Jon Stewart’s view on taxes

While flipping channels tonight, I came across a segment of the Jon Stewart Show where Mr. Stewart claims John Boehner referring to taxation as theft showed a lack of understanding of the United States Constitution.

Here’s a link to the full clip.

I’d be open for Mr. Stewart, or the writer of that joke, to point me to the part of the Constitution he believes Mr. Boehner doesn’t understand.

Article I, Section 8 of the CoTUS gives Congress the power to ‘lay and collect’ taxes. However, it does not say that taxes are not theft.

I’ll give Mr. Stewart the benefit of the doubt that he is referring to meaning of theft as the unlawful taking of another person’s property without their permission. Since the Constitution makes taxing power lawful, then (I’m guessing) Stewart believes taxes are not theft.

However, some folks believe the more salient meaning of theft is the part where another person’s property is taken without their permission. In that view, many taxes are theft.

I’d rather have elected officials who see taxes the way Speaker Boehner sees them than the way Mr. Stewart sees them.

Stewart was miffed that Boehner’s (what he thought was a) “mistake” didn’t get media attention, while President Obama’s lack of understanding of Star Wars and Star Trek did.

Maybe others in the media were concerned that Mr. Boehner’s view on taxes would make sense to people, especially folks fresh off their 2% payroll tax holiday.

What is ‘modest’?

Bob Murphy makes a good point while responding to Elizabeth Warren’s discussion of a $22 minimum wage:

We’re not talking about a “modest” change that Krugman et al. hide behind when we free-marketeers go nuts on this stuff. (Even here, I’m still waiting for someone to show me why going from $7.25 to $9/hour–which is a 24 percent increase–is “modest.” If the government cut the deficit by 24 percent in a year, I doubt Krugman would dismiss it as “modest.”)

…or cut government spending by 24%, lowered tax rates by 24% or increased tax rates on the poor by 24%.

 

Heard on the radio

Here’s a couple (paraphrased) good points made by callers to a radio show that I heard on the way to work this week.

Caller 1 — About the sequester budget cuts:

They expected us all to take the hit to pay the extra 2% in payroll tax at the beginning of the year. Why shouldn’t we expect government to take a hit once in a while?

Caller 2 did a great job illustrating the silliness of false choices often presented by politicians facing budget cuts:

Let’s say I take home $1,000 a week in pay. The payroll tax increase kicks in and that costs me $20 a week. Who’s going to believe it when I say, “Now I won’t have lunch money for my kids and they won’t be able to eat lunch.” Nobody…they’ll ask me if there are other expenses I could cut first. Why not cut back on the beer or Starbucks? They’ll tell me that I can make lunch for my kids to take to school.

But, why, when politicians use this tactic do people accept it as if there are no other alternatives.

Dr. Carson’s Speech

I went to Grant Davies’ blog, What We Think and Why, and watched all of the nearly 28 minute Dr. Carson speech. I recommend watching it. I just had to re-post it here:

Here are some of his major themes:

1. Political correctness keeps us from saying what we really think and that keeps us from talking about important things.

2. But, we should be respectful with those who we disagree. That’s a major theme of this blog. Hostility just tends to entrench people in their beliefs.

3. Carson’s Mom taught him to use his brain to solve problems, which resulted in him thinking his way out of poverty by not accepting excuses for his poverty status, taking advantage of education, educating himself and thinking himself out of poverty.

4. He and his wife put their money and talents where their mouths are to help others to the same. They started the Carson Scholarship Fund.

5. Why is education so important? He encourages us to learn from ancient Rome, which died from within.

6. He mentions we have a fourth branch of government: Special Interests.

7. Everyone should pay some tax, we shouldn’t punish the guy who puts a billion dollars into the pot and with health care we should empower individuals.

8. He closes with a great story about the origination of our National Anthem and a very nice imagery of the bald eagle as the nation’s symbol.

