Posted by: bmeverett | June 28, 2010

Deep in the Heart of Taxes

One of life’s basic principles is that simple is better. Lots of things, like quantum mechanics, are necessarily complex, but we shouldn’t create complexity when we don’t have to. Unfortunately, in our nation’s capital, complexity is preferred in all things.

Take income taxes, for example. The idea is simple: you pay a share of what you earn so the government has sufficient funds to perform required functions. In the interests of fairness, the income tax is progressive, i.e., if you make more money you not only pay more taxes, but you pay at a higher rate. Simple income tax systems are easy to design. Hong Kong, for example, has a flat tax system in which generous exemptions and allowances keep most people off the income tax rolls altogether. High-income residents pay 16.5% on their income in excess of the deductions. The forms are simple, it doesn’t take very long to fill them out, and opportunities for tax lawyers are limited.

The current US tax law, however, is a nightmare. According to the Tax Foundation, in 1955 the IRS code/regulations pertaining to income tax totaled 718,000 words, about the same length as the King James Bible. By 2005, the number had risen to over 7 million words, and it’s now growing at about 135,000 words per year. The tax complexity distorts our economy and is very difficult even for an average person to manage. According to the National Taxpayers Union, individual taxpayers spent 3.8 billion hours last year filling out their taxes. The 140 million tax filers therefore average about 27 hours a year on taxes. If you value your time at, say, $25 an hour, that’s the equivalent of $675 a year – a dead weight loss.

Why do we have this system? Partly we have a longstanding progressive itch to try social engineering, in which government tries to encourage us to be good and discourage us from being bad, but the real reasons are more mundane. Senators and congressmen first of all want to extract as much money from the economy as the citizenry will tolerate. In addition, our representatives get elected by handing out goodies to their constituents. These goodies can be direct expenditures like public works projects, government facilities, grants, etc., but congressmen also hand out tax breaks. This problem is not unique to liberals or Democrats. Republicans are just as guilty. In fact, the complexity of the tax code is designed not to create fairness, but to disguise the inherent unfairness of the system. Does anyone really believe that the “Cash for Clunkers” program was anything other than a subsidy for automakers and the communities in which they are located? Does anyone still believe that farm state Senators and Congressmen support ethanol subsidies because it’s good for the country as opposed to good for farmers?

The political purpose of taxation is to assemble large pools of “spreading around” money. Although our elected officials insist that the purpose of tobacco taxes is to discourage smoking, the taxation level is carefully set so people continue to smoke. Otherwise, we would set the tax at $100 per pack or simply outlaw smoking. That would cause most state budgets, which rely heavily on these taxes, to crater.

Why are many states now considering legalizing marijuana? Is it really to help people suffering from glaucoma? If you’re not sure, here’s a little mental test. If Pfizer, Merck or any of the other big pharmaceutical companies announced, “Hey, we found this plant growing in our backyard that makes some people feel better, and we would like to sell it,” what would happen? The answer is that the Federal Drug Administration would insist on years of testing to determine exactly what benefits the drug carried and what side effects it caused. Governments are licking their chops over legalization of “medical” marijuana because they can tax it.

How about climate change legislation? Most economists would argue that the best way to address external costs not reflected in market prices is through a tax equal to the cost. If you want to discourage carbon dioxide emissions, you can put a tax of $x per ton on carbon. That’s politically hard to do, so climate change advocates prefer the “cap and trade” system in which an overall limit is set and the rights to emit carbon dioxide are auctioned off. This is a bit more complex, but still pretty straight forward.

The American Power Act sponsored by Senators Kerry (D-MA) and Lieberman (I-CT), however, has none of that simplicity. First of all, it’s roughly 1,000 pages. Why? Because it’s just like the income tax – a way of collecting revenues while allocating benefits to preferred constituents. To understand this problem, you do not have to read the entire 1,000 pages. Just have a look at Section 1603, Paragraph (b), subparagraph (2) on page 201, which reads as follows:

INDIAN TRIBES.—The Administrator shall distribute 0.5 percent of the allowances described in paragraph (1) to Indian tribes, on a competitive basis, to carry out renewable energy and energy efficiency programs, as determined by the Administrator.

If the purpose of the legislation is to reduce carbon emissions at the lowest possible cost, why in the world are Indian tribes getting preferred treatment? Is it because their cultures carry a traditional reverence for low carbon footprints, as they do for casino gambling? Or is it more likely that Senators and Congressmen from states with large Indian populations are looking for votes?

In the Kerry-Lieberman Bill, carbon dioxide allowances are not auctioned off to those who place the highest value on such emissions, but rather to politically favored constituents. If this legislation passes, we will have in place a second income tax system, which allows elected officials to extract revenue and to allocate government benefits in return for votes. The lobbying frenzy over this bill has been underway for some time. General Electric, for example, is a strong supporter of cap-and-trade legislation because it makes lots of products, like wind turbines, that the government will subsidize. Without subsidies, GE would be unable to sell these products. Great for them, but not so good for you. The chances of such a system actually reducing carbon emissions in any meaningful way are pretty much zero.

If you still think that the purpose of the bill is to reduce carbon emissions, check out Part C, Section 726, Paragraph B, Subparagraph 2 on page 349, which states that the maximum allowable price for carbon is $25 per metric ton of CO2 escalating at 5% per year above inflation. $25 per metric ton is the equivalent to about $0.27 per gallon gasoline. By 2030, the tax will be about $0.65 per gallon – enough to bring in substantial revenue, but hardly enough to change behavior.

As my readers know from many previous posts, I regard climate change science as far too weak to support expensive carbon mitigation steps. Even those who disagree with me on this point, however, should oppose this legislation. It’s just another way of extracting revenue from those without the power to lobby for exemptions.



  1. […] this link: Deep in the Heart of Taxes « Bruce Everett's Weblog Comments […]

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