Tax and spending - a dangerous tipping point

By DAVID MOON, Moon Capital Management
April 15, 2007

George Bernard Shaw was right: the government that robs Peter to pay Paul can always count on the support of Paul.

Enlightened Americans aren't supposed to question the notion that higher-income wage earners should pay a greater percentage of their income in taxes ' not just a greater dollar amount.

The notion of a progressive tax system, however Marxist its origins, is almost universally accepted as proper social policy. It simply isn't a matter for discussion.

What casual observers fail to realize, however, is that our system has become much more progressive than it appears ' perhaps enough so to place the motivational power of the capitalistic system at risk.

A recent report by the Tax Foundation reveals the allocation of government expenditures across different income levels.

It's no surprise that the poorest of our citizens receive far more in government benefits than they pay in taxes. But we now have a system where more than 50 percent of the population receives more in government benefits than they pay in taxes.

Taxpayers in the lowest quintile ' 20 percent ' receive $8.21 in federal, state and local government-spending benefits for every dollar they pay in taxes.

Even those in the third quintile, which includes people in the top half of all wage earners, receive $1.30 in government spending benefits for every dollar they pay in taxes.

In other words, by definition, more than half the population is now 'less fortunate.' They are net receivers of government transfer payments, rather than net payers. Net receivers don't, on whole, pay into the system.

So they might be forgiven for thinking that money grows on trees.

To a net receiver, every dollar of increased taxation results in an increase of more than a dollar in benefits. It is now in the personal financial interest of more than half the population for the federal, state and local governments to increase taxes as much as possible.

Most people who read the Business section already know that the majority of federal taxes are paid by a minority of taxpayers. But we've now reached a tipping point where federal benefits are also skewed to the majority.

Since the people who are paying for these benefits represent less than half the population, the odds are stacked against effective political resistance.

In the short term, our society's economic interests now favor increased taxation. And lots of it. In the long term, however, this sort of mob mentality ruins the financial incentive for achievement.

At the margin, it is more financially rewarding to remain in the majority ' that is to get more than we pay in taxes.

With that sort of system, however, you can eventually forget about capitalistic motivations, entrepreneurship, risk taking and the great innovations that they produce.

Even an old socialist like Shaw might wince at that.

David Moon is president of Moon Capital Management, a Knoxville-based investment management firm. This article originally appeared in the News Sentinel (Knoxville, TN).

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