Tipping the Scales

Former economist Paul Krugman has actually managed to get these words past an editor at the New York Times:

There is, however, one big difference between corporate persons and the likes of you and me: On current trends, we’re heading toward a world in which only the human people pay taxes.

Now I think we can be quite sure that even Paul Krugman, with his gargantuan capacity for forgetting everything he once knew, is well aware that we already live in a world where only human people pay taxes. That’s an instance of the general principle that the legal incidence of a tax does not determine its economic incidence. The corporate income tax is levied by law on corporations, but its economic effects are felt entirely by humans.

Why then, did he write this in the first place? Well, the charitable reading — and I am all in favor of charitable readings — is that all he’s saying is that the legal incidence of taxation has shifted somewhat from corporations to individuals.

But why would that be interesting? And why would it be, as Krugman seems to take for granted, a clearly bad thing? Suppose that in 1990, I received a $1 dividend and paid a 25% tax, keeping 75 cents in my pocket, while in 2014, due to a fall in corporate rates (leading to higher dividend payouts) and a rise in personal rates, I received a $1.50 dividend and paid a 50% tax, keeping 75 cents in my pocket. Who cares?

Well, perhaps there are reasons to care, involving some non-obvious incentive effect of the sort that it takes an economist to notice. Well, that, then, is where the economist comes in — his job being to explain why he thinks these things matter. In this case, I don’t offhand see the argument, but I’m perfectly happy to believe there might be one. On the other hand, if Krugman actually has an argument in mind, one wonders why he’s so reluctant to share it.

Oh, he does pay lip service to the need for an argument, but all he offers is sophistry:

There are some good reasons to tax profits. In general, U.S. taxes favor unearned income from capital over earned income from wages; the corporate tax helps redress this imbalance.

But, as Krugman well knows, there simply is no theory suggesting that capital and wages should be taxed at the same rate in the first place, so there’s no “imbalance” to redress. Indeed, mainstream theory tells us that the optimal long-run tax rate on capital is zero, so that if there’s currently an imbalance, Krugman’s got the direction wrong.

Might there be good reasons to believe that the mainstream theory is not the final word and that capital income should be taxed at a positive rate? Sure. But a) There’s still no reason to believe that rate should be the same as the tax rate on wages and b) It’s Krugman’s job to explain what those reasons are.

Instead, he plays to the crowd, and in this case the crowd he’s playing to is some combination of too dumb and too bigoted to care about anything that might resemble an actual argument. (If you doubt me, spend a few minutes scanning his comments section.)

Krugman’s minor sin is that he lies about the content of economics — for example, misleading readers about the incidence of taxes or the desirability of one tax rate over another. His major sin is that he (in effect) lies about the nature of economics, leading readers to believe that it’s all about politically convenient slogans (like “redress the balance”) as opposed to, you know, logical thought. In other words, he’d rather be a demagogue than an economist. But I say the world has too many demagogues and not enough economists, and I do wish Krugman would do something to redress the balance.

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37 Responses to “Tipping the Scales”


  1. 1 1 acarraro

    Most of the theories about the optimal taxation of capital assume we can easily distinguish between labour and capital income. But I don’t think that’s easy at all…

    Why am I not allowed to open a company and hire myself for peanuts before re-selling my labour to a third party? You could easily argue that any increase in compensation I get through time is a return on the brand investment this company made.

    Before you argue that my example is totally crazy, I think it’s actually quite common in the music industry and it’s certainly common in private equity.

    I also think that the ability of disguising labour income as capital income tends to increase as income goes up, so increasing the gap between capital and labour taxes will be somewhat regressive.

  2. 2 2 dictum

    I’ve always thought the people who pay corporate taxes are people the the firm might hire without the corporate tax. To give an example:

    Situation A: with no corporate taxes, a firm makes a dollar and pays a dollar out in dividend, taxed at 15%

    Situation B: with no corporate taxes, a firm makes a dollar, invests in hiring somebody for 50 cents which is taxed at wage tax rates, and pays the other 50 cents out in dividends taxed at 15%.

    Situation C: with corporate taxes, a firm makes a dollar, pays 50 cents in taxes, doesn’t hire somebody for 50 cents, and pays the other 50 cents in dividends taxed at 15%.

