## Wednesday, March 31, 2010

### Does the U.S. Pay Too Little in Taxes?

Before I dive into the post, let me just say that when I discovered the actual amount I owe the Federal government in ~2 weeks, I almost threw up in my mouth. Lets begin...

Greg Mankiw questions measuring the level of taxes solely by the tax rate:
Some pundits, reflecting on the looming U.S. budget deficits, claim that Americans are vastly undertaxed compared with other major nations. I was wondering, to what extent is that true?

The most common metric for answering this question is taxes as a percentage of GDP. However, high tax rates tend to depress GDP. Looking at taxes as a percentage of GDP may mislead us into thinking we can increase tax revenue more than we actually can. For some purposes, a better statistic may be taxes per person, which we can compute using this piece of advanced mathematics (Taxes/GDP x GDP/Person = Taxes/Person):
The below is a chart of the table he references above ordered by each country's tax rate. In this case, the United States is in fact taxed at a very low rate, but is in the "middle of the pack" in per capita terms

Greg's conclusion:
The bottom line: The United States is indeed a low-tax country as judged by taxes as a percentage of GDP, but as judged by taxes per person, the United States is in the middle of the pack.
I feel like an (extremely) exaggerated, but equivalent argument as this is saying a \$4000 donation made by a billionaire is similar to a \$4500 donation made by someone worth \$100,000 (i.e. it may be in theory, but that billionaire is one cheap bastard).

It also matters what the money is used for. In other words, is it going to social services, such as education / training / health care, that promote equality or is it going to...

Before I get called a pacifist... I do understand the importance of our military, but by simple math taxes 'ex Military Spend' equals less tax revenue available for, well, everything else (unless you assume the military allows the United States to take advantage of the global political economy and increase our ability to consume... which we'll ignore for now). Remove this annual military spend from the first chart and it turns out the United States pays less taxes per person excluding military expenses than all but Spain and Japan in the initial chart. In fact, the United States is taxed ~10% less than the next (fourth least) taxed per capita country in the list, Italy (which is 37% smaller in GDP per capita terms).

Greg Mankiw's post was interesting to me in that it brought up a huge point of division between the right and left. On one hand taxes are only justified if they preserve order in society, while on the other the inequality we face has increased the appetite to "make right" all those that have been left behind.

Source: Population / Military Spend

1. So we see less of a return for our taxes? Hence, they seem a poor investment?

Don the libertarian Democrat

2. How do you define "return"? Is it purely economic (i.e. higher GDP) or social as well (as defined by some equality measure)?

3. I thought Mankiw's comments absurd. By the taxes/person metric, all poor countries are low tax countries.

4. Is this just Federal spending? It is my understanding that total (Fed/State/Local) spending went from about 7% of GDP in the early 1900's to 20% in the 1930's to 30-35% since the 1970's to 45% this year and projected 48% in 2011 (maybe an anomaly, maybe not). At the same time, 36% of taxpayers will pay no Fed income tax (16% in 1970). How much of the economy should be controlled by various govts- 50%, 60%, 80%? What percentage of filers should pay no income tax? Is the incentive for those who pay no income tax to want more spending (w/higher taxes) or less? Do you think this is healthy- are we getting a return on our investment? Collectively we work half the year to pay for govt budgets (I'd say those on the low AND high end work less than half the year while most in the upper middle work more than half).

5. cash212-

i didn't mention federal spending... this is purely taxes.

but as you mention federal spending, i'll respond to federal spending... by one measure, government spending is ~45% of GDP (http://tinyurl.com/qkde5z), but that doesn't mean it "makes up" 45% of GDP. there are certain government programs that actually add to growth (and revenues), thus GDP itself is larger due to these programs and flows (i.e. if \$500 is given out as unemployment, the unemployed person is likely to spend that money, increasing taxes on the margin). the actual level is likely in the 20-25% range on average.

the question remains whether that is too high? i think it is, due to a lot of the wasteful spending. BUT, i wish there were more programs to provide for those less fortunate than i (especially youth who don't have a chance at success). as a result i am relatively okay with it being as large as a percent if it were reallocated to less waste.

taxes are currently ~25% of GDP (perhaps near 50% for you, but 25% on average).

your remaining questions are all good ones and will definitely have different answers depending on the person responding...