An enterprising reporter ought to ask President Obama what he thought of Dr. Carson’s speech. However, I think I can predict the answer. My guess is he’d say he liked it and agreed with it, and then say that’s why Federal government needs to help do those things.

God’s flat tax

Johns Hopkins neurosurgeon, Ben Carson, made a couple of interesting points at a White House prayer breakfast this week. Here’s one point about taxation (emphasis mine):

What we need to do is come up with something simple. And when I pick up my Bible, you know what I see? I see the fairest individual in the universe, God, and he’s given us a system. It’s called a tithe.

“We don’t necessarily have to do 10% but it’s the principle. He didn’t say if your crops fail, don’t give me any tithe or if you have a bumper crop, give me triple tithe. So there must be something inherently fair about proportionality. You make $10 billion, you put in a billion. You make $10 you put in one. Of course you’ve got to get rid of the loopholes. Some people say, ‘Well that’s not fair because it doesn’t hurt the guy who made $10 billion as much as the guy who made 10.’ Where does it say you’ve got to hurt the guy? He just put a billion dollars in the pot. We don’t need to hurt him. It’s that kind of thinking that has resulted in 602 banks in the Cayman Islands. That money needs to be back here building our infrastructure and creating jobs.”

Update: Grant Davies has posted the video of Carson’s speech on his blog, in case you are interested in watching it. Carson talks about much more than taxes. Thanks Grant!

And I highly recommend that you watch it. I’ll have more to post from it.

Should we raise the tax rate on wealthy people?

Here’s my attempt at using the Costco Connection format to look at this question from both sides.

Yes

What the experts say: Economists tell us that wealthier folks have lower utility for each marginal dollar than less wealthy folks, because they have more than met their basic needs.

Or, as most people believe, the wealthy can afford to pay more than the less wealthy.

The wealthy benefit more from government, so should pay more to support it.

Tax rates can help us remedy unfair income distributions.

No

The wealthy already pay more than the less wealthy.

It’s presumptuous of us to feel we have the right to demand more from the wealthy than we are willing to give ourselves.

Even if it’s true that the wealthy have less utility for each additional dollar than the less wealthy, that’s not the right comparison. Wealthy people have higher utility for each additional dollar than government bureaucrats have with other people’s money.

Diminishing marginal utility is not a good argument for taking stuff from people. If I stole all the stuff in your attic, would you accept my argument that what I did was right because you weren’t using it?

Everyone benefits from government and it’s fair to expect everyone to pay something for it.   In any situation where a minority pays for the majority of something that everyone benefits from (or thinks they benefit from), the tendency is for the majority to demand more and more, because it costs them nothing to do so.

Tax rates do not remedy envy. Higher tax rates on the wealthy can contribute to perceived income inequality, as wealthy folks respond to the incentives of their after-tax pay, not their before-tax income, while inequality is often based on gross income. In other words, if you raise taxes on the wealthy, they’ll seek to make even more income to make up for those higher taxes.

Higher tax rates also encourage the wealthy to make adjustments in their lives to avoid paying those taxes. Wealthy folks moved from England and France after those countries passed higher tax rates on the wealthy, for example.

My opinions

I think we spend too much time talking about tax rates and not nearly enough time talking about government spending.

I think everyone, no matter how rich or poor, should pay something.

I don’t begrudge the wealthy of their wealth, especially the wealth of those who have earned it fair and square. That means they’ve added value to society, something we fail to consider as we salivate over ways to take it from them.

Even with 20/20 hindsight, I’m appalled at how we fail to see that earned wealth often carried with it gut-wrenching risks, previous failures and an extraordinary amount of persistence against the odds. We act as if it was a given.

I don’t accept that wealthy people have less marginal utility for an additional dollar than the less wealthy. If that were true, I would expect to see more evidence of that in the financial behavior of less wealth people.

The Byrd Rule: Kicking-the-can-down-the-road government

A while ago someone thought it would be a good idea to require that tax or government spending changes (aka budget change) without a sunset provision (an expiration date) be passed with three-fifths Senate majority (or 60 votes).