    In situation C, you could ask why the firm doesn’t hire somebody with the remaining 50 cents instead of paying out 50 cents in dividends. Here why: existing shareholders are more likely to get pissed off with fewer dividends than are people you decide not to hire. In the presence of margins diminished by the corporate taxed, risk averse CEOs might be more inclined to pay dividends immediately rather than invest and hire people. Those people pay the corporate tax.

  3. 3 3 ryan yin

    What’s even weirder is, a big chunk of the story the Vox chart Krugman posted is trying to tell is really explained by the rise of pass through corporate forms. E.g., if I turn my C-corp into an S-corp, my company’s profits now show up directly on my tax return and the IRS will tag the receipts as “individual income” not as “corporate income”. I don’t even need to use slightly complicated stories about economic incidence — much is just semantics.

  4. 4 4 nobody.really

    There is, however, one big difference between corporate persons and the likes of you and me: On current trends, we’re heading toward a world in which only the human people pay taxes.

    Now I think we can be quite sure that even Paul Krugman, with his gargantuan capacity for forgetting everything he once knew, is well aware that we already live in a world where only human people pay taxes. That’s an instance of the general principle that the legal incidence of a tax does not determine its economic incidence. The corporate income tax is levied by law on corporations, but its economic effects are felt entirely by humans.

    I have to wonder if this doesn’t reflect, in part, frustration with Citizens United and Hobby Lobby. Landsburg argues that corporations are merely vehicles by which human beings interact. The humans, not the corporations, should be the focus of public policy. Yet this is precisely the perspective that the Supreme Court has repeatedly rejected.

  5. 5 5 ryan yin

    nobody.really,

    I thought the majority in both cases ruled that the first amendment doesn’t go away just because you use the word “corporation.” E.g., if your freedom of speech trumps a statute before you formed a non-profit with like-minded individuals, it still trumps afterwards. Perhaps you can point me to the part of either majority opinion I misunderstood?

  6. 6 6 Thomas Purzycki

    That Krugman article actually led me to do quite a bit of thinking. I basically wrote an essay yesterday with no idea what to do with it. Luckily, the universe provides… For a long time, I have been convinced by the argument that capital gains taxes are a counterproductive form of double taxation, but I seem to have thought myself into questioning that conclusion.

    Super short TLDR:
    If we take the idea of human capital seriously, then a wage earned from labor is a capital gain and there is no obvious reason to treat it differently.

    TLDR:
    In the blog post “Getting It Right”, there is an example with Alice the spender and Bob the saver and show that under a 50% income tax + 10% capital gains tax regime, Bob’s consumption is reduced by more than Alice’s consumption when compared to an income tax only regime. I believe the mistake is in allowing Alice and Bob do different amounts of work in the example. They both work for a day, combining the skills and abilities portions of their human capital to earn some income, but Bob gets to work a second time. After earning his income from labor, he employs the financial assets and patience portions of his human capital to invest the wage from his first block of work. Bob is taxed twice. Once when he earns income on the first day and again when he earns capital gains fueled by the assets he saved and patience he demonstrated on the first day. To be fair, Alice has to work a second time. If she does, Alice would also be taxed twice. Once when she earns income on the first day and again when she earns some future wage with effort fueled by the consumption she enjoyed on the first day. With that modification, the example may very well reduce Alice’s consumption even more than Bob’s. He is only taxed 10% on his second income while Alice is taxed 50%. Did I take a wrong turn somewhere?

    The long version:
    Krugman makes the claim that capital gains are a kind of income that is “unearned”. In the past, I’ve ignored that claim as just an irrefutable subjective value judgment among other points that I could address with logic. For some reason, this time when I heard the claim, it struck me as definitely false instead of a matter of opinion, so I decided to devote some thought to determining why I felt this way. That turned out to be easy, but following that line of reasoning led to some dragons.

    It seems to me that income from capital is just significantly delayed income from labor. You can spend 100 days gathering and selling berries that you find in the woods (1), or you could spend 100 days building a berry gathering and selling robot and then collect the berry sales the robot wires to you forever after (2). Both incomes come from 100 days of your labor, so the capital income in (2) seems to be just as “earned” as the income in (1). Furthermore, if we are going to have a progressive income tax, shouldn’t we tax the income from (1) and (2) equally?

