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Monday, November 03, 2008

Economics of Progressive Tax Rates

A significant money cycle in our economy is employers paying employees who become consumers. Consumers buy things from service providers who become employers. So, you have this question we've examined before about whether it makes sense to make sure the employers have money to spend, which will in turn lead to expansion and therefore more employees to become consumers OR to make sure consumers have more money to spend, which will in turn lead to more buying and therefore more money for service providers.

It makes sense to me that the latter is the best way to go because consumers will spend money more quickly and drive demand, which is necessary before a business can expand. In other words, you can give my wife more money through tax breaks, but she can't hire new teachers until there are more students who can afford to attend her school.

I believe this makes a lot of sense, but I also believe it is borne out by history. Consider the following chart that provides the maximum income tax rate in the United States.

So you can see that we have basically lowered the top tax rate from over 90% during Roosevelt to something like 37.5% under W. Bush. Now, let’s take a look at job creation. You will see a pretty dramatic trend if you consider party affiliation.

The final chart is my creation. It is pretty rough, but I think it fairly captures the change in tax rates associated with each President and the job creation during the same period.
So, Roosevelt and Clinton both significantly increased the top tax bracket—made the tax structure more progressive—and saw large job creation. (In fact, if you look at the detailed chart, you’ll see Johnson did the same thing and he also had good job creation.) Reagan and Bush reduced the top tax bracket--made the structure more flat--and saw much lower job creation than, in Reagan’s case on either side of his presidency and in Bush’s case than before his presidency. Reagan and Bush also saw a dramatic explosion of the deficit.

It’s from 10,000 feet for sure, but this evidence seems to support my notion that a more progressive tax policy is a better economic policy. Particularly with the top brackets being so low when compared to our history or to other countries.

Thoughts?

2 comments:

JimII said...

Is it weird that we have always taxed the product of the labor of the one taxed-income-at a higher rate than the product of the labor of someone other than the person taxed-captial gains?

Rev. Dave said...

A factor I think is relevant is that the Govt. is more willing to invest in R&D like NASA or NSF than the corporations are. That doesn't create new jobs, it creates entire new industries!

Great site by the way!