Technically, a budget change without sunset provision can pass if the opposition doesn’t raise a point of order against the bill (which then requires the 60 votes to overcome), but that rarely happens.

A budget change with a sunset provision, however, can pass with simple majority in the Senate. This rule is referred to as the Byrd Rule. According to this Wikipedia article, it rule originated in 1985 and was modified in 1990.

Since it is rare that Republicans or Democrats hold the 60 votes in the Senate necessary to overcome the point of order, many budget changes get passed with a sunset so it can pass with a simple majority.

Many good-sounding, well-intended actions of government have unintended consequences.

The intention with the Byrd rule was to prevent government from making long-lasting budget changes without a strong majority. If Congress signs-up for something that costs a lot of money, they’d either need to be really sure they want to make that change, ensured by the three-fifths majority, or they’d force to come up for extension or go away.

The Byrd Rule sounds similar to the trick individuals use to keep from making impulse purchases. When you really want something, give yourself a cooling off period and see if you still want it in a week. If so, it’ll be there.

However, the Byrd Rule has a bad unintended consequence.  The Byrd Rule treats tax cuts the same as a spending increase, as having a cost. There’s much wrong with that (like recognizing a revenue reduction as a cost), but the bad consequence is that this builds in automatic, recurring political bargaining chips.

To recap, because of the Byrd rule, tax reductions are usually passed with a simple majority and a sunset provision, instead of being made permanent and risk requiring a three-fifths majority.

As the expiration dates for all the past legislation with sunset provisions approaches, politicians salivate as they get to rehash all the old arguments again and use their approval for extending the goodies as leverage for getting some of their other agendas passed (like raising taxes on select groups).

That’s why the “Bush Tax Cuts” for everyone, keep coming up for renewal. Before the Byrd Rule, Congress would change tax rates and those changes would hold until a future Congress decided to change them again.

The Byrd Rule has resulted in a government that spends a great deal of time deciding whether to kick the can down the road, as was done again last night with the fiscal cliff deal.

For example, without the Byrd Rule, the “Bush tax cuts” would have ceased being referred to as such about 2 years after they were initially passed, at which point they would have become known as the regular tax rates.

That wouldn’t preclude future Congresses from further changing the tax code. But, any change they wished to make would be justified and framed against those rates.

We would be less inclined to confuse the issue by treating the “Bush tax cuts” as temporary changes that cost the government lots of money over the past decade.

The truth is, NOBODY knows if those tax cuts actually cost the government anything. Did you know that Federal income tax collections grew for several years after the passage of the ‘costly’ “Bush tax cuts”, reaching record heights in 2007?

When someone says that the “Bush tax cuts” cost government $X over the past decade, they’re making an assumption that the economy would have happened the same as if the tax rates were never changed, or close to it. But, we have no idea if that assumption is correct.

Tax rates have incentive effects. Lower tax rates can result in more economic activity over time since individuals get to keep more of the value they produce. Higher rates can result in less, because they keep less of it.

What’s the solution? Get rid of the Byrd rule. Let’s stop kicking-the-can down the road.

 

Consequences

In the Further Thought of this post, I advocated making it clear to folks what their share of government costs and how much of their share is paid by others.

In this post, I suggested that Republicans get out-of-the-way of Democrats and let them push through their fiscal cliff fixes, but make it clear that they are only doing so because that appears to be what the American people want based on the election results. If the American people want a different result, they need to vote for different people.

Mario Rizzo appears to agree with my sentiments, as he writes on his blog in this post why he supports increasing taxes on the middle class:

Because the only way to curb spending in the long run is to make as large a number of Americans as possible truly feel the consequences of the expenditures they appear to desire.

Thoughts on taxes III: Social Engineering

In my original Thoughts on taxes post, I listed this as the second reason I prefer a simple tax system:

• We don’t get the social engineering benefits that we think we do from the cleverly designed tax code that we have. We may only get bad outcomes.