    What if you don’t know how to build a robot? Now we have a third situation: You spend 100 days gathering and selling berries, then you go to the robot store and buy the robot. Better yet, instead of going to the robot store, you could go to the stock market and purchase a company that has one robot as its only asset and pays out its berry proceeds as a daily dividend (3). What if we add equal income and capital gains tax rates here? At first glance, taxing both the income earned from 100 days of gathering berries AND the income earned from dividends appears to be double taxation compared to (1) and (2). But is it really?

    Let’s start with comparing (2) and (3). Despite appearances, I claim that you were almost certainly double taxed in (2). How did you manage to build a robot? You must have gathered the robot parts from somewhere. Either you produced them, traded for them, or inherited them. If you traded for the robot parts, then you were taxed on the income that you used to buy the parts. If you produced them, you were probably schooled in the art somewhere and also probably paid for the privilege with income that was taxed. There is another key thing you were taxed for if you produced the parts which I will explain when we reexamine (1). If you inherited them, your benefactor was taxed if they produced or traded for the parts. The amount you are taxed in (2) is more or less proportional to the value of scarce resources you need to build the robot, just as in (3). If you are a true visionary and somehow manage to conjure and assemble the robot from thin air with no or free schooling in (2), then you might be taxed once instead of twice, just as if you are such a good negotiator that you could manage to buy a robot for free in (3), but that’s great and perhaps we should encourage such things.

    Let’s go back to (1) now. If you invest your income from (1) in some other capital good that pays out in the future, then you would be double taxed just like in (2) and (3). What if you consume the income? Do you really only face a single tax in that case?

    A lot of things increase our productivity. Food, water, and shelter are certainly important. Traditional capital goods like computers and power tools also help. But what about personal consumption in the form of entertainment, vacations, toys, sports cars, yachts, blimps, etc? I claim that consumption is an important capital good that augments productivity by providing motivation. Why work if you can’t enjoy any of the rewards? If you decide to consume instead of saving to buy a robot, we should consider that consumption to be an important factor that maintains, and perhaps even increases your productivity. In that sense, you are indeed taxed twice if you choose to consume your income in (1). You are taxed once on your income in the first 100 days, and then again on the portion of subsequent income that your consumption has made possible.
    Human capital consists of more than just our education and abilities. It includes all of our assets, including our material possessions, our financial portfolios, our patience, our health, our risk tolerance our consumption bundle fueled motivation, and plenty of other things. All of our productivity ultimately comes from our human capital. Because of this, except for theft, there is no such thing as unearned income. Equivalently, a wage made from labor IS a capital gain. Thus when the income tax rate is equal to the capital gains tax rate, we are really in a system that only taxes capital gains.

    I seem to have convinced myself that labor income is just another form of capital gains and there is no obvious reason to tax it differently from other kinds of capital gains. There may be good reasons to give favorable tax treatment to income derived from certain portions of our human capital, but nothing comes to mind at the moment. Placing the heaviest taxation on income derived mainly from the consumption mediated motivation part of human capital is especially harmful to those whose human capital makeup is dominated by that part, and I think there might be good reasons to believe that those individuals are often the most deserving of our sympathy.

  7. 7 7 Julien Couvreur

    If taxing corporations is not taxing people, then taxing households also isn’t taxing people.

  8. 8 8 Floccina

    Let us sidestep the whole issue and make a progressive consumption tax. After all the point of taxation is change consumption patters.

  9. 9 9 nobody.really

    Let us sidestep the whole issue and make a progressive consumption tax.

    Behold: The X Tax.

  10. 10 10 Harold

    #5. For a start Hobby Lobby not a non-profit. It is a profit making business employing thousands. This is not a non-profit set up with a few like-minded individuals.

  11. 11 11 Harold

    I think as argued above there is great difficulty separating capital and labor income. Even with a desire to apportion correctly it is difficult. If there is an incentive to disguise labor income as capital it is impossible. There are also multi generation effects. This is covered by SL’s comment about there being good reasons to think mainstream theory is not the final word and capital should be taxed at a non-zero rate.

    Krugman does skip over this somewhat, and does indeed imply that capital and labor should be taxed equally by suggesting a “balance”. Buy t this is not his main point. He closes ” By all means let’s have a debate about how and how much to tax profits. Meanwhile, however, let’s close this outrageous loophole.” In this bit he is making clear that we may wish to tax profits differently, but whilst we have decided to tax at the current rate, then it should not be easy to avoid paying the tax by a simple paperwork exercise.

    If we had established the perfect rate, then avoidance of this sort would reduce efficiency. If we feel the rate is not perfect, then we should be arguing about the rate, not making it possible to avoid the tax.

