Economic mis-incentives

Arthur Laffer was the 1970s economist who (gasp!) argued that increasing taxes caused people to reduce their taxable income. His views are out of favor in todays neo-Keynesian, proto-Socialist national policy debate, but that has nothing to do with the accuracy of his observations.

This morning he rails at his favorite recent target, the estate tax. (“Death tax” to its opponents.) — specifically the president’s plan to continue taxing estates above $3.5 million at 45%.

I don’t have the time (or preparation) to discuss the merits of his arguments; I have been more of a fan of raising the exemption than zeroing out the top rate but haven’t researched the issue personally.

However, I found compelling his thoughts on the incentive effects of such policies:

Today in America you can take your after-tax income and go to Las Vegas and carouse, gamble, drink and smoke, and as far as our government is concerned that's just fine. But if you take that same after-tax income and leave it to your children and grandchildren, the government will tax that after-tax income one additional time at rates up to 55%. I especially like an oft-quoted line from Joseph Stiglitz and David L. Bevan, who wrote in the Greek Economic Review, "Of course, prohibitively high inheritance tax rates generate no revenue; they simply force the individual to consume his income during his lifetime." …

If you're rich enough, however, you can hire professionals who can, for a price, show you how to avoid estate taxes. … And all the costs associated with these tax shelters and tax avoidance schemes are pure wastes for the country as a whole and exist solely to circumvent the estate tax. The estate tax in and of itself causes people to waste resources.

Again, a number of studies suggest that the costs of sheltering estates from the tax man actually are about as high as the total tax revenues collected from the estate tax. And these estimates don't even take into account lost output, employment and production resulting from perverse incentives. This makes the estate tax one of the least efficient taxes. …

It is important to realize that less than half of the estates that must go through the burden of complying with the paperwork and reporting requirements of the tax actually pay even a nickel of the tax.

Flat taxes on income, sales or value added are the most regressive taxes we have, but they have a relatively low administrative burden and (generally) an even lower impact on inefficient tax-avoidance.

Money spent on accountants — like money paid to contingency fee lawyers — is a net drain on the productive output of society. If we had an economically literate ruling caste and voter population (not in my lifetime), our political “leaders” would be worrying about efficiency and economic growth rather than using class warfare to assure re-election.