A former student recently directed me to this “not particularly good article” (her words, with which I concur) and asked for my comments. I sent her some brief comments; hopefully I helped clarify just how confusing the issue really is.
The article got me thinking about how to make our tax system more “fair,” which got me thinking about the futility of worrying about whether our tax system is “fair.” In my book, there are four ways a tax system can even remotely approximate “fairness.” Here goes:
1. Each person pays the same income tax rate. This is called a proportional or flat income tax. It would be “fair” because everybody would pay the same percentage of their incomes in taxes. Divide “total tax revenue desired” by GDP, and you’ve got your flat tax rate– pretend it’s 20% (the actual calculation would be much more complicated than that, but you get the idea). But a purely proportional/flat income tax won’t happen because there are some folks so poor that the 20% tax would keep them from covering their barest necessities. So, “everyone chips in 20% of his income” is unfair.
(So then you design a standard deduction to allow people to pay for the necessities, and then the 20% flat rate kicks in– after the first $10K per household, we all pay our 20%. But then you get into an argument about whether it’s fair to have a deduction at all, and if so, how large it should be, and what constitutes a necessity, and so on. And then you run into the argument about whether there’s any difference in principle between “a single tax bracket above a standard deduction” and “multiple tax brackets above a standard deduction,” and you run into the arguments over what should count as income, and eventually you run right back into the mess we’re in today.)
2. Each person pays the same consumption tax rate. This is a sales tax, equally applicable to all finished goods and services. The arguments regarding fairness are similar to those in #1 above. However, there’s one additional argument that consumption taxes are unfair: they are regressive relative to income, i.e., the poor tend to spend higher percentages of their incomes than the rich do. This happens because the rich can afford to save more of their incomes. Consumption taxes don’t (immediately) hit savings, so sales taxes would likely consume a higher percentage of poor incomes than rich incomes. So, “everyone pays the same sales tax” is unfair.
(So then you start exempting certain necessities from taxation in order to make it easier for the poor to afford them, which begins to reintroduce progressivity to the tax system. But then you get into the same arguments as before about what constitutes a necessity, and companies fight to have their products declared tax-free. Or you design a FairTax-style “pre-bate,” a stipend equal to the taxes each household would pay on necessities, and you get into similar arguments about necessities and the size of the pre-bate, and gosh-darn-it, why do all households get them, instead of just the poor ones?)
3. Each person pays the same capitation or head tax. This would be “fair” because every person would pay the same amount. Divide “total tax revenue desired” by total population, and you’ll know the amount everyone should pay. You don’t have to use total population– you could use total number of households, or total number of adults over 18, but you’ll invariably run into arguments over whether it’s fair that everybody pays the same amount. Furthermore, folks would call this “unfair” because it’s a regressive tax, like the basic consumption tax in #2. So, “everyone chips in five bucks” is unfair.
(There’s no way to even attempt to make this less unfair. It’s, like, totally unfair.)
4. Each person pays for the goods and services he receives from the government. It would be “fair” to calculate the exact value of the benefits a person receives from the government, and charge him for it directly– so if I get $11,000 in benefits from the government, I owe $11,000. But what good would it do to provide government services to the poor and needy and then turn around and give them the bill? It would defeat the point of a transfer payment or a welfare payment. So, “everyone pays for what he gets” is unfair.
(So then you try to get people to pay directly for those government services that economists consider “private goods,” and have the rest paid for out of other tax revenues. But then you’re right back to the problem of the poor not being able to afford those particular services, so then you scale back the number of services that are directly financed, and then you’re right back where we are today: with few government services paid for directly by the end-user. Furthermore, it would be darn difficult to calculate the bill on a person by person basis, because the invasiveness and precision of the record-keeping would be prohibitively expensive.)
Bottom line: in economics, there is no such thing as “fair.” This sentiment– this reality– is reflected in this, the prototype for my future family crest.
If you’ll forgive a weak analogy: taxation is a bit like drawing blood. Some body parts can handle the needle and the bruise better than others, but the whole body loses the blood. True, the loss is not evenly distributed– loss of blood from a toe is much different from loss of blood in your brain, heart, or lung– but it still affects the whole body to some extent.
If you can’t make taxation fair, at least try to make it efficient: draw taxes from the economy as painlessly as possible, and be careful not to drain so much that the whole thing breaks down.
Exhausted; will worry about editing later.
[Updated 10:35 PM, 4/24/12] Edited, and hopefully more clear now.