  12. 12 12 Thomas Purzycki

    #9 If your freedom live in accordance of your religion’s moral code trumps a statute before you create a corporation and hire thousands of people to make a profit, it still trumps afterwards.

    #10 “If we had established the perfect rate, then avoidance of this sort would reduce efficiency. If we feel the rate is not perfect, then we should be arguing about the rate, not making it possible to avoid the tax.”

    Arguing about the rate in the legislature is one way to achieve your preferred policy, but if you believe the perfect rate should be zero and can’t achieve your goal immediately through legislation, then finding a loophole might still be more efficient than following the spirit of the law, provided jumping through it doesn’t cause more dead waste loss than the tax being avoided. You could also work on convincing bureaucrats in the executive branch to make rule changes within the law to make the loophole less costly to use, and you could go to court to convince the judicial branch to interpret the law in an efficiency increasing direction.

  13. 13 13 Harold

    “if you believe the perfect rate should be zero and can’t achieve your goal immediately through legislation, then finding a loophole might still be more efficient than following the spirit of the law”

    I suppose it would depend on whether you were correct about the perfect rate. I can understand those that wish to avoid tax for altruistic reasons to improve the overall efficiency of the economy.

    Nevertheless, surely the best approach is to correct the rate rather than to dodge the law.

  14. 14 14 Thomas Purzycki

    “Nevertheless, surely the best approach is to correct the rate rather than to dodge the law.”

    I’m not sure what metric you are using to determine the best approach here. Regardless of if your vision is correct, I’d say the best approach to bending the world to your will is whichever approach has the lowest social cost. If law dodging is cheap but legislating is expensive, then dodge away.

    Of course we can only expect people to use whichever approach is cheapest to them, not society at large. There is a case to be made that legislating would be cheaper but free riding problems prevent the production of good law. However, unless we can find a solution to that problem, trying to solve any hotly contested issue with broadly distributed effects among disorganized factions by producing good law is going to be about as realistic as using magic.

  15. 15 15 Thomas Bayes

    I have some questions for those of you who understand this sort of thing:

    The people in Krugman’s tribe usually cheer any politician who talks about closing loopholes and increasing corporate tax rates. It is, after all, a tax on the people in the other tribe. Suppose that those cheering for such a change get their way and we transfer all income tax to corporations.

    1. Wouldn’t at least some part of this tax increase show up in the price of things like household goods and food?

    2. Wouldn’t this, then, result in an increase in the effective taxes paid by people with very low incomes?

    One of the reasons I don’t like the corporate tax is that the manner in which this tax is ultimately collected from citizens is not transparent. It seems to me that people cheer for increases in the tax without understanding that they will be the ones paying part or all of the tax.

  16. 16 16 Kevin Erdmann

    Not to mention that his article is about inversion. (Which, first he uses Walgreens as an example, which he calls “purely a paper transaction”, not mentioning that they merged with a functioning European firm.) And the main reason foreign profits lower corporate taxes is because the US literally has the highest marginal corporate tax rate on the planet! Firms don’t have to rent a post office box in the Caymans. Literally anywhere they do business not in the US will lower their tax rate, as long as they don’t reinvest the funds in the US. Krugman is using this fact as his argument for raising US corporate taxes?!

    Also, I don’t think it’s that hard to get something by the NY Times editors. Yesterday, they had the most ignorantly smug editorial you could write about the recent bogus CEPR press release about minimum wages and employment.
    http://takingnote.blogs.nytimes.com/2014/07/29/higher-minimum-wage-faster-job-creation/?_php=true&_type=blogs&partner=rss&emc=rss&_r=0

    Here is what that data looks like, when you account for the scale of the MW hikes:
    http://idiosyncraticwhisk.blogspot.com/2014/07/the-latest-in-minimum-wage-politics.html