I would prefer that we only think of taxes as a way to fund government, but many folks can’t resist the temptation to make the tax code serve double duty by also trying to use it for social engineering. That is, to encourage more behavior that we think of as good (like owning homes, earning income and going to college) and less behavior we think of as bad (like earning high income and making short-term investments:)).

Well, it’s not that we think earning a high income is bad. It’s that many people believe income inequality is bad and they think tax rates can balance that out, but as we’ll see shortly, progressive tax rates may contribute to income inequality.

I believe this desire to use the tax code for social engineering has two problems. First, and most important, we don’t actually realize the social engineering benefits. Those just get pushed to other margins through by distorting natural incentives. More on that in bit.

Second, it stands to reason that the natural rewards for good behavior (like buying homes, going to college and long-term investing) should be enough to encourage that behavior without any special tax treatment.

To think about how trying to reward good behavior in the tax code pushes the supposed benefits to other margins, consider the home mortgage interest deduction. We’ve been brainwashed to believe this is good because it encourages home ownership.

We’ve also been brainwashed to believe that home ownership is a good thing.

But, why exactly is home ownership something that we should encourage? Arnold Kling wonders this as well. What’s wrong with renting?

Home ownership isn’t for everyone. Home ownership doesn’t necessarily make one wealthier, wiser or more responsible, despite that conventional wisdom that fed the housing bubble.

Have you heard how much ownership the mortgage interest deduction has encouraged? I haven’t. If there is research on this topic, I haven’t seen it and a couple (admittedly quick) Google searches didn’t immediately turn up anything. If you can point me to any research on the topic, please do so in the comments.

But, even if there is research, I’m skeptical that it would thoroughly consider all the possible distortions to natural incentives the mortgage interest deduction could be causing and how those distortions have moved the benefits of home ownership to other margins.

Even I can’t know all the distortions caused by this part of the tax code, but I am willing to bet that the my following list of possibilities is something most folks haven’t ever considered. I know this because I bring it up to folks all the time and the response so far has always been “Wow, I never thought of that.”

I think, perhaps, the biggest distortion that may offset most of the social benefit of the deduction is higher home prices. Believe it or not, the value of the mortgage interest deduction benefit is accounted for in higher home prices.

Some folks I’ve discussed this with have a hard time believing it. They tell me that they didn’t explicitly consider that when making an offer on their home.

How market prices work is hard to understand. While my friends may not have explicitly considered it, the folks they were bidding against may have and they had to beat those bids to get the house. So, they did not have to explicitly consider this benefit for it to be built into the price.

If you still don’t believe me, you should also consider why the real estate brokers and home lenders actively lobby to keep the mortgage interest deduction. Do you think they are just looking after our best interests? No. Higher home prices means high transaction prices for real estate agents (7% commission x a higher number is a higher number).s.

The mortgage interest deduction also encourages folks to take out larger loans, keep that debt out longer and have less equity in their home than they might have otherwise.

These can weaken someone’s financial position and gives less incentive to be responsible home owners. As we found out in the housing bust, owners with no equity are no more responsible than renters who do not have to pay rent.

If I had not considered how taxes distort natural incentives before, this list of four possible distortions of the mortgage interest deduction would at least make me think more about the topic and possibly consider distortions driven by other socially engineered pieces of the tax code.

Could the most progressive income tax code of all developed countries actually be contributing to income inequality? In other words, does the higher marginal rates on higher income lead high income folks to seek higher rates of gross income to offset those higher tax rates?

Like home prices, this isn’t intuitive, but is the same thing. Labor is price, just like a home price is a price. If home prices adjust to include tax benefits, labor prices can adjust to cover tax costs.

Don’t think so? Imagine one of your favorite Hollywood stars. Even better if he happens to be vocal advocate for increasing taxes on the wealthy (e.g. Matt Damon).

