his time of year reminds us about taxes because federal and state income returns for the previous year must be filed this month. The election campaigns also raise the subject, as candidates pose a variety of alternatives.
Taxes prompt people to offer endless figures - showing that taxes are too high, that the gasoline tax should be higher, that educational expenditures should be tax free, or that taxing Internet transactions would choke the bright future economic expansion beckoning ahead. Do such diverse issues have any economics in common?
First, taxes may, but need not, be levied to yield funds. Certainly any government requires citizens to pay for supporting it, to carry out its programs, and enforce its rules. One way of looking at taxes, therefore, is how efficiently they raise revenue, and if they raise enough. These lead almost immediately to the wider questions of how budgets should be calculated, when they should be balanced, and how deficits should be financed.
Thus, candidate George W. Bush argues for a general federal income tax cut because existing rates extract too much personal income from taxpayers; while his opponents argue that these amounts are not excessive, and that a deficit in these times of prosperity should be unthinkable. This macroeconomics approach to taxes applies at any level of government, although nations and states typically rely on income taxes, while localities use property or wealth or transactions taxes. But many criticisms of taxes in fact object to the size of government or the particular function of government, not the expenditure per se. Anyway, raising revenues is not the only outcome of imposing taxes.
Second, a raft of taxes exists, instead, less to raise revenue than to change behavior. In a market economy, the way to do this is change the price of a transaction: Make something cheaper or more costly and people will use more or less of it. Any tax code includes detailed provisions of stick or carrot to shape economic behavior. What is taxed, who is taxed, how the tax is calculated and how it is collected, when it is paid and what penalties follow nonpayments - these elements can all be designed to affect behavior. Thus Senator Richard A. Gephardt's recent tax proposals include a permanent tax credit for education expenses, and a phase-out of taxes on telecommunications, a three-year moratorium on taxing the Internet, and abolishing taxes on international commerce. Not because these are too high but because if they exist at all, at any level, they will discourage the current expanding economic activity the senator wants to see continue.
The two major tax policy pronouncements just reviewed cannot be opposed to one another, a Gephardt-Bush debate on these issues does not make sense. But both types recur at many levels of government and in many contexts. The question of whether government should perform this or the other function, whether citizens should spend their income individually or combine it for collective action lies inherent in town meeting resolution and constitutional amendment. As for balancing a government budget, much more sophisticated understanding of the pros and cons now exists than in previous generations, to say nothing of more sophisticated techniques of debt management. Yet a still powerful appeal for a balanced government budget stems from a very old feeling that there is something immoral about being in debt.
Third, it can be noted generally that any tax proposal will refer to fairness or equity or needs or luxuries or all of them very early in its presentation.
And when this happens it will serve to cloud any rational analysis. Appeals to exempt needs or tax luxuries more heavily represent attempts to tax on the ability to pay: People whose incomes allow buying mink coats, yachts, and first-class tickets to London can afford to pay taxes easier, whereas taxing milk or underwear or prescription drugs clearly makes needy people worse off. Fairness and equity may seem to require objective rules like taxing similarly situationed people equally and making taxes and subsidies symmetrical but nearly always emotional appeals will crop up. One of the best examples of equity puzzles is the marriage tax, another is the exemption for dependent children. If income is taxed equally, then everyone earning, say, $60,000 pays the same dollar tax, those without income pay none. But since people live together, sharing income and spending in families or households, it is only fair that family or household income should be taxed rather than that of each individual member. And then immediately it becomes impossible to tax the same dollar amounts at the same rate.
Which brings up the final characteristic in this brief review. Every new piece of tax legislation will benefit someone, which is why most new tax legislation gets passed. If taxes affect economic activity, changing incomes, prices, costs, benefits, they represent powerful political activity, with immediate effects on votes, campaign contributions, lobbying, and further legislation, and education and training on the part of experts and lawyers, accountants, and tax preparers. It would be nice to think that taxes reflect careful economic analysis and dispassionate equity judgment, but if they did the massive push for campaign finance reform would not exist.
Carolyn Shaw Bell is the Katharine Coman emerita professor of economics at Wellesley College. She can be reached by e-mail at cbell@lucy.wellesley.edu.