  17. 17 17 David Wallin

    I am an accounting professor, but I don’t teach taxes. So, please, anyone correct me if I am wrong with the following example. UVW is a U.S.-based corporation with pre-tax profits of $200, all from U.S.-based operations. FGH is based in Freedonia, where they earn pre-tax profits of $100 from Freedonia-based operations. The tax rate (we are only talking federal corporate here) is 35% in the U.S. and 16% in Freedonia. As independent firms, UVW pays $70 (35% x $200) in the U.S., and FGH pays $16 (16% X $100) to Freedonia. Both firms pay $86 in total.
    Now, let’s merge the two. The new parent firm, FGUV, is headquartered in Fredonia. It pays the U.S. $70 on the profits of U.S. operations and $16 to Freedonia, for the same $86 total tax. Freedonia does not tax the profits FGUV made in the U.S.
    If, instead, the parent firm is headquartered in the U.S., FGUV will still pay $16 to Freedonia on profits earned there. They have world-wide pre-tax profits of $300, resulting in a tentative U.S. tax liability of $105 (35% X ($200+$100)). They deduct from that the $16 paid to Freedonia and pay the U.S. $89 ($105-$16). Their total taxes are $105 ($89+$16).
    So, isn’t this the Walgreens situation that Krugman complains about? Walgreens and a Swiss company will combine operations and instead of wanting the variant above that increases the total taxes, they are looking to the one that keep the status quo.

  18. 18 18 Freelancelot

    The truly frightening bit of surrealism ensconced in Krugman’s excuse for an argument is that he plays to the masses by telling them (as they bobble their heads and drool on their shoes) that money earned from brain-power is inferior to money earned by muscle-power. He tells us that the architect is inferior to the mason and, therefore, ought to be punished for his sin of being the one who makes more money by having more of his earned (“unearned”) income confiscated by those paragons of manual labor: bureaucrats and politicians.

  19. 19 19 Harold

    #17 I don’t see where muscle comes into it. Brian Shaw (America’s strongest man) earns a lot through muscle power.

  20. 20 20 Zero M. Ocean

    @18

    From what I understand, he meant wages earned by labor (not necessarily elbow grease). Actual physical toil is unnecessary, seeing as labor can be defined as productivity derived of either mental or physical work.

    Of course, if that was your point from the beginning, forgive me. It’s 10:50am. Coffee isn’t working well this morning.

    Very Sincerely & Respectfully,

    0

  21. 21 21 Steve Landsburg

    Thomas Bayes:

    1. Wouldn’t at least some part of this tax increase show up in the price of things like household goods and food?

    2. Wouldn’t this, then, result in an increase in the effective taxes paid by people with very low incomes?

    Indeed, a straightforward reading of much of the mainstream public finance literature suggests that the very poor would suffer less from a direct tax on their wages than from the indirect effects of the corporate income tax (with tax rates set to hold government revenue constant). As always, this conclusion is model-dependent, but if Krugman thinks there’s a problem with those models, I wish he’d write about it. I expect (and I am not being facetious or sarcastic here) that if he took the trouble to address these issues, we’d all learn something. It breaks my heart that he’d rather foam at the mouth than encourage people to think.

  22. 22 22 Gabusi

    “if he took the trouble to address these issues, we’d all learn something.”

    Consider Keynes and Hayek. It is possible for people to reach the bottom-line conclusion that we would be best served by following a specific set of policies based almost fully on one or the other. But it would be foolish for anyone to dismiss either; there is much to learn from both, if only to clarify one’s thinking. As Bohr said, “The opposite of a profound truth may well be another profound truth”. The “public” Krugman acts as if he possesses the Truth, and all his opponents are evil fools. Sad.

  23. 23 23 Harold

    “I wish he’d write about it.” What is he doing academically these days? The latest academic paper I could find was “Debt, Deleveraging, and the Liquidity Trap: A Fisher-Minsky-Koo Approach” in 2012 Quaterly Journal of Economics. That has 330 citations, so not bad.

    You refer to him as a former economist – I assume a little tongue in cheek, but with a kernel of truth since the vast majority of his output seems to be in mass media rather than acdemic journals.

  24. 24 24 iceman

    This is the bit that caught my eye: “it will deprive the govt of billions in revenue that you, the taxpayer, will have to make up one way or another”.
    Which gets right to the transparency issue – might it be harder for the govt to spend as much if they had to fund it all by raising personal tax rates in the full light of day?

    It continues to seem to me that the rationale for why we have a corporate tax at all is not economic but political. The only actual ‘argument’ for taxing profits linked in the article is a lame railroad-baron-era claim that it’s needed to curb the power of corporate executives?

  25. 25 25 Ken Arromdee

    @6: “If you traded for the robot parts, then you were taxed on the income that you used to buy the parts.”

    Wouldn’t the same reasoning that concludes that you are double-taxed when you buy the robot yourself also lead you to conclude that you’re triple-taxed when you buy the robot company?

