Its become Conservative and Libertarian dogma in policy circles that investment should never be taxed. I remember vividly a conversation with a libertarian on Facebook. He argued that the best tax policy would be a consumption tax (for those of you that don't know, a consumption tax is a sales tax that only applies to "consumption" goods. I argued that a sales tax should not just be levied on consumption goods, but on all transactions. I knew instantly what his argument would be. He argued that we shouldn't tax investment because it will discourage economic growth (as is typical of libertarians, they totally disregard the role of consumption in economic growth).
I have several problems with this argument. My first objection is practical. The level of the consumption tax, to compensate for the reduction in all other taxes to zero, would be astronomical. Here is an example. My home state of Texas relies heavily on property taxes to fund the government, and in particular to fund our public schools. The current sales tax rate in Texas, at the state level, is 6.25%. If the property tax was eliminated in texas, and if the sales tax remained in its current form (which is basically a consumption tax), then the sales tax would have to be increased to at least 20%, probably higher. And thats just to fund the needs of Texas. Now imagine if the Federal government was to replace all its taxes with a consumption tax, you get the idea.
My fellow libertarian minded friends may object at this point that this would be coupled with a shrinking in government, and it will force those that receive government benefits to see how much their benefits actually cost, which will inevitably lead to the masses crying to shrink government. I do wish for government to shrink, but I find it incredibly unrealistic to believe that the majority of voters would go along with this. Most likely, what would actually happen, is that other taxes will quickly be reinstated.
We are where we are, and I find utilizing an incredibly regressive means of taxation such as a consumption tax to be unjust. Please bear with me fellow libertarian minded folks, as I explain. The fact remains that many contracts exist because they are enforceable. If I lend money to you, I know I can demand repayment because I have backing from the government. The government enforces the contract. Governments enforce contracts when they punish people for theft. They enforce contracts when they punish someone for fraud, or not adhering to a contract, etc. I know some more idealistic libertarians will argue that this role of the government is unnecessary, but if it isn't, I would like historical examples, not just theoretical arguments.
Transactions between a buyer and a seller are a contract. The contract may be simple. I pay you to make me a cheeseburger. Or it may be complex. I obtain a loan from you with the obligation to repay some time in the future. Either way, there is a 3rd party that is in charge of enforcing that contract. That 3rd party is, like it or not, the government. One may conceive of alternative, perhaps better, mechanisms of enforcement, but in our current society, the government is responsible. Thus it makes sense that there should be a fee paid for enforcement. This fee would be my recommended transactions tax. Since it is proportional to the size of the transaction, it serves as an automatic mechanism to insure that the government allocates enforcement mechanisms proportionally.
If we just had just a consumption tax instead, then people that engaged in investment would free ride off of those that paid fees for consumption transactions. They would not have to pay for the enforcement mechanisms that they rely on for their contracts. In addition, this could be bad for them, because ultimately, if government does not derive revenue from those contracts, it may have reduced incentive to effectively monitor them.
Now I will reply to the argument that my tax scheme will reduce economic growth. First of all, its been shown that tax wedges that favor some transactions over others create distortions in the economy. Austrians Economists don't like distortions, so why should they favor this one? It also creates incentives to have things reclassified to expand the classification of "investment." This will in turn give incentives to lobby to make for things exempt from the consumption tax.
In addition, utilizing economic theory in such a way to enact tax policy presupposes that we have perfect knowledge of how economies work. It presupposes that the government can effectively decipher what is investment versus what is consumption. This is actually a difficult task, because in reality goods fall in a spectrum between perfect consumption and perfect investment. Consumption and Investment are just arbitrary terms we use and stastiticians use to label economic activity. An arbitrary binary classification scheme has been utilized to in a way it never should be, because reality is far more complicated. It saddens me that many that call themselves Austrians (in the economic sense) have fallen for this oversimplication.
While I am sympathetic to conservative and libertarian efforts to reduce taxes. The debate should recognize the complexity of the issue. The issues at stake are not just Economic, but also rooted in Political philosophy. What the proper role of government? If one believes its role is to protect property rights, then one needs to think what is the best way of funding its obligation. It makes no sense to argue that government's role is to protect property rights, and argue it should be funded with user fees, and then insist that a massive quantity of contracts should be exempt from this fee.
I am more optimistic that this argument will make sense amongst conservatives, because unfortunately, from my experience, libertarians tend to be as dogmatic as marxists, and like to pretend they are ideologically consistent, while often being very far from it, and too often serve as apologists for the rich and powerful. I know many libertarians that are not this way, but I fear they are a minority. Hopefully this argument I have made will instill in the conservative and libertarian movements, renewed vigor for approaching issues via a more holistic lens. more in the spirit of William F. Buckley, and less in the spirit of Murray Rothbard.
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