6. Jake, the way I interpret the numbers: The nominal value of good and services produced yearly within the US economy is GDP. Various governments direct nearly 50% of those resources- whether it be simply redirecting buying power from Peter towards Paul or redirecting buying power from Fran to Stan contingent on Stan providing some sort of service like building a road. But Capitalism works because of the free interaction of millions of people collectively determining the allocation of capital (with the help of price signals to indicate scarcity, abundance). Having bureaucrats and politicians allocating the capital moves us towards to the Soviet model of 100% of capital being allocated by the govt. Now 50% is not 100% but it's FAR from ideal in my view.

7. but, cash, this is american capitalism, hence, rightfully, capitalism is only a component of a system that incorporates socialist capitalist and communist effect to affect a working economy.

capitalism feeds off socialism just as well as itself, and sheds workers by nature to inevitable parasocialist support mechanisms. taxes, communism, is the mechanism that supports the balance.

what to do?

8. Since taxes pay for all medical expenses in most advanced countries, should the percent of GDP spent by non-government entities be added to taxes?

9. It will be impossible for the US to sustain its military empire and meet its entitlement obligations. Something has to give. If 'we' give up the empire, quite a number of other countries are waiting to step into positions of regional leadership. We welcome back spheres of influence.

10. Greg Mankiw wrote, "However, high tax rates tend to depress GDP."

No, that depends on what's being taxed.

Economic rents can be taxed at extraordinarily high rates, with no ill effects.

Good targets for such taxes would be land and other natural resources, and income in finance which as we've all seen recently is mostly parasitic rent collection anyway, and even damaging to the "real" economy.

11. Cash212 wrote, But Capitalism works because of the free interaction of millions of people collectively determining the allocation of capital...

That's true for some markets. Say, the semiconductor industry. It's laughably false for the medical sector, with its information asymmetries and related causes of market failure.

12. Netting out military spending to to get an idea of isn't meaningful unless you're positing that the funds would other wise be not be taken from taxpayer in the first place. Beacuse you write that military spending means "less tax revenue available for, well, everything else" "such as education / training / health care" you're clearly not suggesting that. Spending the money on something else doesn't lower the tax burden.

13. Anonymous said...
Cash212 wrote, But Capitalism works because of the free interaction of millions of people collectively determining the allocation of capital...

That's true for some markets. Say, the semiconductor industry. It's laughably false for the medical sector, with its information asymmetries and related causes of market failure.

It's not laughably false. Perhaps you missed the words "free interaction" in the Cash212's comment. The argument is of course that healthcare is one of many areas where ridiculous costs walks hand in hand with a distinct lack of freedom of action among millions of participants. When the government sanctifies the actions of big pharma and medical device manufacturers that would be violative of antitrust rules anywhere else, the playing field is anything but free.

14. Another big question left unanswered here is what constitutes 'Tax'. Does it include social security, medicare, medicaid, and various other items (including State programs) that are not technically referred to as taxes?

Irregardless of semantic designation, they are funds that the government takes/withholds for its uses. By this truer measure of 'tax', I suspect that ratio is somewhat closer to 35% or so in the US (not including the deficit, of course). This may rise with withholdings for healthcare (which are already included for most other comparable countries).

The US spends about as much on 'defense' than all other countries in the world combined, so that seems like a reasonable starting point for managing the budget.

15. With all due respect to Dr. Mankiw, for the purposes if his argument, it's total spending that matters rather than receipts (taxes). Whatever the governments spends, taxpayers must supply (whether now or later down the road).

I think the formula should be gov. spend/gdp x gdp/person. Although this will probably not change the overall "average" picture, it would tend to push the U.S. tax burden higher than other more fiscally responsible countries.

Last point, it's not clear if this is total taxes (local, state and federal) or just federal.

16. Retraction. Total spending less transfers of wealth (the assumption is that robbing from the rich to give to the poor does not constitute government spending).

17. longwalksinparis.blogspot.comApril 6, 2010 at 8:36 AM

Factoid

Average total taxes on couple filing jointly making 10m+ 2009 = 15-17%

Average total taxes on couple filing jointly making 55K 2009 = 19-22%

18. longwalksinparis.blogspot.comApril 6, 2010 at 8:50 AM

This happens because wealthy individuals and businesses have far greater access to the 100,000+ tax loopholes, deductions, credits, etc than any class in American society... call it class warfare in reverse