Don't worry, rich people will keep making money despite higher taxes
I was just listening to a debate on tax policy on the radio, riffing off of Warren Buffett鈥檚 great from last week on how the tax code 鈥渃oddles the rich.鈥� The conservative鈥攄oesn鈥檛 matter who; he was just running the talking points鈥攎ade these arguments: 1) the rich pay most of the federal income taxes; 2) If Buffett or anyone else wants to pay more taxes, they should go ahead and do so; 3) the rich create the jobs, the wealth, the gov鈥檛 revenue鈥攊f you tax them more, they鈥檒l create less of all that.
#2 is just silly.
#1 is true, but the thing to remember, and a central point of Buffett鈥檚 piece, is that they鈥檙e actually paying a considerably smaller share of their income in federal taxes than a) they have in the past (see slide #4 ) and b) then lots of other people with a lot less income. Buffett notes that his 17% effective tax rate is about half the average rate for the rest of the people in his office.
But it鈥檚 point #3 I鈥檇 like to rage about here for a second. One of the themes I鈥檝e consistently come back to on these pages is the extent to which advocates go way beyond the evidence in assigning huge behavior changes to even the slightest changes in the tax code.
But the thing I and others don鈥檛 mention enough is that in theory, there鈥檚 no reason to expect people to respond to higher tax rates by working less. That is, they could just as easily decide to work harder to make up the loss in their after-tax income.
Microeconomics predicts two responses to higher taxes on the work effort of people. Response A is that they work less, because the 鈥減rice,鈥� or opportunity cost, of non-work, just went down鈥ou lose less if, once your after-tax wage has gone down, you work less.
But the other response (B) is that you work more to make up for the lost income.* And there鈥檚 no reason, a priori, to think response A dominates response B. If anything, the literature, which tends to show small responses to tax changes, suggests the two responses offset each other.
In other words, we would be wholly (holy?) justified to argue that we need to raise taxes on upper income people so that they鈥檒l work harder!
*Interestingly, conservatives often argue that B dominates among the poor鈥攃ut their income from say, reducing the benefits from a welfare program, and they鈥檒l work harder. That鈥檚 much the same argument as response B above.
