CHAPTER

11
Principles of Tax Policy

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

Principles of Tax Policy

Efficiency
minimize

excess burden
low compliance costs
easy to administer
Equity
normative

in nature

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-2

Benefit Principle
People

who benefit from government

expenditures should pay
Views a tax as a price paid for
government supplied good
Appealing on equity grounds

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-3

Efficiency and Benefit

Principle
Can

minimize excess burden of taxation

Features of a user charge
Can act as a rationing device

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-4

Actual Taxes and Benefit

Principle
Share

some characteristics of benefit

principle
Example:

Property taxes and education

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-5

Ability-to-Pay Principle
Individuals

should pay taxes in proportion

to ability to pay
Can apportion tax burden for activities
undertaken for the public good
Redistribution programs

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-6

Implementing Ability to Pay

Is

it fair for someone to pay more

because of greater ability to pay?
When do people have same ability to pay?
How much more should person with
higher income pay?

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-7

Horizontal Equity
People

with equal ability to pay assessed

same amount in taxes
Example:

Deductions for children

Concept

of equity may be at odds with

benefit principle

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-8

Vertical Equity
People

with greater abilities to pay

should pay more in taxes
Does not specify how much more one
should pay

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-9

Progressive, Proportional, and

Regressive Taxes
Proportional
Percentage

Progressive
Larger

tax
of taxpayers income

tax

percentage of income as income rises

Regressive
Smaller

tax

percentage of income as income rises

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-10

Progressive, Proportional, and

Regressive Taxes

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-11

Income and Consumption over

Life Cycle

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-12

Sumptuary Taxes
Designed

to discourage consumption of
taxed good
Excess burden of taxation
Possible rationale for sumptuary taxes:
Corrective

tax on an externality
Legislating morality through tax system
Used to raise revenue
PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy
Randall Holcombe

11-13

Sin Taxes and Healthy Living

[Insert

Figure 11.3]

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-14

Politics and Tax Policy

Special

interests and taxation

bias

in tax policy to favor special interests

over general public interests

Federal

versus state and local taxation

special

interests have greater influence on

federal tax policy

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-15

Tax Reform
Major

overhaul recommended over

piecemeal reform
Can

withstand negative influence of special

interests
More likely to simplify tax code

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-16

Tax Policy in Real World

Equity

and efficiency
Individual taxes versus the tax system

PUBLIC SECTOR ECONOMICS: The Role of Government in the American Economy

Randall Holcombe

11-17