Inefficient Tax System May Help To Limit Government


by Michael K. Block and Robert J. Franciosi

Goldwater Institute
The art of taxation consists in so plucking the goose as to obtain the largest amount of feathers with the least amount of hissing. -- Jean Baptiste Colbert

The only good tax is a bad tax. -- Milton Friedman

Now, as we prepare to file our income taxes, Americans are especially reminded of the burden of big government. About this time we hear also from reformers who promise to make the annual payment of tribute to Uncle Sam a little less of an ordeal. Flat-taxers promise an income tax form the size of a postcard. Backers of a national sales tax maintain that it will make the much-feared IRS extinct.

Both of these proposals are backed chiefly by people with solid conservative credentials; people who believe in the principle of a small government with limited powers. However, if you want a smaller government, do you really want a more efficient tax system? It could be that a burdensome, inefficient tax system, one that causes taxpayers to hiss loudly every time they are plucked is a substantial impediment to bigger government. In other words, make paying taxes less irritating and people won't mind paying a little more. Ronald Reagan knew this. As governor of California he opposed the withholding of state income taxes because he believed paying taxes ought to be painful.

Certainly, the present tax system is inefficient. It contains disincentives to work, save and invest. It subsidizes consumption of certain goods and penalizes the consumption of others. Economists estimate that to raise an additional $100 in revenue would destroy from $17 to $56 due to disincentives and distortions. One estimate puts the marginal economic damage from the individual income tax at $1 for $1 in added revenue! And this is only lost wealth. It does not count the money we transfer every year to accountants and tax lawyers.

Broad-based taxes with only a few rates and no loopholes have fewer disincentives and distortions, are less trouble to pay -- and are basically ATMs for politicians. The taxes we pay for social insurance, Social Security and Medicare, are good examples. They are flat taxes on labor earnings with no deductions. Since the 1950s, the federal government has collected between 7 and 10 percent of GDP with the income tax. The amount has fluctuated but there has been no major trend. However, during that same time, the amount collected from social insurance taxes has climbed steadily from around 2 percent to near 7 percent of GDP, a 300 percent increase.

Nobel Prize winning economist Gary Becker and his colleague Casey Mulligan have found evidence supporting the proposition that more efficient tax systems lead to bigger governments. Their cross-nation study found countries that have more efficient taxes, that is fewer loopholes, disincentives and distortions, have larger governments. Becker and Mulligan estimate that government growth caused by tax reform can reduce the expected benefits by 75 percent, or even cause a net increase in economic harm.

The same logic that works for the input side, holds for the output side as well. If an exasperating tax system causes resistance to bigger government, poor government services can reduce the demand for government action. The longer the lines, the more complex the paperwork, the surlier the person behind the counter, the less people will want to deal with government. This opens to question conservative support for good government measures such as contracting out.

Of course this argument should not be taken to the extreme. There are core functions, like the protection of life and property, where government efficiency is vital. And tax systems can become so inefficient that they require reforming. However, when conservatives offer their good government remedies, they should be careful. It may be that these solutions are penny-wise but pound -- possibly several pounds -- foolish.

Michael K. Block is president and Robert Franciosi is a research fellow at the Goldwater Institute, a Phoenix think tank that espouses the cause of limited government.

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