Taxing Away Our Economic Growth
Meiselman, David I.
The Alternative • November 1975 • Volume 9, Number 2 David L Meiselman Taxing Away Our Economic Growth • • (This article has been adapted from a speech given by Mr. Meiselman at The Alternative...
...Unconscionable profits indeed...
...The only dependThe Alternative: An American Spectator November 1975 5 able way to increase labor productivity, output per man-hour, is to increase the amount of capital per worker...
...But capital formation, as I have tried to show, is critically important for economic growth and for increasing real wages...
...Italian real output per capita increased an average of 5.7% per year, or 106% over the 13-year period...
...Canada and England already essentially have this system, and other countries generally permit substantially faster write-offs of depreciating capital assets than the United States does...
...the increase in labor inputs for 26...
...The Importance of Capital It is no accident that the United States is lowest in both capital formation and economic growth...
...Technical progress itself depends on capital formation, because technological improvements do not occur automatically...
...Over the period business output doubled, and my econometric study estimated that the increase in capital inputs, conventionally defined as plant, equipment, and inventories, accounted for 32% of the total...
...Several years ago, in a study that I did with Norman Ture, I did some research on these relationships to give them more precise empirical content...
...Individuals must pay taxes on essentially all income they earn, whether they spend it immediately or invest it...
...Necessary growth, like the rising of the sun, would—well, it would just happen...
...The same general relationships held when the much longer period from 1929 to 1967 was examined...
...I have not even mentioned in this analysis government policies which make it difficult to obtain capital or which require its wasteful use...
...Furthermore, the differences between American and foreign capital formation would be even greater if we excluded housing from the comparisons and examined only investment in plant and equipment, inventories, and- the like...
...Total fixed investment, which includes housing, has been 17.5% of real output in the United States, compared with 22% in Canada, about 25% in France and Germany, and over 35% in Japan...
...In times of high unemployment, labor leaders and public figures often say that the answer to our economic problems is to put more people to work right away, which tends to lower the ratio of capital to labor...
...Output can usually increase only when technology improves or, with a given level of technology, when either more capital or more labor is used...
...Inflationary Distortion The damage wrought by our federal tax system has been aggravated by inflationary use of the Federal Reserve's printing press...
...In studying the period from 1947 to 1967, I discovered that the capital input in the U.S...
...In 1965, a good but not an outstanding year, adjusted after-tax earnings amounted to $36 billion...
...The maximum each employer is willing to pay is determined by the productivity of labor, and hence by the ratio of capital to labor...
...Although payroll tax rates and sales and value-added taxes are much higher abroad, with the exception of England marginal income taxes are generally much lower than in the United States...
...This distortion by multiple taxation is particularly great in the case of dividends, for return on equity is also subject to an initial corporate profits tax of 48...
...Taxable profits have traditionally been calculated on the basis of historic rather than replacement costs...
...So long as government spending is so exorbitant, private capital formation will be difficult...
...This would mean that businesses could write off 100% of the cost of production facilities in the year they acquire them, thereby eliminating depreciation and other recovery allowances...
...You have all heard the dire warnings to the United States as well as the farewells to a sinking England...
...They have become almost old-fashioned concepts, but they are very real and genuine concepts...
...The same may generally be said for the effects of so-called tax loopholes...
...For it turns out that real wage rates depend on labor productivity —not because employers are guided by ethical reasons to reward workers for their productivity, but because market forces compel employers to do so...
...business sector increased at an annual average rate of 3 7%, while the increase in labor inputs averaged 1.4% per year...
...Inflation thereby levies a special additional tax on business capital under our current tax laws...
...Thus, the capital/labor ratio increased quite markedly—at an annual average rate of 2.3...
...The private sector, moreover, is now required .by law to devote much of its capital expenditures to unproductive uses, such as excessive antipollution equipment, which leave even less for productive capital...
...it does not eliminate it...
...But in this period, it turns out that the United States has experienced less growth in productivity than any other industrialized country in the Western world...
...I could easily make starker comparisons by using other countries...
...the vast holdings of the Rockefeller family could hardly support the federal government for more than a few days...
...And depreciation, based on historic costs, becomes insufficient to replace machines being used up in production...
...If, as a result of capital investment, employees become more productive, it will pay at least some employers to add to their work forces, and as the demand for labor goes up, employers in general will have to offer higher wages to attract workers or to keep them from quitting...
...Thus emerges one of the paradoxes of economic policy, largely unnoticed and unappreciated...
...Many corporations have moderated some of this problem by shifting from the first-in-first-out (FIFO) method of accounting to last-in-first-out (LIFO), but such shifts have been recent, and previously, corporations were effectively taxed on their holdings of inventories...
...and technical progress, which is dependent on capital investment, for 42...
...Preliminary estimates for 1974 show reported profits before tax for nonfinancial corporations of $114 billion, a tax liability of $47 billion, and a net figure of $67 billion...
...Because dividend payments were $26 billion, adjusted retained earnings were actually minus $7.9 billion...
...During inflation, therefore, recorded profits are overstated...
...we have to recognize that the concentration of World Evil and the tremendous force of hatred is there and it's flowing from there throughout the world...
...The so-called unconscionable profits are the paper tigers of our economy...
...Thus, it will probably come as a surprise to most of you that since 1960 there has been more real economic growth per capita in the United Kingdom than in the United States...
...Gross National Product since 1960 to private capital formation...
...Alexander Solzhenitsyn, before the AFL-CIO the building of a shopping center...
...In view of such high tax rates it is puzzling why the low level of capital formation is not even lower...
...Capital Deformation If capital formation is so crucial for economic growth and rising real wage rates, why is the United States doing such a bad job of it...
...Growth was required because even a massive redistribution of income and wealth couldn't yield enough...
