Saturday, December 29, 2018

Ooooohhh - Talk Tax Rates To Me, Baby

In an academic, partially removed-from-reality sense.

I found an interesting article this week from Daniel J Mitchell's blog International Liberty.  The article, posted December 18th, concerns the damages that increased marginal tax rates cause.  The article, World Bank Study Confirms the Ever-Increasing Damage of Ever-Increasing Tax Rates, begins by discussing the concept of deadweight loss, which shows the portion of the market for a product that gets lost because of taxes.  There's an excellent video here that explains this chart (it's a graphic they develop).

The thing to bear in mind is that the deadweight loss from the tax removes the entire area in gray.  That economic activity never happens.  The government tries to just skim some tax revenue off transactions going on, but instead government reduces the economic activity.  How many times have you heard that the revenue from a new tax is less than what was predicted?  On transactions that happen, they're a guaranteed winner, but they get nothing from the economic activity that they cut off. 

Now mentally reduce the tax rate.  That makes the purple box shorter from top to bottom.  That, in turn allows the right end of the box to extend farther to the right before it simultaneously intersects the supply and demand curves, reducing the deadweight loss.  Conclusion: Lower taxes allow more economic activity.  Now mentally increase the tax rate, making the box taller and bringing the intersection back to the left.  Conclusion: higher taxes allow less economic activity.

Less obvious is that the curves don't move linearly.  That is, if you double the tax rate, you don't necessarily double the revenue.  You increase the amount of deadweight loss which could cut off sales completely, or more than likely create black market ways to avoid the taxes.  As Mitchell says:
Simply stated, if a tax of X does Y amount of damage, then a tax of 2X will do a lot more damage than 2Y.

This is the core economic reason why even left-leaning international bureaucracies agree that class-warfare taxes are so destructive. When you take a high tax rate and make it even higher, the damage grows exponentially.
Given this, it's interesting to see supporting evidence from the World Bank (of all places) published this month.
…studies have used the narrative approach for individual or multi-country analyses (in all cases, focusing solely on industrial economies, and mostly on industrial European countries). These studies find large negative tax multipliers, ranging between 2 and 5. This recent consensus pointing to large negative tax multipliers, especially in industrial European countries, naturally entails important policy prescriptions. For example, as part of a more comprehensive series of papers focusing on spending and tax multipliers, Alesina, Favero, and Giavazzi (2015) point that policies based upon spending cuts are much less costly in terms of short run output losses than tax based adjustments.

A natural question is whether large negative tax multipliers are a robust empirical regularity… In order to answer this highly relevant academic and policy question, one would ideally need to conduct a study using a more global sample including industrial and, particularly, developing countries. …This paper takes on this challenge by focusing on 51 countries (21 industrial and 30 developing) for the period 1970-2014. …we focus our efforts on building a new series for quarterly standard value-added tax rates (henceforth VAT rates). …We identify a total of 96 VAT rate changes in 35 countries (18 industrial and 17 developing).
The World Bank study showed that VAT taxes were more destructive to developing economies than to established economies, BUT that the deadweight loss was greater in the established countries because the initial tax burden was higher; in other words, "they already had big gray boxes".  The World Bank authors include this pair of data plots from trying to determine how much raising VAT rates affect the incentives to work (left) and incentives to invest.  It shouldn't be a surprise the raising taxes reduced both the incentives to work and to invest.

Final words to Daniel J Mitchell:
The moral of the story is that all tax increases are misguided, but class-warfare taxes wreak the most economic havoc.

P.S. Not everyone understands this common-sense observation. For instance, the bureaucrats at the Congressional Budget Office basically argued back in 2010 that a 100 percent tax rate was the way to maximize growth.


  1. What I really would like to know is this: How can anyone put together an insightful article about economics (like this one) and then toddle off with the old ball and chain to see a Marvel comix film that's almost guaranteed to be a real stinker-roo and actually write about it. I sense some chicanery here.

  2. This phenomenon doesn't just occur in the realm of taxes. It's a very real issue in many sectors of the economy. It's something seen in healthcare and it's very hard to quantify. I know's what I've done for 40+ years. When the beancounters from on high decree staffing cuts all they see is the increase in the bottom line from having to pay out LESS in wages. But they struggle to understand why they also see a decrease in billable exams performed. You try and explain that there is a certain staffing level below which it becomes impossible to perform ALL of the necessary work in a timely manner. And where the work gets "put off" is invariably scheduled outpatients as the department struggles to keep up with the flow of Inpatient and ER Exams. So all those outpatients ( and outpatients are PAYING PATIENTS as opposed to many ER patients who are seen essentially for free) GO ELSEWHERE where they don't have to wait. And it's virtually impossible to keep an accurate numerical track of all the patients and exams you DON'T perform as their is no images to count and no billing to quantify. I've seen this phenomenon TIME AFTER TIME over the decades and yet it's seems to still be impossible for the bean counters who don't actually do any useful work to grasp. So the "dead zone" of mysteriously lost revenue is real, and it occurs in a lot of different venues.

