Fairness in Tax Policy

We’ve begun to discuss the specifics of tax policy in a few of the comment threads, so I thought I’d bring that discussion here. I’ll do my best to keep the explanation simple, but if you’re not into tax policy I understand.

Jacob and I started with a discussion of what constitutes “fairness” in tax policy. I gave presented him with three options:

1. Everyone taxed the same dollar amount.
2. Everyone taxed the same percentage amount.
3. Everyone taxed according to a curved (progressive) scale.

As I suspected, he prefers option 1 in theory (because everyone would literally be paying the same amount for the same services) but recognized that the differences in the human condition precluded this in reality.

He prefers option 2 for this world because he regards it as “equal.” I liked his explanation of this better than many I’ve seen:

For example, the tax rate we will say should be 20%. And it isn’t related to how much money I make. What the government is saying is “Everyone works 1 day out of 5 for the general support and maintenance of the nation. Noone works more than 1 day, no one works less than 1 day.”
What could promote citizenship more than the knowledge that everyone works the exact same amount “from each according to his ability.” See, even the communists should agree..

As I understand his problem with option 3 (and you can read his comments here), it’s that it marks a transition in the focus of tax policy. Instead of a policy valorizing equal treatment, option 3 is a policy in which the government tries to take as much at can without negatively impacting the economy or personal liberty.

I agree with Jacob that option 2 is preferable to option 1 when we take into account the realities of human variation. But I think option 3 is superior to option 2 when we take into account the realities of the market. Option 2 takes into account the different earning potential of various individuals but not the relative purchasing power of those individuals. Yes, wealthy people tend to pay more for their life necessities (housing, food, etc.) because they can. But that increase is not proportional to their wealth. So taxing them at a proportional rate doesn’t reflect an equal tax burden.

Where Jacob thinks it’s the tax rate that should be equal (because he regards money as a reflection of his labor), I think it reasonable to aim for something closer to an equal tax burden (because I regard money as a combination of my labor and my purchasing power). This is simply a matter of perspective that I don’t think we’re likely to resolve.

This is where Clinton’s comments come in. He took issue with my disdain for what I called “the Robin Hood approach to government policy.” If I may boil down his argument, it comes to this: the wealthy have systematically increased their wealth so that the disparity between the employees at top level executives is out of control. In this situation, it is only natural — even “fair” — for the masses to seek out wealth where the wealth lies.

I agree with Clinton in terms of general tax policy. What I was referencing was one-off programs like we see in my state. Our state budget is imploding due to a combination of institutitonal restraints and the recession. In response, spending is getting slashed everywhere. In order to save this or that pet project, wealthy donors occasionally succeed in putting forth a ballot proposition that would link a fixed tax increase on the wealthiest to their special program. I disdain this kind of pandering link, which suggests the ability to gain something (a state-wide special project) for nothing (what amounts to a tiny rate increase for people you’ll likely never meet).

Instead, I prefer to see a tax code like option 3 above, paid into a general fund in which we all have a stake, and then divided out for the programs we all agree should have a priority. I don’t think there’s anything wrong with recognizing that the wealthy can afford to pay more. But they should do so in a way that makes it clear that we are all paying into the same pool. Perhaps that sounds like a small difference, but I think in a democracy it is a significant one.

One closing issue with Jacob’s comments. In addition to asking him about tax equality, I asked about whether or not he would tax capital gains the same as income. In his words, “I can see both sides of the argument for a capital gains tax, but lean more towards the opposition of it.” His argument is two-fold: (1) Those who choose to invest their money (rather than spending it on commercial goods) are benefiting the economy as a whole and deserve a tax break for that. (2) Someone already paid income tax on that money before they invested it, so it’s already been taxed.

I don’t understand how argument 1 reconciles with his position on tax rates. There he argued that “the government shouldn’t be entitled to care about what I do for a living. If I choose to be a farmer, a shoe shiner, brain surgeon. It shouldn’t be entitled to treat me different based on my choices” and “The rich get no special privileges, the poor get none either. Everyone is equal.” But isn’t this an example of the wealthy (who have money to choose to invest) getting special privileges (earnings not subject to equal taxation)? I can see how a liberal argument for the government incentivizing certain areas of the economy could support a difference in taxation for capital gains, but I don’t how it accords with the conservative argument.

I’ve also never understood the logic of number 2. Almost all the money we have has been taxed multiple times by now. If spending some of it brings in more, I don’t understand why that additional increase shouldn’t be taxed. It’s not the old money returning, it’s the old money plus some new money. If we want to deduct the amount of the original investment (since that’s conceivably my old money returning to me), I could go along with that. But if we tax money made by investing labor as income, why wouldn’t we tax money made through the investment of capital at the same rate?