It’s tax time, so here’s a question I once asked to an acquaintance who is an economist at the IRS. She wasn’t able to answer, so now I appeal to the TM:
Suppose we have two people, A and B, who do the same type of work and make the same amount of money, say, 100k/year. To simplify things, we’ll say they pay 30% of their incomes in federal taxes and we’ll ignore state taxes and other reductions in income. So their take-home salary is $70k.
Now suppose that the income tax is repealed, effective tomorrow. Should A and B expect to keep a salary of $100k from now on? Until now, their labor has been worth $100k to their employer, but as far as A and B are concerned, it is worth $70k TO THEM. What is to prevent the employer from cutting their salaries to $72k, pocketing the remainder, and saying, “you should be glad you’re getting a $2,000 raise!” Alternatively, A and B will “compete,” so to speak, and whoever takes the greater salary cut will win in the marketplace.
So… what determines the outcome? Will the employees get screwed or will they get a huge windfall? If they don’t keep the $100k salary, will the savings enjoyed by employers translate into lower prices for everything, so they benefit anyway? Is that what we call deflation?
There are a lot of concepts here. The short answer is, “it’s impossible to say.” There are so many factors, and the economy would have to readjust around such a big instant change.
However, since the government does perform many valuable functions, those functions would need to be taken over by individuals. Thus they would need the full 100k, and spend the 30k themselves on the required functions.
Regardless, the real contract is for a specific quality of life for specific work. If the economy could readjust instantly around this kind of change, I would imagine that however you calculated the dollars, everyone’s quality of life would remain about the same.
I guess my question revolves around this. When politicians talk tax cuts, it is appealing because most people know what their paycheck is and they also know what their paycheck WOULD be if only Uncle Sam didn’t take out a big chunk of it. So there is a discontinuity between the salary you negotiated for at your job and the amount of money that ends up in your bank account. But if the income tax were abolished, would we keep all of that difference, or would our employers reduce our salary, knowing that before the tax cut we were living on much less than our REAL salary?
Put another way… is the value of our labor determined by its value to US (i.e., what we get after taxes) or by its value to our employers (i.e., our salary before taxes are taken out?)
I guess none of this applies if you are self-employed or own the company where you work.
Hope this clarifies things. If not, maybe someone else can chime in.
Would you care to enumerate the functions my government performs on my behalf that are worth nearly half my income?
I say ‘nearly half’ because the OP’s example clearly reflects only the federal income bite. He ignores the state bite, the sales bite, the excise bite, etc. etc. etc. etc…
The real figure is a lot closer to 50% than it is to 30%.
I don’t know why fortune smiles on some and lets the rest go free…
good point re: quality of life being the measure of the value of work-- i hadn’t thought of it that way. I wonder if the same concept applies for a less drastic drop in income taxes, and whether it would take a long time for a little tax cut to ricochet through the economy until a new “equilibrium” is reached.
The post was not about the functions of government but about the micro-economic consequences of shifting the burden to individual taxpayers. To simplify my answer, and not open a can of worms, I held the functions of government constant.
If you want to ask what the government is good for, that’s another issue for another thread.
Your hypothetical is luscious indeed, but controversial to the point of inconclusiveness. Anyway, it ain’t gonna happen. The government of today can’t function without its lips clamped firmly on the public tit. That means taxes, and any politician who says otherwise is lying. (You can tell when he/she is lying. Watch the lips; if they’re moving, he/she is lying.)
What puzzles me is how SingleDad might propose that us poor folk, that is we who build roads and such but make something under $50K a year, can afford the $30K required for all those wonderful services the wonderful government now wonderfully provides.
I don’t know why fortune smiles on some and lets the rest go free…
What employers will pay is dictated by supply and demand, and not by the real value of the labor in any arbitrary sense. How elimination of the income tax would reverberate through the labor markets is not clear. It’s just as likely that salaries would go up instead of down, since the companies themselves would have more retained cash and could afford to pay more. Also, if hte dead-weight cost of taxation were eliminated the economy might boom, driving up labor prices. On the other hand, the chaos of losing all those government functions overnight might cause the economy to tank, driving down the price of labor.
There’s no easy way to know exactly what would happen, which is why governments shouldn’t try to control the labor market.
From the employer’s view, the tax rate is pretty much immaterial, since the employee pays it. Employees do not get paid more or less if they are filing married or single, have a lot of deductions or not. Employers will adjust the salaries they pay for cost of living in a given area (I could make more in NYC than in the Midwest, but it costs more to live there, too), but taxes are only one component of that cost.
I understand all the words, they just don’t make sense together like that.