Triggerband Web Journal

When the federal government spends money, politicians like to say its outlays are financed by taxpayer money. In actuality, taxation is only one way the federal government can raise cash. Another way is to issue Treasury notes – that is, debt – to Americans and foreigners alike. But this is still arguably using taxpayer dollars because the debt will need to be repaid from some source.

The easiest way for the federal government to raise money is to print more cash. The Federal Reserve Bank does the printing, and Congress oversees its operations. There is only one limit to the amount of money the Federal Reserve can print, and that is the value of the dollar. But even inflation can work in the government’s favor when it is seeking to reduce debt, because inflation effectively lowers the cost of repayment.

If taxpayer money was the only way the federal government could raise revenues, it would be impossible to finance a perennial deficit.

Taxing the Rich

Politicians can earn consistent political capital gains by “taxing the rich.” But there are several problems with this strategy. First is their definition of “rich.” The working definition deals solely with income rather than net assets. I consider someone rich if they have a lot of money, not if they earn a high salary.

Who is wealthier? It is the physician who recently finished his residency and began earning a salary of $250,000 but has student loans totaling $200,000? Is he wealthier than a retiree who has a pension of only $60,000 annually but saved and invested $2 million? According to most politicians, “taxing the rich” means soaking the doctor while leaving the retiree untouched.

That Won’t Work

Taxing the rich, either kind, will not work. By “work” I mean the government generates more tax revenues and reduces the financial burden on “middle” and “working” class families – two more terms with political definitions worth disputing, but not here.

Taxing high income earners will not work because most of them are valuable professionals like doctors and dentists. When taxes go up, they will demand and receive higher salaries. This will increase the cost of some basic services, even while the government uses increased revenues to subsidize other services. The result is zero change to cost of living.

Taxing those who are truly wealthy is still more problematic, for three reasons:

1. Rich people decide what their taxable income is. The majority of their assets are investments in businesses, where the primary return is appreciation as opposed to earnings distributions. So the rich, in normal times, pay most of their taxes on capital gains from liquidated investments of their choice. If taxes get too high, the rich may simply hold their investments and pay nothing on the gains, if there are any.

2. Rich people are mobile. Tax them too much and they will move their assets overseas. With a good strategy, it is amazing how much they can save.

3. Rich people oftentimes own businesses that sell goods and services to the government. Tax dollars do not enter a black hole from which they never return to the private sector. The federal government spends its tax dollars. And many wealthy people own businesses that are recipients of this cash. The businesses earn a higher income and repay a higher portion of their income in taxes. So raising taxes merely shifts positioning in a cycle, but it does not reduce the flow.

If politicians are trying to hurt wealthy people with higher taxes, they succeed at this goal. It is more than a little inconvenient for them to apply some of the above tactics. However, the only way to achieve widespread, lasting prosperity in any society is by true fairness. A “flat” income tax – much like employment taxes, but applied to all income – may be politically impossible at the federal level. Nonetheless, it is the right thing to do.

Alexander Typaldos