Tax Rate doesn't Matter?

I had heard from some pundit that the tax rate didn’t matter. Regardless of what the tax rate is, the federal government collects approximately 18% of gross domestic product (GDP) in taxes. That didn’t sound right. The Laffer Curve states that beyond a certain tax rate, you start collecting LESS money. So, for instance, at a tax rate of 90% you might get a lot but at 100% you will get less since most people won’t work when their cut is zero. Though I have long accepted Laffer as axiomatic, the constant rate of returns didn’t sound right. There should be a curve, not a line. So, I decided to research this notion that the tax rate didn’t matter.

The chart shows the top marginal tax rate and the tax income as a percentage of GDP. Amazingly enough, despite a rate as high as 94% or as low as 28%, the portion of GDP collected in taxes is very consistent. But that forces a question: If high tax rates don’t bring in more money, what is the point? If government will collect 18% of GDP with a low tax rate or a high tax rate, why wouldn’t you keep it low? What is the benefit of high tax rate? It strikes me as needlessly punitive.

But what actually happens? The tax law is a protection racket. Congress writes exemptions and deductions for those who support them. If the tax rate was constant and unchanging, congress would have a harder time raising campaign cash. Also, the government wouldn’t have nearly so much power. Paul Ryan has proposed tax reform that will bring us back to a two rate system: 10% & 25%. Though our current top rate is 35% but with all the deductions in the complex tax law, the typical person in that bracket only pays 25%. People in the lower brackets generally pay 10%, so it makes sense to just simplify to those two rates which will bring in the same amount money but save millions of hours in tax filing. You can bet the tax accountants are opposed to Ryan’s plan.

On a related point, note the big jump in tax receipts from before World War II vs. Post WWII. It is no coincidence that withholding taxes were introduced during WWII. Taxpayers never saw the money and didn’t write a check to government at the end of the year. Moreover, they got a ‘Refund’ the following year. It is only through the withholding tax that the populace was tricked into carrying a heavier tax burden, a burden they carry to this very day.