Low, flat tax rates result in growth
LAST week marked the 50th anniversary of the death in Dallas, Texas, of the 35th US president, the charismatic John F Kennedy, remembered by many more for his philandering than for his legacy.
That legacy, surprisingly perhaps, includes a conservative approach to fiscal matters.
As the noted columnist George F Will recalls in the Washington Post: “On the day he was killed, Kennedy was being driven to the Dallas Trade Mart to propose ‘ cutting personal and corporate income taxes’. Kennedy changed less during his life than liberalism did after his death.”
Speaking in Washington a few months earlier, Kennedy had outlined his vision of government’s purpose: “The federal government’s most useful role is … to expand the incentives and opportunities for private expenditures. (It is a paradoxical truth that tax rates are too high today and tax revenues are too low and the soundest way to raise
The more taxes increase, the more they undermine the market
the revenues in the long run is to cut the rates now).”
C Douglas Dillon, the Republican Wall Street banker who Kennedy appointed as treasury secretary, considered the late president to be “financially conservative”. Will writes: “Kennedy’s fiscal policy provided an example and ample rhetoric for Ronald Reagan’s supply side tax cuts. Kennedy endorsed a ‘creative tax cut creating more jobs and income and eventually more revenue’.”
The famed liberal, in fact almost socialist, economist, John Kenneth Galbraith, who Kennedy appointed US ambassador to India, was highly critical of Kennedy’s fiscal approach, accusing him of being more Republican than Republicans.
The concept that lower tax rates, through their stimulatory effects on investment, output and consumption, can actually generate higher revenues for the state is not new. As long ago as the 14th century a great Arab scholar, Ibn Khaldun, postulated this theory.
In 1776 Adam Smith declared in his opus An Inquiry into the Nature and Causes of The Wealth of Nations that “high taxes, sometimes by diminishing the consumption of the taxed commodities, and sometimes by encouraging smuggling, frequently afford a smaller revenue to government than what might be drawn from more moderate taxes.”
The idea is well grounded in Austrian economics. In Human Action (1949), the philosopher Ludwig von Mises wrote that “the true crux of the taxation issue is to be seen in the paradox that the more taxes increase, the more they undermine the market economy and concomitantly the system of taxation itself … ultimately the preservation of private property and confiscatory measures are incompatible. Every specific tax, as well as a nation’s whole tax system, becomes self-defeating above a certain height of the rates.”
More recently we have the Laffer Curve popularised by American academic Arthur Laffer. This curve reflects two rates of tax that produce zero revenue for the state. As can be depicted graphically, at the left of the horizontal axis is a tax rate of zero. No taxes at all, thus nothing for the state. The other rate which yields zero to the state is 100%, at the end of the horizontal axis. Theoretically, at 100% no one works, thus nothing for the state.
Somewhere in between is the optimum tax rate which provides the highest yield. Go beyond it and tax receipts will decline.
As has been seen in societies as diverse as Russia and Singapore, low, flat tax rates result in faster economic growth. High and strongly distributive taxation hinders growth, gives rise to tax dodging, drives away investment and, worst of all, places greater power in the dead hand of the state. Wonder why communism collapsed?