Now, also consider the clout of your highly paid actor. Does he sell tickets? If so, he has some good earnings leverage over the studios that sign him to their projects.

Next, think about what happens in his next movie negotiation if he gets his wish and tax rates on high incomes are increased. Let’s say before he was banking $10 million per movie, or $6 million after tax.

If tax rates increase from 40% to 60%, for example, do you think he’ll settle for taking home $4 million on his next project? Probably not. Why should he? Do you think he would recognize the $2 million hit as a consequence of his advocacy? No.

His agent will ask for $15 million so his client can take home the same $6 million as he did before. And the actor will never connect the dots on how the tax rate actually made his gross income even more “inequal” ($15 million vs. $10 million) to the folks who didn’t see a 50% increase in tax rates.

But, we don’t need to guess how tax rates can distort a rich actor’s incentives. What if a neighbor, who you don’t know well, is planning an extended vacation next summer and offers to pay you to mow his lawn while he’s gone. He tells you it takes an hour to mow.

What price would get you to agree to his offer? $20? $40? $50? $100?

Which price raised your interest level?  I’d have tepid interest for $50 and be much more interested for $100. But, everyone is different because we all have different opportunity costs.

You agree to the offer at your desired price, but then find out that one of the Homeowner Association covenants, that you never read, states that the HOA gets 50% of any such neighbor-to-neighbor dealings. Now we’ve cut the fee your attention-getting-fee in half.

Are you still interested in mowing his lawn? No. Your opportunity costs are higher than that amount, else you would have picked that number the first time.

What would make it all better? If your neighbor doubled the fee to offset the HOA’s 50% tax.

See, our own behavior and incentive distortions are not much different from the rich Hollywood actor and it’s plausible that distortions caused by unequal tax rates winds up being priced into labor, which contributes to the ‘income inequality’ that so many folks get bellyaches over.

Writing this post has made me think about a new game to play on this blog: Guess the incentive distortions. Periodically, I’ll pick a policy and see if I can name a few possible distortions that might make the policy less desirable than it sounds.

Incentive distortions caused by tax rates are rarely discussed. When they are, they are often too quickly discounted. 

Another thought on tax: Experience

I think experience matters more than theory. Why sit around and talk about how well something will work when we have experience so we can see how they work? Experience reveals the unintended consequences that may not be considered in stylized discussions of idealized scenarios.

The trick, however, is recognizing where we have experience. Sometimes such experiences hide in plain sight.

There has been much debate a flat and simple tax code for at least 20 years, if not more.

But, one thought that I didn’t include in my previous thoughts on taxes was that we already have a flat tax model at work and it has been there for quite some time: Social Security and Medicare tax.

Below is the entire Social Security and Medicare “tax code” from the Social Security Administration’s website.

For 2012, the maximum taxable earnings amount for Social Security (OASDI) taxes is $110,100. There is no limitation on taxable earnings for Medicare’s Hospital Insurance (HI) taxes.

Employee/Employer

• The Social Security tax rate for employees is 4.2 percent through the end of the year
• The Social Security tax rate for employers is 6.2 percent
• The Medicare tax rate is 1.45 percent for employees and employers

Self-Employment

• The Social Security tax rate for self-employed is 10.4 percent through the end of the year. The Medicare tax rate is 2.9 percent for self-employed.

That’s pretty simple. Over the decades, somehow, Social Security and Medicare have managed to resist the ‘fairness’ urges that have made the income tax code a complex behemoth.

While we hear some squawking from folks to make this flat tax more progressive, that so far hasn’t risen above the extraneous noise level because I believe most people view it (perhaps incorrectly) as something they will directly benefit from, so they feel it’s fair to pay their share.

You do not have to file a Social Security/Medicare tax return. The total taxes collected through Social Security are about half of the Federal income tax.

If you’re opposed to a simpler income tax code, you should at least consider that the Social Security/Medicare is a relatively flat tax that seems to do its job without creating an inefficient compliance bureaucracy.