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Chapter 24

Chapter 24

Taxes and Spending

Norton Media Library

Nariman BehraveshEdwin Mansfield

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• The following slide shows total government spending (federal, state, and local) as a share of the economy.

• Total government spending accounted for only 9.4% of GDP in 1930, and only one third of this spending was at the federal level.

• Government spending, particularly at the federal level, soared from 1930 to 1970. • Total government spending rose from 9.4%

of GDP in 1930 to 30.2% of GDP in 1970.• Since 1970, government spending has been

relatively constant at about one-third of the U.S. economy.

Government Spending as a Shareof the Economy, 1930-2006

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Federal

The Size of Government

State & local

Government Expenditures as a Share (%) of GDP

1930

1940

1950

1970

1980

1990

2000

3.0 6.5 9.4

8.4 15.77.3

1960 24.116.5 7.6

30.219.4 10.9

32.821.0 11.8

34.221.6 12.6

31.919.0 12.9

21.114.7 6.3

2006 33.820.3 13.5

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How the Federal Government Spends (2006)

Sources: Economic Report of the President, 2007, and Statistical Abstract of the United States, 2007.

Defense 19.7%

NetInterest 8.5%

Transportation2.6%

Other13.3%

Social Security 20.7%

Income Security 13.3%

Medicare and health 21.9%

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Education28.8%

How State and Local Governments Spend

Sources: Economic Report of the President, 2007, and Statistical Abstract of the United States, 2007.

Insurance trusts 8.9%

Public welfare & Health 19.5%

Police &Fire Protection 4.9%

Transportation 5.5%

Administration & other 21.9%

Interest on debt 3.6%Utilities &liquor stores 6.9%

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Financing the Public Sector: Taxation

In order to make available public and correct inequity, government must free up resources from the production of private goods.• Taxes shift resources from private to public use• Taxing households and businesses reduces their

incomes and spending, the private demand for products decreases, as does the private demand for resources.

• This is known as Deadweight Loss

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Federal Government•Personal Income Tax•Corporate Income Tax

Collection of TaxesTHE U.S. TAX STRUCTURE

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(Social Security)

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State Governments•Personal Income Tax•Sales Tax

County and City Governments•Property Taxes

Collection of TaxesTHE U.S. TAX STRUCTURE

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TAXES

Tax IncidenceThe Tax Incidence or Tax Burden is the determination of who actually pays the tax. Government must determine how to appropriate taxes from the citizens.

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Personal Income TaxIndividual

Corporate Income TaxStockholders – Consumers

Sales TaxesConsumers

Property TaxesOwner or Renter

INCIDENCE OF U.S. TAXESTHE U.S. TAX STRUCTURE

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TAXES

Tax Incidence

•Benefits-Received Principle

•Ability-to-Pay Principle

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Benefits Received versus Ability to Pay

• The benefits-received principle is the idea that people who receive the benefit from government-provided goods and services should pay the taxes required to finance them.

• The ability-to-pay principle is the idea that people who have greater income should pay a greater proportion of it as taxes than those who have less income.

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THETAX BURDEN

• Progressive Tax

• Regressive Tax

• Proportional Tax

•Flat Tax

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Progressive, Proportional, and Regressive Taxes

• A progressive tax is one whose average tax rate increases as the taxpayer’s income increases.

• A regressive tax is a tax whose average tax rate decreases as the taxpayer’s income increases.

• A proportional tax is a tax whose average tax rate remains constant as the taxpayer’s income increases.

• A flat tax is a tax which takes the same monetary amount regardless of income.

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Progressive, Proportional, and Regressive Taxes

• In general, progressive taxes fall relatively more heavily on high-income households while regressive taxes are those that fall relatively more heavily on the poor.

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Progressive, Proportional, and Regressive Taxes

• Taxes are classified as progressive, proportional, or regressive, depending on the relationship between • average tax rate (total tax paid as a percentage of

income) and

• marginal tax rate (the rate paid on each additional dollar of income).

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Tax yearTop marginaltax rate (%)

Taxableincome over--

PRESIDENT GROWTHRATE

1913 7 500,000 WILSON

1918 77 1,000,000

1922 58 200,000 HARDING

1923 43 200,000 COOLIDGE

1925 25 100,000

1932 63 1,000,000 ROOSEVELT -1.3%

1936 79 5,000,000

1940 81 5,000,000 8.1%

1942 88 200,000 18.5%

1951 94 400,000 EISENHOWER 8.7%

1965 70 200,000 KENNEDY 1.7%

1981 38.5 215,400 REAGAN -0.2%

1986 28 29,750 4.3%

1993 39.6 89,150 CLINTON 4.0%

1994 39.6 250,000

2003 35 311,950 BUSH 3.9%

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TAX APPLICATIONS:

• Personal Income TaxProgressive

• Sales TaxRegressive

• Corporate Income TaxProportional

• Payroll TaxesRegressive

• Property TaxesRegressive

Identify whether progressive, regressive, or proportional

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Tax Progressivity in the U.S.

• The majority view of economists is as follows:• The Federal tax system is progressive.• The state and local tax structures are largely

regressive. A general sales tax and property taxes are regressive with respect to income.

• The overall U.S. tax system is slightly progressive.

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THE TAX ISSUE

The Liberal Position

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THE TAX ISSUE

The Conservative Position

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EndChapter 24