Data to Virtue

"Wisdom is to know what to do next; virtue is doing it." -- David Starr Jordan, American Naturalist -- Observation collects data from which we build knowledge. Wisdom makes sense of that knowledge. However, it is not enough to merely develop wisdom, we must act on what we know. That is virtue--and the purpose of this blog--from data to virtue.

Sunday, August 06, 2006

GDP and Taxes

THE FIGURE:
In the figure below I have plotted several effective tax rates and the per capita gross domestic product (GDP) by year going back to 1979. (Click on the figure for a larger view.)


THE TAKEAWAY:
There is absolutely NO correlation between a change in the tax rate (up or down) and the growth of the per capita GDP over this time frame.


DISCUSSION:
If there were a correlation between the tax rate and the GDP, then the wiggles in the GDP curves would either be offset by a year or two or three from the wiggles in the effective tax rate or mirrored for an inverse correlation. Let me state this another way, a reduction in the effective tax rate for everyone, or the top 10%, or the top 1% of incomes does not have any correlation to the growth of the GDP. The republican mantra that reducing taxes stimulates the economy is not based in data, but in the typical telling of a half truth. It's cherry picking the data, "Look we lowered taxes and the GDP went up." Of course it did, it always go up. They never also say, "Looked we raised taxes (or kept them the same) and the GDP went up." The GDP always goes up. It's like saying, "Every year there's a blue moon the GDP goes up." Well not only does it go up when there is a blue moon, but also in years when there is not a blue moon. Maybe the phases of the moon have nothing to do with the GDP. Similarly, the small tweaks to taxes that we make in the modern era don't have a statistically significant effect on the GDP. I guess if you say something enough times, people believe it to be true even when it is not.

Note that I'm not advocating that we increase taxes. I'm only saying the argument that lowering taxes increases the GDP is a statistically invalid myth propigated to foster an agenda of greed at worst and a half truth at best. For more discussion on tax rates, see my post on tax rates and revenues at: http://datatovirtue.blogspot.com/2006/08/tax-rates-and-revenues.html.

SO WHAT?
Point out this data to people who tell you that reducing taxes helps the economy. Don’t vote for candidates that make this a major part of their platform; they clearly don’t know how to look at data. What else are they missing?

DATA DETAILS:
I didn’t take it back further because I didn’t have the tax rate data before 1979, but I also want to stress I don’t have any interest in returning to the exceedingly high rates of 40 years ago where large change in tax rates could be made. This is the modern era, so let’s compare apple to apples. Bringing up how things worked before that time is literally ancient tax history and has no revelvance to today.

I should also say I’ve done further analysis trying to find any correlation between a change in the effective tax rate and the slope of the growth rate of the GDP and can say with confidence that there is no statistically valid correlation. I looked at this for one, three, and five years out in case there is a delayed benefit, but found no statistically valid correlation. The tax doesn’t affect the economy nearly as much as we’d like to think. The economy grows because people go to work, work hard, produce, are creative, make new products, and the masses have enough money to buy those products. Putting more and more of the GDP into the hands of a very small number of people does not make a vibrant economy. Let’s stop this political grand standing and let the government do what it should do; leading toward appropriate technologies and social responsibility.

The effective tax rates are arrived at by taking the difference between the pretax income and the post-tax income for the respective set of returns and dividing it by the pretax income. This is the tax rate that each income group actually pays, not their tax bracket. A tax cut, or tax increase, cannot be sorted out by the bracket alone due to all the possible deductions and credits. The bottom line is what people actually pay, labeled the effective tax rate on the bottom set of curves. There are three sets of data here, one for all returns filed, one for top the 10% of incomes filed, and one for the top 1% of incomes filed. This data is from http://taxpolicycenter.org/TaxFacts/TFDB/TFTemplate.cfm?Docid=467.

The per capita GDP (the amount each individual contributes to the GDP) is in the top set of data in the figure. The blue curve is in the respective year dollars while the red curve is the same data adjusted for inflation, to 2000 dollars. The figure is similar in taking the actual GDP rather than the per capita GDP, but it makes more sense to normalize out the population growth. In otherwords, what is illustrated is the amount each person contributes to the GDP. This data is from http://www.bea.gov/bea/dn1.htm and the US Census Burbeau.


39 Comments:

At 7:36 AM, Anonymous Anonymous said...

I have to disagree. Apparently, you don't know how to look at the data here. As the tax rate for the wealthy increases, the growth of GDP slows, and even stalls. The truth though is that is you need low flat taxes, for everyone, not a progressive tax which penalizes one for making more money. Throw away all your graphs, and listen to the simple logic...if there were no rich people in America, where would the world be? Who would star in the movies, build the amusement parks, play football, build the walmarts...and create the jobs for the poor, middle class, and wealthy. It trickles down from the top,always has, and always will

 
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