Taxes, Kurt Hauser, and the Election

Hi all,

As some of my previous posts have pointed out: I am a dork. More precisely, I am a economics dork. Recently, David Ranson published a column in the Wall Street Journal that claimed that regardless of the marginal income tax rate on the highest earners in the country, tax revenue remains, roughly, about 19.5% of GDP. Mr. Ranson called this the Hauser Effect after Kurt Hauser, the person he credits as first bring up this phenomenon. Mr. Ranson goes on to claim that this means that regardless of what the tax rate is, the rich are willing to pay only so much in taxes; therefore, high tax rates on the rich are pointless.

Well, there are two things about this article that set the economics world a blazing: 1) it is specific conclusion drawn from two general data points, and, 2) it is right leaning. I will address point two first. Liberals (they like to be called ‘progressives’ now, but a rose by any other name is still a slack-jawed, mouth breathing, hippie, liberal) went ape-shit over this (rightly so, probably.) This conclusion undermined their argument for justice, and the rich doing their (extra)part for being so rewarded by society. The idea that the lefts plan to redistribute wealth by taxing income of the top earners falls flat in practice was a slap in the face. This finding could not stand, and they set about discrediting the thesis.

Which brings me to point one. They might not be that far off. There are plenty of valid criticisms of the Hauser Model presented in the article, here, and here. There are a couple of really good criticisms that get at the heart of Ranson’s analysis, and a couple of good criticisms that point out some context around the Hauser effect.

The context arguments complement the foundational arguments, so I will address them first. The graph (courtesy of the WSJ) shows that tax income stays around 19.5% despite the changes in the tax rate. What the WSJ fails to mention is the changes to other taxes that occurred when the top tax rate was changed. For example: when the tax rate was lowered in 1986 several loop holes where closed, payroll taxes were increased, etc. This led to an increase in other tax revenues, while the taxes collected from the top earners went down. (See the Congressional Budget Office site for historical data.)

So, with that little bit of context, we get a chief criticism of the article, and the Hauser Effect: it contrasts the change in the top marginal income tax rate against total tax revenues, as a percent of GDP. The total tax revenue is not solely dependent upon the revenue of the top earners, it has many components: income tax, social security tax/payroll taxes, corporate taxes, excise taxes, and 'misc' (wtf?). So, in any given year, the income tax revenues might have gone down(up) with a corresponding offset to the other taxes going up(down). Furthermore, the revenue from income taxes is not solely dependent on the highest marginal income tax rate. There are several tiers to the income tax, and a gain(loss) in the highest marginal income tax bracket can be offset by a loss(gain) in the lower income tax brackets. A more appropriate graph would be on where the revenue from the top marginal income tax bracket, as a percent of GDP, was compared to the top marginal income tax rate. The findings, I suspect, would be more ambiguous that Ranson's article asserts.

One thing that bothers me about this whole discussion, people are arguing about taxing the rich, and if it pays off. One thing that the graph makes quite clear to me is that tax revenue is about 19.5% of GDP. The real discussion shouldn't be does taxing the rich move that closer to 20%, 21%, 25%, etc; but, rather, what strategies can be exercised to grow the GDP? An analysis of which policies (lower income taxes, lower corporate taxes, more free trade, etc) have had the greatest impact on raising the GDP, and we should ensure that our government follows, and builds upon those policies.

The argument presented in the column is simple: rich people will only pay so much, in absolute dollars, in taxes, and they will hide, divert, re-class income, or simply reduce how much they earn to avoid taxes; and thus, the effect is they earn less in taxable income, which reduces the total GDP, so their taxes, as a percent of GDP, remains neutral. This conclusion is incorrectly drawn from the data presented. The thesis could very well be true; however, a more precise analysis of the correct data must be done to determine the validity of this conclusion.

Well, I am all dorked out, and looking forward to a four day vacation.

Later,

B