eli5 Why do calculations of effective tax rate differ so widely?

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It seems that experts in the U.S., economists, writers and financiers, widely disagree among themselves if the top financial stratums are over taxed or undertaxed.

Why is that? How do the calculations being used differ?

In: Economics

3 Answers

Anonymous 0 Comments

Who in good faith says they are over taxed?

Anonymous 0 Comments

It’s not that the calculations differ, it’s that the underlying politics do.

It was proposed back under Reagan, that lowering taxes on higher earners would result in more tax revenue for the government because people would have more money to spend which would stimulate the economy, more transactions lead to more tax revenue even at a lower rate. There was some math behind this, but as it was making projections about the future, it depended on hypothetical numbers. I.e. we reduce taxes by 30% and we can expect a 50% growth in the economy leading to X more dollars tax income. Where does that 50% come from? Mostly wishful thinking and projections based on further hypothetical numbers.

Like any good hypothesis, it isn’t considered factual unless it’s validated via experimentation. And that’s certainly what was attempted: we slashed the tax rate and then waited for those promised returns. They never materialized. Even Reagan’s financial appointees began referring to the strategy as “Voodoo economics”, and both Reagan in his second term and George Bush Sr. in his first term ended up raising taxes to try to compensate for the resulting shortfall. But the idea of “let’s just cut taxes and everything will magically improve” persisted despite not playing out in actuality; it was extremely beneficial to the very wealthy, so they turned a lot of money towards making that into an unshakeable core tenet of the Republican party. Bush lost re-election largely because he raised taxes, despite promising on the re-election trail “Read my lips, no new taxes”. And every following Republican has been entirely in the “lower the taxes only, never raise them” camp. You have to swear to this effect as a Republican representative in the House.

But there’s lots of money to be made in slashing taxes, so there’s lots of money being poured into justifying it. Conservative “think tanks” funded by billionaire-backed Super PACs regularly release studies where they do further thought experiments and draw the conclusion that less taxes on billionaires is good despite any evidence to the contrary.

Anonymous 0 Comments

It just depends on what you mean when you say that. Like if you are trying to estimate the effect of *all* taxes, that’s economically important to the people paying the tax. But it might not be relevant if you are trying to reform a specific policy like the federal income tax—because the federal government can’t change state taxes or local sales or property taxes.

Sometimes there is a distinction between different taxes that is important now but doesn’t necessarily need to exist, e.g., the rules for Social Security and Medicare tax are quite different but there’s nothing stopping the federal government from abolishing them and increasing the income tax instead. At this level it may be relevant to consider both the separate and the combined effects.