As We Go Forward, Part 1

Now that the politicking is over, however briefly, we have a window for serious discussion. I’d like to propose some guidelines for that discussion. Ambitiously, I’m thinking of a short series of posts on the key issues. But in case I get distracted from that plan, I want to start by making the most important point.

Here are the three basic things about taxation and income redistribution that people of good will care about:

1. the basic level of consumption we don’t want to see people falling below;

2. the ratio of recipients to payers; and

3. the disincentives for people to choose work over welfare.

If you think that 1 shouldn’t be too low, and 2 and 3 shouldn’t be too high, then I have some bad news for you: You cannot choose each of these things independently of each other. Once you choose two of them, the third one has been fully determined by arithmetic. Let me give you an example.

Suppose we determine that everyone in the US should be able to enjoy a certain amount of food, housing, and health care.  For example, let’s suppose all that adds up to a total annual cost of $20,000 per year. Now let’s further suppose that we don’t think that anyone earning over $40,000 per year ought to get any government assistance. It would simply require taxes on non-recipients to be too high. In that case, the rate at which government benefits to a household must be reduced as  that household’s earnings increase must be 50 cents per dollar. That means that people receiving government assistance would be facing an implicit marginal income-tax rate of 50%. That’s a pretty big disincentive to work, which is to say it’s very likely to generate a surprisingly persistent poverty rate. And of course, the persistence of that poverty will be held up as strong evidence of the need for a social safety net.

There is no way around this. If you decide that the implicit tax rate on recipients should be lower, then you either have to reduce the minimum subsistence-level guarantee or increase the level of income at which people lose their eligibility. The first alternative will make the poorest of the poor worse off, while the second alternative will increase the percentage of the population that are “takers”, thereby requiring higher tax rates on the remaining net “payers”.

Until Democrats and Republicans all accept this fundamental dilemma they’ll get nowhere, because they won’t really be able to talk coherently to each other.

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3 Comments

Filed under Economics, Politics

3 responses to “As We Go Forward, Part 1

  1. “Now let’s further suppose that we don’t think that anyone earning over $40,000 per year ought to get any government assistance.”

    that include tax deductions, child tax credits, mortgage deductions?

  2. Refundable tax credits, like the Earned Income Tax Credit, would indeed be part of what I’m talking about. The current limit on home-mortgage payments as a percent of income does add to the implicit marginal tax rate on earnings even though it doesn’t involve direct cash payments from the Treasury.

    Deductions from income that is going to generate actual tax payments reduce the effective marginal tax rate if the deductible items are things that households spend more on as their incomes rise.

  3. ndspinelli

    ChipS, Too bad you can’t be Treasury Secretary…that shooting a man in Reno will always haunt you.

    I had my computer scrubbed because of a nasty virus. Could you please have Trooper email me an invite? Thanks.

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