Back in September, I posted a flowchart showing how the current tax system is biased against saving and investment.
Simply stated, the federal government largely leaves you unmolested if you consume your after-tax income, but there are as many as four extra layers of tax on income that is saved and invested (a point I also discuss in this video on the capital gains tax).
But it’s not sufficient to point out that the internal revenue code is biased against saving and investment. Over the years, I’ve had many debates and discussions with leftists, and their reactions range from glee (“good, we’re taxing the rich who have lots of wealth”) to boredom (“big deal” and “so what’s your point?”).
To help people understand why double taxation is misguided, it’s also necessary to explain how such policies undermine economic performance. I had a chance to briefly address this issue in a “Room for Debate” column for the New York Times. The main topic of the piece was how rich people who win lotteries should use their extra cash, and I used the opportunity to explain why the rest of us should want them to do more saving and investment.
…being good entrepreneurs and investors is the best way for rich people to help the rest of us. All economic theories, even Marxism and socialism, are based on the premise that capital formation is a key to economic growth and rising living standards. In other words, we need saving and investing to create the conditions for more jobs and rising wages. And since the world has learned that it’s not a good idea for the government to be in charge of such things, that means we rely on the private sector – including (gasp!) rich people – to set aside some of today’s income to finance tomorrow’s prosperity.
Statists call this “trickle-down economics,” which is an admittedly clever term of derision, but it doesn’t change reality. As I note in the excerpt, every single economic theory agrees that capital formation is necessary if we want more prosperity.
To provide a bit more elaboration, people generally get paid on the basis of what they produce. And workers are able to produce more when there is an increase in the quality and/or quantity of machinery, equipment, tools, and technology. These forms of capital are not the only things that matter, to be sure, but I’d be shocked to find an economist who disagreed with the premise that more saving and investment leads to higher productivity leads to higher wages.
Yet our tax code probably treats saving and investment worse than it treats tobacco. As I noted in 2009, this doesn’t make sense.
Politicians understand the economic impact of taxation when it serves their interests. They often brag about raising tobacco taxes to discourage smoking. It’s not their business to dictate private behavior, of course, but they are right about higher taxes leading to less smoking (they also lead to more cigarette smuggling, but that’s a separate issue). Those same politicians, however, conveniently forget about the economic effect of taxes when they impose high tax rates on work, saving, investment, and entrepreneurship. Or maybe they simply don’t care.
It’s pretty discouraging when you get to the point where the only possible interpretations of political behavior are stupidity or venality.
Or perhaps it’s a combination of both, as I explain in my video on class warfare.
P.S. I did explain to the readers of the New York Times that Obama’s policies are discouraging saving and investment, as illustrated by companies sitting on more than $1 trillion of cash and banks keeping more than $1 trillion of excess reserves at the Federal Reserve.