How the Tax System Fosters Big Government

Government debt as a percentage of GDP increased as the top 10% of taxpayers paid a growing share of federal tax revenues and the bottom 40% paid a shrinking share. Source: Lipford and Yandle, 2012.

When goods and services are free, people tend to consume more of them. Does this maxim apply to government spending and taxation? In other words, when people can receive federal benefits without paying taxes, do they demand more of them even if they’re funded by deficits? That possibility troubled John C. Calhoun. In 1810, the American politician and political theorist wrote that an “unequal fiscal action of the government” divides a community into two classes: taxpayers and tax spenders. James Madison also worried that the wrong type of fiscal system could create a profound conflict in the political culture and create irresistible pressures for the government to spend more and grow more.

Economists call this phenomenon the problem of the fiscal commons, and its consequences can be seen in trends in the distribution of federal tax liabilities, Jody W. Lipford and Bruce Yandle explain in the Spring 2012 issue of The Independent Review. Examining data from 1979 to 2007 provided by the Congressional Budget Office, Lipford and Yandle found that the top 10 percent of taxpayers paid a growing share of federal tax revenue collected, whereas the bottom 40 percent paid a diminishing share—all while government spending as a percentage of GDP has changed hardly at all. The change in the distribution of tax liability is strongly correlated with growing federal deficits and debt.

To prevent the fiscal system from creating two antagonistic classes, Calhoun had urged policymakers to keep the tax base broad, but as Lipford and Yandle note, Calhoun’s recommendation was abandoned with one constitutional change: the ratification of the federal income tax amendment, which set the stage for the population to divide into taxpayers and tax spenders.

Taxpayers and Tax Spenders: Does a Zero Tax Price Matter?, by Jody W. Lipford and Bruce Yandle (The Independent Review, Spring 2012)

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[This post first appeared in the April 3, 2012, issue of The Lighthouse, the Independent Institute’s weekly newsletter. To receive The Lighthouse and other email notices from the Independent Institute, enter your email address here.]

Carl P. Close is a Research Fellow and former Executive Editor for Acquisitions and Content at the Independent Institute and former Assistant Editor of The Independent Review.
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