Taxes: The Long View

July 1, 1963

At the basis of our present Federal tax system lies the so-called principle of “progression”—the principle that taxes should be levied not in any uniform proportion, but more and more steeply with an increase in a man’s income. Though our generation has come to accept this discriminatory principle, it is important to remember that it is still relatively new and still relatively rare. All local real-estate taxes (perhaps the oldest of existing taxes) are proportional. The man whose property is assessed at $20,000 is taxed only twice as much as the man whose property is assessed at $10,000—not three times as much or four times as much.

Nearly all city and state sales taxes are also proportional. There is, say, a flat 4 percent tax on a purchase of $1,000 as on a purchase of only $10. The proportional principle is applied even in most Federal taxes—import duties, corporation taxes (with only one extra “bracket”), and social-security taxes.

KILLING INCENTIVE

The big exception is the personal income tax. We have all come to accept this progressive principle, in the alleged interests of “social justice,” and we are only just beginning to notice that it is not a very effective device for increasing revenues. It has been calculated that a flat income tax of 23½ percent, with present exemptions, would bring in all the revenue now brought in by the whole scale of “progressive” levies from 20 up to 91 percent. It has also been shown that taxes at the basic 20 percent rate bring in 85 percent of the whole revenue from the present income tax, while all the surtaxes up to 91 percent bring in only 15 percent of that revenue. It has been shown also that all the personal income-tax rates above 50 percent bring in less than 1 percent of our total Federal revenue.

But the relative unproductiveness of these progressive rates is not their worst defect. Much more important is their effect in discouraging effort and retarding that economic growth which everyone is so eager to attain.

The government professes to wish to encourage everybody to add as much as possible to the wealth and income of the country. But when it finds people who are productive far beyond the average it puts increasing penalties upon them, till it gets to the point where from some people it seizes $9 out of every extra $10 they earn. It is not merely that this undermines the incentives of the most productive part of the population, but the funds taken by the higher-income-bracket rates are precisely the fund that would otherwise have been likely to go into investment—into the expansion of existing enterprises or the launching of new ones. In other words, into growth.

DANGERS OF A CUT

The system of progressive income-tax rates is so generally accepted that there is no hope that the system will be changed, or even open-mindedly reexamined, at this time. But if Congress resorts to the folly of reducing taxes without reducing expenditures, and turns an already certain deficit into a much greater one, perhaps it will at least make practically the entire reduction in the upper-bracket rates. It could reduce these, say, to a maximum of 50 percent, to leave the taxpayer as much incentive to earn an extra dollar as the government has. The loss of revenue would be at most negligible; there might even be an increase in revenues.

If, however, Congress cuts the basic 20 percent personal income-tax rate down to 14 or 15 percent, as the Administration has proposed doing, the loss of revenue will be massive. And what is perhaps most serious, it will be politically next to impossible to put the rates back again. Restoration of the high-bracket income-tax rates, on the other hand, should their reduction prove costly in revenues, would be politically easy.

Relief to the lower-income brackets could be more safely attained by keeping the basic 20 percent rate, but abolishing the first upward jump to 22 percent.

Progressive taxation, by fostering the illusion that “the rich” are paying the bill, has contributed as much as any factor to the enormous growth in government expenditure.