What Should Oregon do on taxes? An answer

Here's my vote:

The most important thing to remember about taxes and tax policy is the one that is completely ignored in the US and especially Oregon: all tax policy decisions are social engineering, and that discussions that focus solely on the tax revenues and rates are like discussions about sex that focus solely on gametes and DNA mixing . . . a tiny bit of the truth on the topic, but an overwhelming blindness to the some crucial aspects of the subject!

Why is it important to keep the rule that all tax policy decisions are social engineering in mind? Because tax policy debates that ignore this turn into what passes for debates on taxation today: sterile and mindless rows that simply recycle talking points and themes that have been endlessly focused grouped to persuade without informing and to bias the listener towards the preferred outcome for the interest behind the focus group.

Once we recall that all tax policy is social engineering, it naturally invites the question “Ok, so what should we be trying to achieve with our social engineering as we raise money?” A few suggestions:

One, for any given amount of revenue to be raised, the best tax is the one that works in concert to reinforce our other social policies, rather than against them. So, for example, “sin taxes” score high on this criteria, because they discourage things like smoking and drinking, which impose huge costs throughout society. By taxing tobacco and alcohol, we both reinforce the discouragement and get more benefit from our anti-smoking and anti-alcohol abuse dollars.

The short summary of this rule is simple: “Tax bads, not goods.” In other words, as much as possible, we need to be taxing the things we want less of (pollution, activities that harm health, economically wasteful activities), not the things we want more of.

For best results, shift taxes from the desirable things (wages, earnings, productive investments, savings) and put those taxes onto things where we’re already having to pay a lot to counteract their negative effects (not just vices such as alcohol and tobacco but also inefficient processes that produce a lot of waste or consume a lot of nonrenewing resources).

Another useful point to keep in mind: the debate about how much alone is silly because there is no absolute right amount of taxes. In the US, we had great post-war prosperity with 95% top-end tax rates, and today we’re suffering economic collapse with rates about a third of that. Millions today complain that they are taxed too much, while people around the world pay far more than we do, on smaller incomes. So it’s clear that there is no perfect taxation reference level.

Because there is no perfect taxation level, the debate has to include three other critical factors: how much does a tax cost to compute and collect (an efficiency measure), how much does the tax discourage the underlying activity (whether it’s an unhealthy vice like smoking or a socially beneficial one like family-wage jobs), and how just is the tax (social acceptance).

To get the greatest efficiency, we need to tax things that are easily and objectively measured with no need for expert appraisal and no opportunity for concealment. One of the greatest failings of income taxes is that, in the end, a person or corporation’s net income is not so easy to compute, and is subject to myriad adjustments that create huge opportunities for game playing, otherwise known as tax planning and accounting.

Not only is all this planning and accounting an economic burden to society by itself – it’s nothing but fighting over how the pie is sliced, not how to make the pie bigger or tastier – but it creates a distorting force field over our politics. Millions of brilliant minds spend all their working hours figuring out how to minimize the apparent net income (and, thus, taxes) for A, which shoves the taxes onto millions of others, which provides a lot of incentives for both A and all the others to spend a lot of money influencing politicians to see it their way. That’s pretty much what our national level politics has become for the last thirty years: a flock of raucous crows fighting over which one gets more from the spoils.

Another factor to consider is how much a tax actually discourages the underlying activity. The best metaphor for this is the thoroughbred racehorse. A racehorse can easily carry a 120 pound jockey on her back at blazing speed around the track – but tie a 40 pound weight to her foreleg and she will barely move at all. It’s just the same with taxes: some taxes have almost no discouraging effect, while others will cripple an activity. Couple this with the earlier idea – that we ought to always be thinking carefully about the social outcomes our taxes encourage and discourage – and it becomes clear that, to the greatest extent possible, we should want to apply taxes to socially beneficial activities as lightly as possible or, at the least, as smartly as possible so as to discourage the underlying activity the least. (And, of course, conversely, we should want to get maximum discouragement per unit of tax when we’re taxing things like polluting activities or conversion of farmland to subdivisions).

Thus, the current mania in Oregon to cut the capital gains tax rate is revealed to be absurd. The whole argument for cutting capital gains taxes is that we have a high one compared to other states. Well, unless we force all states to have uniform tax systems and rates, some state or other will always have the highest rate of taxation from this method or that one. If being the highest capital gains tax state is bad, then isn’t it equally atrocious that we don’t have a sales tax? The fact is that capital gains taxes sit, like a good jockey, right where they are most easily borne, and they discourage nothing except letting the wealthy few who control the overwhelming majority of capital gains assets have an even greater share of our collective economic pie.

Finally, we need to renew our focus on the justness of a tax. These days, we hear a lot of full-throated claims that taxes need to be lowered on people with high incomes and fortunes because, otherwise, we “punish success.” It’s really a lightweight argument because it’s obvious, given the increasingly concentrated and skewed distribution of our national wealth into fewer and fewer hands, that none of the well-off are being punished enough to be discouraged from being well-off. The talk-radio nonsense about “going Galt” and withdrawing from society are simply a sign of how debased and empty our civic conversation has become. Yes, the wealthy pay more taxes than everyone else. But the bottom line is that the well-to-do capture also capture most of the benefit that the taxes provide. Their outsized control over our political process gives them an equally outsized share of the benefits, causing government to lavish spending in some areas and starve others.

A good example of a more just tax is called a “Tobin tax” after the Nobel prizewinner who proposed it. Tobin noted that a tiny tax, say a quarter of a percent, on stock trades would raise a huge amount of revenue while doing essentially nothing to discourage any economically valuable activity. Even more important, it would exert a slight, persistent pressure to discourage excessive trading that occurs only to take advantage of momentary price differences on different markets (arbitrage). Tobin dreamed up his tax well before the days of high-speed computers wired directly into the stock exchanges (in preferential positions, no less, so that the biggest firms get to trade a few milliseconds before the rest of us) causing billions of shares to change virtual hands in minutes. This entirely nonproductive activity helped cause our economic conflagration and can exist only because we have a stable civil society in which the laws of contract and property are respected. Thus, Tobin taxes are not just highly efficient and easily borne, they are also just.

It’s hard to know if its too late to change the quality of debate, to consider more than just “how much” when discussing taxes. I fear we have become so stupefied by fifty years of television pablum and talk-radio blather that we are incapable of accepting that the tax policy that works best for us personally might not be the best one for our society. What is clear is that unless we start getting a lot smarter about tax policy, we are going the way of all other empires through history, where the leadership quit working for the benefit of the whole and concentrated instead on pleasing the faction that backed them. That sounds disturbingly like our politics today.