...In fact, of all the Western industrial countries, the United States has devoted the smallest fraction of its...
...If we persist in our present tax and other economic policies, it may not be too far-fetched to suggest that Englishmen will soon be warning their countrymen not to go the way of the United States...
...Competition among employers tends to drive wage rates to this point, and therefore wages will be held down if capital investment is slow...
...Even Italy, despite the repea-t-d announcements of her demise, has flourished by comparison with the United States...
...In some countries, real income per capita may now exceed that of the United States...
...There is little wonder, in view of the results of these kinds of calculations, that the stock market seems to be so sensitive to inflation and why it collapsed last year—when we were experiencing double-digit inflation...
...The same holds true for corporations and their profits...
...Meiselman at The Alternative 's Conference on the Future of the Corporation and Free Enterprise, in Washington, June 14...
...Even the British have devoted a larger proportion of output to capital formation than we have...
...According to my estimates, the increase in the capital/ labor ratio increased labor productivity by 2.2% per year, on the average, which was essentially the same as the overall increase in real wage rates...
...In Japan, for example, real output per employed person increased by 9.2% per year, or by a total of 214% over the 13 years...
...Except for closely held corporations, other industrial countries such as Japan, the Netherlands, France, and Germany have few or no taxes on capital gains...
...That looks like a great year for business, but George Terborgh has estimated that corporations understated their true costs of replacing inventories and used-up plant and equipment by $48.8 billion, and as far as I know, no one has yet cast doubt on his calculations...
...One great danger of the staggering federal deficit is that 6 The Alternative: An American Spectator November 1975 government borrowing crowds out private borrowing for capital formation...
...One of the main reasons for our slowdown is that the American economy has been devoting too many of its resources to consumption and to government and not enough of them to the capital formation which makes growth possible...
...For full tax equality between saving and consumption, all private sector saving should be deductible from the income tax base, whether invested in a savings account, the purchase of machine tools, the education of one's children, or Great American Series It is almost a joke now in the Western world, in the 20th century, to use words like "good" and "evil...
...It has become common to use Britain's wretched economic performance and mismanagement to frighten Americans lest we end up in the same sorry mess of inflationary stagnation...
...instead, they are typically the consequence of deliberate and planned research and development, a form of capital investment...
...To be sure, so-called capital gains are taxed at lower rates than ordinary income, but this only moderates the distortion...
...What has the United States been doing so differently to result in such disappointing economic growth...
...To be sure, other countries started lower or suffered great and reparable destruction during World War II, but the large gap between the United States and other Western countries in real income per capita has narrowed considerably, even from pre-World War II levels...
...Capital formation was therefore of the utmost importance...
...When prices increase, the cost of replacing inventories also increases...
...It is difficult to generalize about corporate taxation, but because of tax incentives, fast depreciation, and other policies, it is clear that effective corporate tax rates are much lower abroad than in the United States...
...If you put the $18-billion figure for 1974 in dollars of 1965 purchasing power, the number is only $12.2 billion, or one-third of what it had been ten years ago...
...And relying on money creation to finance the deficit would make things even worse because of the ensuing inflation...
...I might add that the record of economic improvement in Russia hasbeen unimpressive in spite of large-scale capital formation, but this is the result of having a centrally planned and regimented economy...
...Resources devoted to capital cannot be used elsewhere, that is, in private consumption or in government services...
...The fundamental bias against capital formation in our tax system is the multiple taxation of income which is saved and invested...
...The Russians have understood the importance of capital and the capital/ labor ratio better than we do, but forced capital formation in the Soviet Union has been at the obvious cost of low consumption levels...
...And for a given level of technology, if there is little additional fixed capital, output can increase only when there are more labor inputsL-from more people working, or from people working longer hours...
...In other words, real profits after taxes were only $18 billion, or about 1.5% of national income, the lowest proportion since the Great Depression of the 1930s...
...I need not assail you with more numbers because I can easily summarize U.S...
...These differences in growth may appear small in any one year, but they accumulate over the years, like compound interest, so that during that 13-year period the overall increase in output per employed person was about 43 % in the United Kingdom compared with 31% in the United States...
...It is of course possible to go overboard on the question of capital formation, for you cannot get something for nothing...
...If you compound the effect of inflation on corporate taxation, it turns out that effective tax rates on 1974 adjusted profits were 72...
...I contend that a number of public policy measures, by unduly penalizing saving and investment, have diverted resources individuals would prefer to devote to capital formation and future consumption to present consumption by households and by government...
...Indeed, in all sorts of ways, other countries tend to have much smaller tax biases against capital formation than we do...
...economic growth in the past twenty-five years or so and the principal views about it...
...Taxes must also be paid on interest and dividends earned by their investments, which result from previous saving and investing...
...And one of the worst sets of policies, resulting in this wasteful distortion, is our federal tax system...
...For many years it was widely believed that the United States, presumably the productive wonder of the world and the blessed recipient of the touchstone of self-generating growth, would be able to follow the example of Al Capp's shmoo or the Good Lord's manna from heaven, and replace Adam Smith's unnecessarily dismal and pointlessly self-denying economics of scarcity with a new cheery economics of nonpolluting abundance, ease, and beauty...
...It is not coincidental that the United States and England, the industrial countries with the most sluggish growth, are also the industrial countries with the most progressive income tax rates, reflecting a misplaced and self-defeating equalitarian ethic...
...Corporations paid out more in dividends than they really earned...
...Between 1960 and 1973, real output per employed person increased by an average of only 2.1% per year in the United States, while in the UK it increased by about 2.8% per year, or about a third more...
...As for the war argument, Canada suffered no direct war damage, yet Canada too has been growing faster than the United States...
...The Alternative: An American Spectator November 1975 7...
Vol. 9 • November 1975 • No. 2
