Saturday, 28 May 2011

Sharing the burden of government

The old fear that democracy would allow the poor to expropriate the property of the rich has never materialized. If anything, the opposite may be happening in America.

Explaining this fact is one of the greatest puzzles of American politics. An interesting attempt to solve the puzzle can be found on this post by Christopher Jencks.

However, in our view, the author misses two of the most important reasons, namely the decreasing returns to scale in the field of taxation and the policy of “bribing of the poorer among the poor”.

The first relates to the well known fact that the rich can afford to buy more tax planning/avoidance protection, and that when faced with higher taxes they have a greater incentive to take their income and wealth away from the taxman.

The second is largely unknown or considered something that happens only in less developed economies. For instance, Chavez and other populist dictators often secure their political power base by providing some income distribution among the poorest members of society to provide them with a base of popular support. This technique is also used by criminals when setting up their own system of social security in the neighborhoods they control.

What is not recognized is that the American situation, where the bottom 50% of the population hardly pays any income tax, corresponds to a similar policy. This policy has been at the expense of the remaining 45% of the non-rich population (mostly middle and upper middle classes).

This raises two interesting questions that we will revisit later. First, why representative democracy did protect the rich but failed to develop a better tax system based on expenditure and wealth rather than income? Second, are the bottom earners really benefiting from income tax exemptions?

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