Is Our Tax System Fair? If Not, Why?

by Veronique de Rugy

On Monday, I posted two charts showing that the federal tax system is in fact a progressive one: Higher income taxpayers pay higher effective tax rates than lower income taxpayers. That, many seem to argue, doesn’t mean that the rich pay their fair share. What is a fair tax system, then? What is fairness in general? I know what I believe is fair, but I haven’t studied the issue. Thankfully, other scholars have.

For instance, the American Enterprise Institute’s president, Arthur Books, has spent a lot of time looking at this question.  In a piece, originally published in the Washington Post back in April, he wrote about some interesting data on this issue. Among other things, he notes:

In 2006, the World Values Survey asked a large sample of Americans to imagine two secretaries with the same job but one earning considerably more. However, the higher-paid secretary is “quicker, more efficient and more reliable.”The survey asked whether a pay difference between the two was fair. About 89 percent said the gap was fair, while about 11 percent said it was unfair.

Of course, for this example to translate into a fair economic system, both secretaries must have the opportunity to develop their skills. It’s not fair at all if the less-effective secretary couldn’t go to school and doesn’t know how to read.

And so it is in our country. If opportunity in America is a sham–if the system is rigged and some people get the breaks only for reasons of luck, birth, or discrimination–then merit is fictitious and redistribution brings greater fairness. But if America is an opportunity society–if you have the chance to work harder, get more education and innovate–then rewarding merit is fair, and it is fair for some to make more money than others.

Most Americans believe we live in an opportunity society.

This is important because these perceptions of fairness and luck or opportunity tend to explain  how much redistribution and taxes people will demand. In this paper, Harvard’s Alberto Alesia and MIT’s George Mario Angeletos confirm that when people believe that merit explains differences in income, they are more likely to favor lower taxes than if they believe that luck or corruption explains outcomes. They write:

If a society believes that individual effort determines income, and that all have a right to enjoy the fruits of their effort, it will chose low redistribution and low taxes. In equilibrium effort will be high, the role of luck limited, market outcomes will be quite fair, and social beliefs will be self-fulfilled. If instead a society believes that luck, birth, connections and/or corruption determine wealth, it will tax a lot, thus distorting allocations and making these beliefs self-sustained as well.

Now, I wonder how the president’s constantly talking about how “unfair” the current tax system will affect people’s perceptions about that system. If one hears enough times that rich taxpayers aren’t paying their fair share, can it change our perceptions, whether it is true or not?

Obviously, there is much more to say about fairness and so much I don’t know about the issue. That being said, I am seriously bothered by the fact that most people only seem to care about the fairness of the tax system as it relates to how much taxes rich people are paying. I actually find the system unbelievably unfair because the amount of taxes one pays isn’t actually a product of how much one makes. Rather, the amount of taxes one pays depends on whether one’s income is capital interests or other forms of income, whether one owns a house or rents, whether one has children or doesn’t have children, whether one is married or single, whether one lives in a state with high or low income tax rates, etc. That to me seems very unfair.

I agree with Brooks’s conclusion:

But when a government that has overspent for years turns to tax increases instead of spending cuts simply for the sake of “fairness,”it weakens free enterprise, lowers opportunity and impoverishes us in many ways.

And that is simply unfair.