I’m not disputing marginal utility, I have two problems with it:
the slope is not always negative
it’s not the right justification for progressive income tax.
Like you said, it’s very situational, so consider two people one makes $60k the other $80k. We tax the first person $12,000 (20%), but instead of taxing the second one $16k we say that she doesn’t enjoy that extra $20k as much, so we tax that at 30% for a total of $18k. After all the person making $80k really doesn’t miss that $2000 as much as the person making $60k would.
But then we are forced to look at two people each making $80k, and suddenly “situational” issues kick in. Right off the bat we realize that one of them owns a house. We like people that do that, and feel bad that they have to pay interest, so we pat him on the head and say that his income isn’t actually $80k, it’s really only $73k. Now one is taxed at $18k and other only $15.9k.
Then we realize that he has two kids, and children are a very expensive blessing, so we knock another $3k off his income bringing it down to $67. One of those kids requires $3k worth of medical care, the other pays $4k for tuition, so his adjusted gross income falls to $60k.
Now two people are earning $80, one paying an effective rate of 22.5%, the other and effective rate of 15%.
Obviously the theory of marginal utility didn’t pan out the way we thought it should. Why? Because money isn’t just money, and the curve isn’t always negative. We took the $7k one guy paid for mortgage interest and decided it provided more utils than the other guy’s $7k. We do that with all sorts of costs and income. It’s why my taxes this year were 46 pages long. I only listed three of the ways here, but imagine if one of the guy’s made part of his $80k from short term capital gains, but the other form long term.
On the other hand, you can look at this as the government choosing to determine that some costs effectively add to the poverty floor (below which we don’t pay tax) rather than being strictly discretionary income–costs like “dependent care” and “interest payments on mortgages for a home”.
As an aside, I am personally opposed to distinguishing types of income when taxing. In keeping with my belief that money is generally money, I don’t believe we should tax income differently depending on source.
Ah, OK. So if someone was saying fuck the poor, they’re all lazy bastards anyway, then it is reasonable to point out that some people are poor through no fault of their own.
The portion of the budget that goes to medicare/medicaid, social security, interests on the national debt and defense account for almost 90% of the budget. Which of those do you think is pissing money away? Or are you talking about some fraction of the other 10%?
You know the demand curve and the supply curve when broken down to the individual level as you seem to want to do does not always slope the way we all think. But we use aggregates because its the only useful way to look at the information form policy.
Let me stop you right there. Now you are talking about tax expenditures. We as a society build incentives into the tax structure. We could just as easily just tax everybody on the graduated scale and then just give people money to subsidize their home mortgage or their kids, etc.
This doesn’t invalidate the theory of marginal utility as the basis for a progressive tax system.
As an aside, have you ever read John Rawls and his theory of justice?
Well there was a time when the tax structure was a lot steeper and some people thought it was unfair to tax someone at a higher marginal rate for gains that had accreted over years if not decades.
Certainly when the top rates were >50%, that makes some sense. As it stands now, with the top rates being a very reasonable <40%, I don’t think we really should distinguish capital gains as separate income–especially as simple interest income (the type of income from savings that most poor and lower-class people have) is taxed as straight income. It seems to me that having the capital gains rate at 15% is essentially a regressive tax on savings in the current environment–while I concur that the lower bracket rate of 5% on capital gains for people in the lowest two income brackets SHOULD encourage more investing on the part of the low-income, in practice I don’t think many people take advantage of it (If I were a betting man, I’d bet it was due to a combination of “lack of knowledge” and “low risk tolerance”)
It should really be the opposite. With capital gains you have had the benefit of compound returns without having to pay tax as you go. For example if you have $10,000 in a bank account earning 4% interest you pay taxes on that 4% every year. Compare that to a capital asset that appreciates at 4% a year but where you don’t pay taxes until you sell it.
I could see taking into account inflation when you pay capital gains so that you don’t pay taxes on a phantom return, but having lower rates on top of having it compound tax free does not seem necessary.
You don’t need marginal utility to justify a progressive tax, that’s the only point I’m trying to make. It’s a perfectly valid theory with lots of important implications, and it almost works for justifying progressive tax. Almost.
Even as a last push, notice that we use income tax brackets, as if we don’t really believe in the marginal theory. So marginal income from $8,376 – $34,000 is taxed marginally differently from marginal income between $34,001 – $82,400, and then different again after $82,401. So as far as the IRS is considered marginally utility of dollars earned is not ALWAYS negative. What is the difference in marginal utility gain from $2000 when it’s earned at $32k or $35k, $80k or $83k.
Then consider that last few posts considering income earned from capital gains, dividends, and interest. You had a justification for why it should be taxed less, then someone else noted why it should be taxed more. But currently capital gains are seen as a source of income only rich people have access to, so a lot of liberals want it taxed even higher. And I’ll admit if it was tax favourably the rich would exploit it as much as they could (happened in Canada with real estate gains).
Lastly, consider once again two people earning $80,000 a year. One person is earning $80/hour and puts in 20 hour weeks. The other has two crappy jobs requiring 80 hour weeks. Can we still say their marginal gain deserves the same marginal taxation?
We have a progressive tax structure because we can, the theory of negative marginal utility is just a distraction.
I think there should be a different LTCG rate to compensate for TVM - but I think you should index it. MOST people who do their taxes and have LTCG use an accountant or at least software and it wouldn’t be that hard to index it based on length of holding and inflation or interest rates over that period of time. Requires good record keeping, but investment houses need to keep those for you now.