    When you buy the robot, you’re taxed on the income that you used to buy the robot, then the output of the robot is also subject to income tax.

    When you buy the robot company, you’re taxed on the income that you used to buy the company. The company runs the robot and produces income. The company, not being a non-profit company, has to pay taxes on its income. The remainder of the company’s income (after subtracting income tax) is supplied to you as dividends, and you have to pay capital gains taxes on those dividends.

  26. 26 26 Thomas Purzycki

    @25: “Wouldn’t the same reasoning that concludes that you are double-taxed when you buy the robot yourself also lead you to conclude that you’re triple-taxed when you buy the robot company?”

    Yes, I completely agree. I was using a simple example that only had an income tax and a capital gains tax and did not include corporate taxes, write offs for business expenses, estate taxes, etc. Such additions would indeed complicate the picture and cause certain spending patterns to be taxed more or less.

  27. 27 27 Ken Arromdee

    @26: But isn’t the whole point of your example to show that capital gains taxes aren’t double taxation? In this case you’ve agreed that they are (or more precisely, they’re one more level of taxation compared to doing it yourself–going from double to triple taxation still counts). That would seem to refute the intent of the example.

  28. 28 28 Thomas Purzycki

    @27: I probably need to work on my writing skills. The point of my examples was to demonstrate that under a system with income and capital gains taxes, savers and spenders are BOTH double taxed, while under a system of income tax only, only spenders are double taxed.

    Put another way, you are a capital asset. Consumption is an investment in that asset. The returns on that investment are the wages you earn due to the consumption driven increase in your productivity/willingness to labor. Those returns are capital gains on the asset that is you. If we rename those particular capital gains “income” and continue to tax them while not taxing all other forms of capital gains, then returns on investments in the form of consumption will be double taxed, while returns on all other forms of investment will not be double taxed.

  29. 29 29 Ken Arromdee

    @28: “The point of my examples was to demonstrate that under a system with income and capital gains taxes, savers and spenders are BOTH double taxed, while under a system of income tax only, only spenders are double taxed.”

    But your demonstration only works when “income tax” means “personal income tax, but not corporate income tax”. That conclusion has little relevance to the real world.

    If “income tax” actually means “income tax”, then in a system with income and capital gains taxes, savers are triple-taxed and spenders are double-taxed, while under a system of income taxes only, both are double-taxed.

  30. 30 30 Ken Arromdee

    “Put another way, you are a capital asset. Consumption is an investment in that asset. The returns on that investment are the wages you earn due to the consumption driven increase in your productivity/willingness to labor. Those returns are capital gains on the asset that is you.”

    This analysis fails because when you pay taxes, you only pay taxes once. You can call the gains income, and say “I pay income tax”, or you can call the gains capital gains and say “I pay capital gains tax”, but you’re not paying income tax *and* capital gains tax on the same gains.

    If you invested in a company instead of investing in yourself, the company would make money, the company would pay income tax, and then you would pay capital gains tax on the dividends that come from the company’s after-tax income. You would be paying tax twice, when you are not in the case where you invest in yourself.

  31. 31 31 khodge

    For all the times I’ve glanced at this posting, I finally noticed how you opened it. Three words, skillfully woven into the start of the post: Masterful wording, indeed.

  32. 32 32 Thomas Purzycki

    @30: “This analysis fails because when you pay taxes, you only pay taxes once. You can call the gains income, and say “I pay income tax”, or you can call the gains capital gains and say “I pay capital gains tax”, but you’re not paying income tax *and* capital gains tax on the same gains.”

    I do not claim that a spender pays income tax AND capital gains tax on wages. My claim is that if you consume your wage, then you are taxed twice (income tax, then income tax again) just as a saver is taxed twice (income tax, then capital gains tax). The taxes the saver and spender pay may have different names, but the number of times they are taxed is equal:

    Spender is taxed once when he makes income the first time, and then again after his investment (consumption) pays off in the form of future wages.

    Saver is taxed once when she makes income the first time, and then again after her investment (stock purchase) pays off in the form of future capital gains.

    @29: “But your demonstration only works when “income tax” means “personal income tax, but not corporate income tax”. That conclusion has little relevance to the real world.”

