Opinion Editorial

Monday, July 27, 1998  

Despite Tax Burden, Lower Marginal Rates Promote Growth

As of the first quarter of 1998, federal revenues as a share of the gross domestic product hit another all-time high of 21.7 percent. According to the U.S. Census Bureau, the average household paid 14.3 percent of its income in federal income taxes in 1996, up from 12.1 percent in 1992. The overall tax burden, including state and local taxes, hit 24.3 percent, compared to 22.2 percent in 1992. Yet despite the growing tax take, there is little evidence of either a tax revolt or a tax brake on economic growth.

In the past, tax burdens even close to those Americans labor under today have had both serious economic and political consequences. In the 1970s, when inflation was pushing people up into higher tax brackets, workers would often refuse overtime and demanded longer vacations and increases in tax-free fringe benefits to lessen the tax bite. They also put heavy pressure on their elected officials to cut taxes, culminating in California's Proposition 13 in 1978 and the election of Ronald Reagan in 1980 on a tax-cutting platform.

Of course, polls consistently show that people believe taxes are too high. But it is doubtful that there ever has been a time in American history when people didn't think taxes were too high. Nevertheless, people do not seem to be clamoring for a tax cut, nor does the economy show much evidence of being burdened by excessive taxation. Growth remains high, unemployment low, the stock market is in record territory, while entrepreneurs are very active.

Yet, both common sense and economic theory tell us that high taxes must impede economic activity at some point. How can this fact be reconciled with the data on rising tax burdens?

One possible explanation has been put forward by economists Leonard Burman, William Gale and David Weiner in a new paper.

  • They point out that while average tax rates (taxes as a share of income) may be rising, marginal tax rates (the tax on each additional dollar earned) are not.

  • The vast majority of taxpayers are in a lower marginal tax bracket today than they were in 1980 (see figure).

  • And despite increases in the top tax rate in 1990 and 1993, even those at the top are better off. In 1980, 14 percent of taxpayers paid taxes at rates above 36 percent; today only one percent do.

This is important because the marginal tax rate is the most important for economic growth. It is the rate that affects an individual's decision to work an additional hour or invest an additional dollar. Lower marginal tax rates, therefore, may explain why taxpayers revolted in the 1970s, but remain contented today.

Source: Bruce Bartlett, senior fellow, National Center for Policy Analysis, July 22, 1998.

For more on Behavioral Effects of Taxes http://www.ncpa.org/pi/taxes/tax22.html#1

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