes get back $0.41 and those in the middle group get $1.30. Based on these levels of benefits for each dollar paid in taxes, is it any wonder that the poor generally vote for more taxes and spending while the rich tend to vote the opposite way? With those in the middle group getting more in benefits than they pay in taxes, why doesn’t the size of government grow at even a higher rate than it has?
MC
