Promoting electoral reform and sound government.

Friday, December 16, 2005

How Tax Rates Affect Economies

I finally picked up Jude Wanniski's "The Way the World Works" again. He makes an interesting case for low tax rates when describing the effects of tax rates on various economies following the first world war.

Britain, France and German maintained the high rates (70% on the wealthiest taxpayers) and the US and Italy slashed theirs back to pre-war levels. And which countries boomed throughout the twenties? The US and Italy.

His case is more detailed than that. For example, he cites speeches given by various US politicians who argued for cutting the rates because of the decline in total taxes collected on high incomes while the high rates were in effect. And how Congress continued cutting the rates as the economy revived. Ironically, the national debt DECLINED from $24.3 billion in 1920 to $16.9 billion in 1930.

Jude Wannaski is a conservative (he worked in the Reagan White House), but no apologist for the Bush administration (he actually wrote articles for Al Jazeera denouncing the war).

I also don't think cutting today's rates necessarily has the same effect. Rates are nowhere near as high as they were. But paying taxes does impede economic activity, especially when you can avoid getting taxed for gains not yet realized in a sale of assets. It pays to wait in many cases.

I wonder if a complete switch to consumption taxes (complete with a tax on income and profits leaving the US) would remove this friction from the creation of wealth. It ought to be a low tax (15% maybe?).

I also think there is a fair number of people who are just annoyed that the rich don't pay a lot more. Is it jealousy? Who knows. I do know that when a person has wealth, that wealth has to be earning a return somewhere and that means economic activity is happening and people are working. If you punish such investment with high taxes, such activity declines.