Working General Theory of Taxation

Posted on 16/01/2012 by


This essay consolidates several different posts, which can be read via Part 1 of the series. Additionally, I have refined and improved upon these previous writings, so if you read them, please keep in mind they have been superseded.

Basic Taxation

Taxation has often suffered a rather negative showing in the arena of public opinion. This is best exemplified by the critique “taxation is theft”. Very few people are interested in separating the concept of taxation in general from the specific tax policies which are levied. A given tax policy can be thieving, which is something very different from taxation being thievery.

The cost of these public goods is spread so thinly across a tax base that the benefits these goods provide heavily outweigh said costs. The sum of taxation is greater than any individual tax burden.  An example of this is this study by Project On Government Oversight, which found that government workers are cheaper than private contractors. This is also the case in city services like electricity, water, sewer, et cetera.

Simply put, benefits do come from taxation. That utterly precludes the concept of taxation being axiomatically theft. Taxation, at its best, is rather a ‘potential use fee’: It is the cost of having a public good be imminent, or ‘on hand’, at all times, so when the occasion arises to use it, the goods are immediately available. True public goods tend to be non-consumable; which is to say they are not diminished in their use. Taxation goes toward maintenance of those goods, which both benefits one’s self and the wider community of potential users.

This, of course, is a very dry and stripped-down view of taxation. It has far broader uses as a matter of public policy, to further many different ends. Perhaps most interestingly is its potential – and presently unused – potential for controlling inflation, in context with other policy moves. For an overview of the many uses of taxation, I recommend The Affluent Society by J. K. Galbraith.

For the purposes of my essay, I don’t want to reinvent the wheel in that regard. Rather, I intent to focus on the broadest possible implications of taxation as a general concept. Any and all varieties of taxation are the focus of my enquiry, be they income taxes, property taxes, tariffs, and so on.

Taxation as a Tool

Taxation, in an abstract sense, is always a tool to enforce a given status quo. It is the nature of that status quo which informs how taxation is used; referring to previous comments, a thieving status quo inexorably develops taxation policy which is generally thieving. This can only progress to a point, as thievery does not an economy make. Thievery can destroy an economy, however this is beyond my scope.

Recasting the argument, any given status quo will systemically and automatically push people into largely being in line with its value system. Generally speaking, Communist taxation will tend to reshape the preponderance of people into Communists; upper-middle-class managerial Caplitalism tend to drive people into being upper-middle-class managerial Capitalists. And so on.

Hence arises what I propose is the First General Law of Taxation: The preponderance of tax policy will axiomatically tend to incentivise people into conforming to the broad tenants of the social, economic, and political settlement whence the policy came.

The First Law only applies in the preponderance of tax policy. Any particular tax policy might indeed fly straight in the face of this Law, by creating what are called ‘perverse incentives’. As a very rough example, a given status quo might support the broad distribution of economic power into the largest number of individual hands; however, a certain tax policy perversely incentivises the establishing of corporations, which in turn centralise economic power.

Because of its implications,  the First Law is also a highly functional analytical tool in determining the health of a given status quo and its concomitant body politic: If the First Law is found not to hold – as in, the preponderance of tax policy works against the status quo – then there is something dreadfully wrong in that body politic. A body politic which works against itself on so important a matter as taxation is going to have serious structural problems; which, if left unresolved, will tent to dissolve that body politic.

Moving on from there, I want to consider further implications of the First Law. It should be obvious that taxation can be an extremely powerful method of incentivisation. This has been elaborated to a very sophisticated degree by the aforementioned J. K. Galbraith, who showed that a coherent and supple tax policy can do much to overcome the ills of the so-called ‘business cycle’.

The incentivising nature of taxation is unavoidable, except perhaps in the most selective and cleverly designed of tax policies. Returning again to Mr Galbraith, he had proposed extremely heavy taxes on table salt; he suggested the effect on an individual’s or household’s budget of paying, say, $5 per annum on table salt, instead of $1 per annum,  is utterly transparent. I posit this is actually not the case. The tax would affect processed foods manufacturers, for example, quite hard, and would force them to adopt some mixture of raising prices and reducing their salt use. This would in turn rebound much more immediately on the individual, and likely cause some to change their habits as well, due to higher prices of foods which make up a significantly larger portion of a food budget than table salt itself.

Hence the Second General Law of Taxation: All tax policies always incentivise certain behaviours over others. This is an unavoidable factor of taxation at all levels, no matter what particular form of taxation is considered (tariffs, income taxes, et cetera).

The Second Law does not go against the First. In a relatively healthy body politic, the incentivisation implied by the Second Law will generally be in accord with the First. In an unhealthy body politic, the reverse is true.

Incentivisation and the Settlement

There is an interaction suggested by the previous two Laws which will generate a third. But first to discuss that interaction.