    I think my analysis is relevant in the sense that it suggests that if we insist on having a personal income tax, then corporate income taxes should be abolished, but we should continue to tax capital gains, seemingly at the same rate we tax personal income, though perhaps not:

    As is usually the case, a bit of research reveals I’m not the first person to think of this: http://people.few.eur.nl/bjacobs/final_ITAX.pdf From the abstract: “The positive tax on capital income serves to alleviate the distortions of the labor tax on human capital accumulation.” That paper only considers consumption in the form of education’s effect on human capital while I go a step further by claiming that all consumption contributes to human capital accumulation (of course you could break your leg on a ski trip just as you could invest in a bad company).

    I can only follow the math up through equation 7 or so, but it looks like the efficient tax rates on income and capital gains might be different depending on some empirically measurable elasticities.

  33. 33 33 Ken Arromdee

    “I do not claim that a spender pays income tax AND capital gains tax on wages.”

    The spender doesn’t, but the saver does.

    If you don’t count the initial income tax that the saver and spender paid, then the saver was subject to single taxation, but the spender was subjected to double.

    If you do count the initial income tax, then the saver was subject to double taxation, but the spender was subject to triple.

    You can’t mix and match these and say that the spender is subject to double taxation (counting the initial income tax) but the spender is also subject to double taxation (not counting the initial income tax)–you have to either count it or not count it.

    “My claim is that if you consume your wage, then you are taxed twice (income tax, then income tax again) just as a saver is taxed twice (income tax, then capital gains tax). The taxes the saver and spender pay may have different names, but the number of times they are taxed is equal:”

    If you look at it that way, then you are taxed twice but the saver is taxed three times. The saver is still taxed one more time than the spender. (income tax on him, then income tax on the company, then capital gains tax.)

  34. 34 34 Thomas Purzycki

    “If you look at it that way, then you are taxed twice but the saver is taxed three times. The saver is still taxed one more time than the spender. (income tax on him, then income tax on the company, then capital gains tax.)”

    I completely agree with the above if we are talking about a system with personal income tax AND corporate income tax AND capital gains tax. However, none of my examples include a corporate income tax. Any mention of “income tax” in my examples refers exclusively to personal income tax on wages.

    While you can certainly modify my examples to say something about corporate income tax, their original target was the OP claim that “there simply is no theory suggesting that capital and wages should be taxed at the same rate.” That claim says nothing about corporate income tax and neither did I in my attempt to refute it.

  35. 35 35 Ken Arromdee

    “While you can certainly modify my examples to say something about corporate income tax, their original target was the OP claim that “there simply is no theory suggesting that capital and wages should be taxed at the same rate.”

    People are so literal on the Internet.

    Asking about what should be done for taxes on capital gains and wages implicitly means “taxes on capital gains and wages, with other taxes relevant to the scenario kept the same as in the real world”. Just because he didn’t explicitly list corporate income tax doesn’t mean that you are entitled to assume no corporate income tax in responding to that.

  36. 36 36 Michael Moran

    As a tax lawyer a couple of practical points (and this is a case where I think the practical trumps theory).
    Capital gains are taxed at a lower rate because they are a voluntary tax. They are assessed when an asset is sold. A high capital gains tax rate means people do not sell assets, reducing capital gains taxes paid to government and hurting the economy. So capital gains taxes must be low. After the 1986 tax reform act same rate applied to capital gains and ordinary income, but it was a low rate (28%). If you tax ordinary income at high rate, have to have different capital gains and ordinary income rate.
    Point two, lot of capital gains in income from labor (think Gates and Microsoft). But they all require a sale, which is key.
    Not sure how anyone gets income from capital is taxed at a lower rate. Ordinary income, whether from a business (capital) income or labor is taxed at same rate. SS taxes don’t apply to business income, but you don’t get SS if all you earn is business income. Within limits, medicare tax applies to both. If business income is earned by corporation, then between corporate tax and individual tax on dividends or interest, a higher tax rate applies.

  37. 37 37 RJ

    I know I’m incredibly late to the party with this bit of information, but I don’t think this is known on this blog.

    Krugman’s sometimes vehement style of writing is actually because of Robin Wells, his wife. He writes columns, she proofreads them, and she’s the one who actually edits them to seem more demagogic. In fact, Krugman’s initial drafts are usually dry and abstract. It’s been written about in a New Yorker article about him found here. Also, if you watch any videos with Krugman arguing or debating someone, he’s very soft-spoken; a bit of a disconnect between how one might perceive his writings.

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