Monday, July 14, 1997

The Justification for Progressive Income Taxation

Economic data from the last 40 years shows that when Democrats cut the budget the economy grows, while Republicans only get growth by running a deficit. Statistical analysis shows that when the budget is reduced to its impact on the financial markets (deficit + net interest) and this figure is expressed as a percentage of economic growth, Democrats get more growth from cutting the deficit while Republicans get growth by increasing it. Only one factor which is constantly different between Democratic and Republican regimes explains this: tax policy. Democrats usually build a more progressive tax structure while Republicans lower taxes on the wealthy, making taxes more proportional. Economically, when you make taxes more progressive taxpayers who are more likely to consume have more money while taxpayers who are more likely to save have less. This spurs economic growth measures because economic growth measures are tied to consumer spending, rather than to saving.

If supply side economists wish to justify a stronger savings sector they need measures of economic health which have nothing to do with spending. However, their policies may still fail due to the nature of most business investment. Most business investment models are based on marketing, meaning that if their is demand for a new or existing product firms will put resources into plant and equipment to produce that product. If their is no demand for the product no investment is made (any investment manager who recommends replacing equipment without demand solely because the cost of capital is low would be immediately fired). Additionally, if their is higher aggregate demand, also known as economic growth, their it is more likely that an individual product will catch on, so their is more likelihood that investments in plant and equipment will pay off.

Finally, Republicans are lying when they say they do not like deficits. Deficits benefit the Republican Party and its rich patrons in two ways. First, deficits give the Republicans an excuse to attack spending on worker safety, consumer and environmental regulation, which interferes with its big business constiuency, and for spending on poverty programs, which plays to their misguided notion that a little misery will motivate the poor (who don't vote Republican anyway). Second, the rich benefit from the deficit, which they finance, through payment to them of interest. It is much better for them to fund the deficit and eventually get their money back plus tax-free interest than to pay their fair share of the load through progressive income taxes. However, long-term deficits do scare them. First, they have a sneaking suspicion they won't see their principal, and second they fear the rest of the citizenry will wake up and tax them instead of borrowing their money. It's time to wake up.