I was reading David Henderson's recent blog post about the extent to which a tax cut is "regressive." I was also reading a rather thoughtful comment left beneath that post by one "Vivian Darkbloom," which reads in part:
[T]he problem with these sorts of analyses of the progressivity of tax *cuts* is they fail to account for the status quo baseline which was (and is) very highly progressive. It is difficult to make a “tax cut” progressive in the above-referenced sense when a very large percentage of lower quintile groups pay zero tax. On average, the reduction of zero from zero is zero. One would need to introduce (more) refundable tax credits to achieve [sic] a different result. […] By their very nature, given the existing system, tax *cuts* (taken logically as a reduction of tax otherwise paid under existing law) will almost always to some extent be “regressive”[.]Let's think about fairness. One view of fairness is that those who earn lower incomes ought to pay a smaller share of taxes, and this is called "progressive taxation," because as a person makes more money, they pay progressively more in taxes. Another view of fairness is that existing taxes are too burdensome on everyone, rich and poor alike, and that those taxes ought to be reduced. A third view of fairness is that if taxes are to be reduced, lower-income people ought to enjoy an equal share of that tax reduction as higher-income people, ie., we should reduce taxes for everyone, not just the wealthy. A final (for now) view of fairness, as "Vivian Darkbloom" points out, is that in an already-progressive taxation regime, it is not possible to offer the same rate of tax reduction to people of all income levels, since those at the lower end of the spectrum are already paying little to no taxes.
Tax policy is a complicated world. Suppose we wanted to target $1 million as the value of our total tax reductions. One way we could do that would be to simply reduce the highest income tax rate by an amount that corresponds to a $1 million reduction in tax revenue. Another, more complicated, way to accomplish this would be to reduce the rates on all tax brackets by some amount, such that the total reduction in tax revenue is $1 million. In that case, we'd have to reduce each bracket's tax rate by a slightly different amount, in order to end up at $1 million. The reason we have to do that is because, under a progressive tax regime, all brackets pay different rates. It's like trying to figure out how to make $7.39 using only coins: you can't just draw an equal number each of pennies, nickels, dimes, quarters, and dollars. You need an unequal amount of each kind of coin to get to $7.39, and so it is with tax rates.
But then again, we encounter the problem of fairness. If we do what we have to do to the tax rates in order to arrive at $1 million, one bracket's rate might be reduced more than another bracket's rate, and this leaves us open to the criticism that our tax cut wasn't "fair."
One could avoid this criticism if one simply decided to reduce all tax rates by the same amount - say, one percent - without any regard to the resulting bottom line reduction in tax revenue. This might help address concerns about the fairness of the tax cut, but it creates a new problem. Typically, a government decides how much of a tax cut it can afford, based on its budget, and then cuts taxes accordingly. Putting the tax cut first forces us to review the budget second, eg., "Here's how much of a tax cut I want to give people, what impact will that have on the budget?" Giving a one-percent tax cut to all brackets equally may not be affordable; then the government may decide to give no one a tax cut, since it can't afford to give everyone a tax cut. Is that "fair?"
We complicate things even further when we consider marginal tax rates. In general, we tend to think of low marginal tax rates as being more fair than high marginal tax rates. We don't want to punish people for earning an extra dollar, we just want them to pay a particular tax rate based on their income level. If a person is lower-income, we might even prefer that they have lower marginal tax rates than a person who has a higher income, since we definitely do not want to punish the poor for improving their lot.
In that situation, if we want to give everyone an "equal" or "fair" tax cut, not only do we have to cut the individual bracket rates equally, we also have to ensure that the marginal tax rates either remain the same as they were before, or are reduced equally across all tax brackets. Mathematically, though, there are only two situations in which we can make a tax cut equal across total rates and marginal rates for all tax brackets: (1) a flat tax, in which everyone pays the same rate, and (2) a linearly progressive tax, where bracket 1 pays 1%, bracket 2 pays 2%, bracket 3 pays 3%, and so on.
Flat taxes are often seen as unfair to the poor. Because they're not explicitly progressive, they are often seen as regressive "as a percentage of disposable income." As for linear tax rates, I don't know that they've ever been tried, and at any rate, we certainly don't live in a linear tax rate regime today, so it's really only a hypothetical consideration at this point.
How are you doing? Are you lost yet?
When we set out to discuss tax rate changes and "fairness," starting with the tax regime and reasoning through what might be the "fairest," we quickly get bogged down by purely mathematical considerations. No one's even interested in having that kind of a conversation, not really. No one wants to optimize the tax regime, they just want to either raise more money for government spending, or reduce taxes on ordinary people. How they ultimately get there is less a function of their mathematical treatment of the various tax rate possibilities, and more a function of their preexisting sense of "fairness."
Now, at last, I've gotten to the point. When we talk of fairness or justice, we usually have our preferred outcome in mind, and we engage in reasoning in order to justify the outcome we've already settled on. We know we don't want to raise taxes on just the poor, that wouldn't be fair, so we figure out how to raise taxes in a way that doesn't disproportionately hurt the poor. We know we want to give everyone a tax break, so we figure out how to do that, or at least to appear to do that. In any event, our preexisting sense of fairness is driving our thinking. We don't start by asking "What is fair?" as Plato did. Instead, we start out knowing what fairness is and engage in a series of arguments for why what we want to do is the best example of "fair."
It's like a child who doesn't want to clean up her toys. First, she says she can't because she's busy with something else. Then she says she can't pick up those toys because she wants to play with them. Then she says she can't pick them up because she's tired. Then, hungry. Then, she has to go to the bathroom. Anything is a valid reason, because she's not really considering whether it's right to pick the toys up. She knows only that she doesn't want to pick them up, and constructs reasoning that is consistent with that preexisting goal.
The psychologists call this "motivated cognition." One person describes it as "the act of deciding what you want to believe and using your reasoning power, with all its might, to get you there." He said so in an article arguing against motivated cognition and in favor of… a tax! Now there is some irony for you.
Well, anyway, where does this leave us all? In the end, it's helpful to remember your tendency toward motivated cognition when you're thinking about fairness, not because it might be leading you astray, but because you'll find it more helpful to know what your prior beliefs are before you undertake to solve a problem. If your priors tell you that rich people are greedy opportunists who use their undue influence to skew government in their favor, then your discussions of tax policy will reflect those priors. Far better to simply start by announcing your prior in the beginning, and hammering out the details. Otherwise, we risk having some meta-argument about tax policy, which is really an argument about how we view rich and poor. Or whatever.
Way back, two thousand years or more ago, when Plato wrote The Republic, he concluded that justice (or fairness) was doing good to your friends and doing bad to your enemies. This seemingly brutal description of fairness actually makes more sense, the more you think about it. When we aim at fairness, we start with some sense of who we favor and who we disfavor, and then we engage in motivated reasoning to dole out unequal shares of reward and punishment accordingly. Wouldn't it be nice if we all kept this in mind in advance, before we started talking about what's "fair?"