There are two primary ways which taxation can incentivise activities. By far the most common method is simply the tax rate itself: Higher rates tend to discourage, lower rates tend to encourage. A more uncommon, but still applicable, methodis offering tax rebates (as in, “do this and you’ll get money back”).

Obviously those activities which are favoured will have a lower tax cost (incentivisation) relative to other activities. The most powerful incentivisation possible, of course, is to have no taxes on a given activity, or even ‘negative’ taxes – as in, a tax rebate.

To demonstrate this, a brief look at these United States should suffice. Although the proverbial ‘1%’ like to lay claim on paying ‘the highest taxes’, or ‘more than their fair share’, all unbecoming their self-proclaimed social station as ‘job-creators’. This is stuff and nonsense. A 50% tax rate on a $10 million per annum income is quite simply a pittance; $5 million per annum of after-tax income is an incredible amount of money. Any ‘job-creator’ who suggests he would be under-incentivised to ‘create jobs’ on that amount of income is frankly mad.

Compare this to a 25% tax rate on a $10,000 per annum income. Structurally speaking, it is next to impossible in these United States to live comfortably and in a decent city for under $10,000 per annum. Even a 9% tax rate (with an ironic hat tip to Herman Cain) is a month’s rent plus utility payments.

Put another way, tax rates are meaningless outside of the context of what level of income a person has, along with the structural cost-of-living income requirements. A 50% tax rate on super-high incomes might limit the debauchery of a 1%er, but a 25% (or 9%) tax rate on working poor is ruinous, with a chance of depriving the individual of house and home. ‘Contextual taxation rates’, if you will, are where primary focus must be given, and not just for the purposes of this essay.

The Stakeholder Class

Because 1.) every tax policy has inventivisations implicit in its very existence, and 2.) the preponderance of tax policy tends to support a given status quo, the following logically follows: There will exist some class of persons who are the most successfully incentivised to support said status quo, who concurrently have the most vested interest in defending and perpetuating the settlement which gave rise to their privileged position.

Taken that as true, it can be stated that contextual tax rates are the critical point of tax policy. Here, and nowhere else, can one hope to find the point of maximum incentivisation in a given status quo. Therefore, we get the Third General Law of Taxation: The stakeholder class in a given settlement are those who have the lowest contextual tax rate; effectively no tax rate; or indeed derive an income stream off of tax rebates or other such incentives.

The privileges implied by the Third Law are quite powerful, to the point where the most successfully conforming class is directly paid by the body politic as part of that conformity. Deciding which came first is an exercise in chicken-and-egg futility; suffice it to say the stakeholder class develops in concert with both taxation policy and the body politic itself.

I would hypothesise that analysis of contextual taxation rates through history will change in a fairly slow and organic manner, the rise and fall of various ‘interests’ as the stakeholder class comparing favourably to the famous battleship-curve profile. Any dramatic shifts in these historical movements will likely occur during times of systemic convulsion, such as during the War Between The States (or ‘Civil’ War, which was definitely not civil), World War I and II, et cetera.

Privilege and the Settlement

Contrary to popular opinion, I posit that enjoying the zero-tax privilege (as part and parcel of being in the stakeholder class) does not foster apathy and feckless self-centred indolence on the part of those so privileged. The ‘everyone must have skin in the game’ argument for universal taxation is precisely wrong. There is no group of persons more dedicated and active in the political and social arenas than those who enjoy the zero-tax privilege. Nothing motivates support of a status quo quite like having those privileges. Hence the power of a stakeholder class for the defence of a given settlement and status quo.

Conversely, there are none as demoralised, apathetic, and detached from the political and social arenas as those who have the highest contextual tax rate. Nothing demotivates quite like being almost constantly on the brink of financial ruin. Such oppressed persons tend to work against their own self-interests by allying with an oppressive stakeholder class; the term “don’t rock the boat” comes to mind. Rather than supporting a deep restructuring which would improve their situation, they defend a largely exploitative (and, yes, thieving) status quo.

A stakeholder class needn’t be thieving, just as taxation and a status quo needn’t be thieving as well. The connexion between these various concepts is symbiotic; they develop in concert with each other, along a certain trajectory. This suggests it is possible to use taxation as a very broad and powerful tool for reorganisation – and restructuring – of a given settlement without the need for a convulsive shift in the body politic, so long as that body is sufficiently responsible.

The existence of a stakeholder class is a natural outgrowth of the inherent incentivising nature of taxation, and therefore cannot be avoided or reformed away. What is avoidable, however, is giving the privileges of the stakeholder class to a plutocracy, or indeed corporate ‘persons’. Rather than trying to do the impossible and avoid incentivising taxation, I propose using these effects as the broad tool of restructuring which I mentioned above. These effects can also be muted, such that a status quo needn’t impose near-poverty on the masses for the benefit of debauched and overfed thieves.

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Posted in: Analysis, Reform