    1. Dan, this is something that has been a huge problem at the VA. The director of our VA medical center in Roseburg, OR was earning bonuses in the range of $30k-$40k every year. One of the reasons was because he was able to significantly cut expenditures because he a) didn't spend much of his budget purchasing items the veterans needed, b) had the pharmacy use the cheapest generics to fill veterans' prescriptions - even to the point of changing suppliers from month to month, switching their meds to generics that were not even equivalent to the generics they were given the month before (i.e., different NSAIDs that were not chemically equivalent _nor_ as effective), but his biggest savings - and the biggest rip-off of our veterans - was in NOT replacing staff that were promoted (usually to soft jobs that didn't require much effort, and didn't improve service to our vets), who retired, or who left (like myself) because we couldn't stand what was being done ot the veterans in our care.

      So, lack of staff was one of the big reasons our vets went months and months without an appointment. Admin would _claim_ to schedule them for an appointment to be seen, but it was "on paper", and not really scheduled. These vets were often called _the same DAY_ of their appointment to be told it was cancelled because of one excuse or another. Many of them drove a long distance (as much as 100 miles each way for some), only to get to their clinic and find that their doctor or NP had called in sick, or was otherwise unavailable.

      The lack of staff meant many of our veterans did not receive the care they required, and made their stay in our facility unsafe (I worked in Acute Psychiatry, with veteran patients who often had to be kept from hurting themselves or another, with only three of us on duty - when hospital policy was to do "takedowns" with no less than five staff.

      The bean counters at Headquarters (DC) though the director was doing an excellent job, providing services for our veterans and _still_ managing to save money from the budget. They didn't listen to those of us RNs and other staff complained about the veterans who hadn't been seen in 6 months to a year, or who got short-changed for a variety of reasons.

      It sucked so badly that I quit six months short of being able to retire (had to wait another five years before I was able to begin collecting my pittance of a FERS retirement (~$300/mo after working there almost ten years). The ability of staff to give proper care was so inadequate, thanks to understaffing the various units, that not long after I left they closed the ICU and CCU, and also decided it would be OK to let the veterans on the Substance Abuse unit TO HOLD AND ADMINISTER THEIR OWN MEDICATIONS, INCLUDING CONTROLLED MEDICATIONS (E.G. NARCOTICS). That way the unit could be run without a med nurse, since they didn't have anyone available to be a med nurse for that unit. ALL of us RNs and our LPNs told Admin that it was insane to allow those veterans to handle their own meds, but they did it anyway. I left before I was required to participate in that disaster.

      It was sick. My stress level dropped so significantly after I quit that I thought I had died and gone to heaven. I felt bad for my co-workers, though, because things got even worse after I left.

  3. I wonder if that deadzone might also be labeled "unintended consequences". The actor that played "Columbo" on tv worked for one of the NorthEast states (CT?), and was directly responsible for creating that state's tax on boats. The result was a lot of yachts got moved to the next state, which caused job losses and other money flow effects for the state. The states (all of them) never bother to calculate the true costs involved of raising taxes, they just look at their bottom line for that tax, and call it a win (mostly).
    Other examples: CA levied a 10% surcharge on millionaire incomes during the dotcom era. 18k people in this income category. 1/3 of them bailed, taking their money and businesses out of CA. The state claimed they "broke even". Yeah, right. They recently passed another 3% on the diminished remainder. Another 800+ bailed. Obviously, Leftist politicians are unable to learn from example. (there may have been additional taxes in the interim, that I missed)

    1. If they could learn from experience, they wouldn't be Leftists.

    2. I believe support of self-destructive government policies is far more often motivated by self-loathing than psychopathy. Of course the policies fail, it's supposed to fail. The goal is to fail, and for all the humans to die off from untreated bacterial infections in caves by age 30. Liberals, who can vote for either the Democrat or Republican party, certainly learn from experience; they learn what speech they have to suppress. Government is a religion, the human brain equivalent of a computer virus, and enters through weak points of political instincts inherited from the great apes. In the 20th century some strains were too lethal and killed off the host before it could propagate.

    3. FWIW, I think it's too simplistic to take an "they're all the same" approach here, as in all of life.

      Some of them truly do want to wipe out 95% of humanity. I've been beating that horse for the life of this blog.

      Some of them just want to hurt successful people; they're so full of envy and hate that they genuinely want to hurt others.

      Some of them are incapable of learning from experience because they're so deeply in love with the ideas they can't admit those ideas fail whenever they're used. These are the ones who say, "it failed because the right people weren't in charge" and never ask themselves, "if it has failed everywhere for thousands of years, why should we think we now have people that are so much better than anyone in history?"

      Some of them don't or can't understand simple mathematics. They shouldn't be in charge of anything.

      Some of them are completely corrupt and are just trying to steal their money, and don't care at all about anyone else.

      Like Will says about California, Connecticut passed a millionaire's tax. They were depending on a tiny handful of people to pay for the state. Some of those people moved out of state and unfunded those programs.

  4. What this article fails to realize is that the Right People have no worry about "class-warfare" taxes, because the laws are written and enforced to not cause them problems. Or do you REALLY believe that Soros and the Koch brothers and the rest of that crowd are actually harmed by "class-warfare" taxes???