Tax Man Confounded: Why High Rates Haven’t Yielded Higher Revenue

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[00:00:00] Joe Selvaggi: This is Hubwonk. I’m Joe Selvaggi. Welcome to Hubwonk, a podcast of Pioneer Institute, a think tank in Boston. On April 15th, we commemorated the 111th anniversary of our federal income tax, which the 16th Amendment instantiated into the U. S. Constitution in 1913. Since then, the top marginal rate has swung dramatically from a modest 7 percent at its inception to a staggering 94 percent post World War II, eventually settling at 37 percent today.

[00:00:33] What’s intriguing isn’t just this wide range of rates, but the rather consistent 16 19 percent range of total GDP revenue collected by the government throughout. What’s even more perplexing is that periods of robust GDP growth, notably in the 1950s and 60s, coincided with sky-high top marginal rates.

[00:00:54] Providing fodder for contemporary proponents of higher taxes to argue that high rates don’t impede growth. However, delving into history reveals that as tax rates climbed, so did efforts to legally evade them through tax-avoiding compensation strategies. These incentives led to an era of corporate indulgence, marked by lavish non-income perks like luxurious office spaces, company-funded vacations, and leisurely three-martini lunches.

[00:01:22] All untaxed incentives. Fostering a thriving economy. How should policymakers interpret this historical puzzle where tax rates seemingly bear little correlation to revenue collected? What dynamics undermine the taxman’s pursuit of higher yields, often resulting in diminished returns? My guest today is Dr. Brian Domitrovic, the Richard S. Strong Scholar at the Laffer Center, and co-author of Taxes Have Consequences, An Income Tax History of the United States. Dr. Dimitrovic’s expertise lies in dissecting how U. S. tax policies intersect with business responses, uncovering why lofty marginal rates fail to boost revenue, and how tax avoidance endeavors ultimately impoverish all economic players.

[00:02:10] Our conversation will delve into past attempts to enhance tax revenue and their implications for contemporary policymakers contemplating rate hikes. When I return, I’ll be joined by economic historian and scholar, Dr. Brian Dimitrovic. Okay, we’re back. This is Hubwonk. I’m Joe Selvaggi, and I’m now pleased to be joined by Dr. Brian Dimitrovic, the Richard S. Strong Scholar at the Laffer Center and co-author of Taxes Have Consequences, An Income Tax History of the United States. Welcome to Hubwonk, Brian. 

[00:02:42] Brian Domitrovic: Joe, it’s really great to be here. 

[00:02:44] Joe Selvaggi: Well, I’d love to have you here. it was interesting. your Taxes Have Consequences book was recommended to me, and I started reading it, maybe because it was, we were approaching tax day, and on that same exact tax day, I saw your article in Law and Liberty, talking about, historical, tax rates.

[00:02:59] So I thought this was the universe’s way of telling me, you have to be on the podcast. So welcome. Before we get started in our conversation about Taxes Have Consequences, I want our listeners to learn a little bit about your background. You have both your undergrad and your Ph.D from Harvard, and you are a historian.

[00:03:17] What is your expertise in history? What’s your focus? 

[00:03:20] Brian Domitrovic: Sure, yeah, my undergrad degree is from Columbia. I was a history major. Oh, I’m sorry. Yeah, and I got my Ph. D. in history, at Harvard, where I also did work in the economics department, so I’ve studied my whole career. Since the 2000s and 90s, has been setting the supply-side tradition in economic, intellectual history, and in policy history.

[00:03:38] Joe Selvaggi: Okay, wonderful. I want to unpack some of the themes in your book, your recent article, and talk at a very high level, about the history of the U. S. income tax. I think we’re just a little bit beyond or about 110 years ago, the 16th Amendment. It was something that was intended, for the highest earners, but now, as your article suggests, doing our taxes on April 15th.

[00:03:59] It’s something all of us as Americans get to do and dread. How do we get from, it being unconstitutional to now where everybody has to wrestle with the same problem every April 15th? 

[00:04:09] Brian Domitrovic: For the first 125 years of American history, constitutional history, there was no income tax to speak of. There was a provision for an income tax in the original constitution of 1789, but it had to be collected so that each state yielded as much revenue as they had population in the country.

[00:04:25] So it was proportional to a state’s population. They only imposed it a couple of times. so it was the 16th Amendment that passed in March 1913 that gave Congress, the power to establish income tax, which it did the following October in 1913. So, yeah, we’ve only had an income tax for 100, 111 years now the top rate initially was 7%. The exemption is equivalent today of about 100, 000, so you had to make 100,000 even to pay 1 percent income tax at the margin, and the rates went up after that, but the first income tax had a top rate of 7%. 

[00:05:05] Joe Selvaggi: Okay, so in the beginning, tax rates were relatively low and imposed only on the wealthiest, but we’ve had in the interim 111 years, a couple of, world wars, we’ve had a depression, we’ve looking back, now, you said it went from seven percent to much, much higher.

[00:05:20] Seems like, from your book, tax rates have fluctuated wildly. has the money that the government has collected in those taxes, again, they’ve gone over, all over the place, fluctuated as wildly as tax rates themselves? 

[00:05:33] Brian Domitrovic: Yeah, Jim, not at all. the total tax take, say, as a percent of GDP has been remarkably stable at about 15, 17 percent ever since income taxes essentially became mandatory for everybody in the 1940s during World War II, so it doesn’t matter what the marginal tax structure is the federal tax take will 16 to 20 percent of GDP. That’s known as Hauser’s Law. In economics, and Alan Reynolds is a great supply center from the 70s and 80s. he has Reynolds law, which is no matter what the income tax rates are, income tax revenues will always be the same, about eight or nine percent of GDP.

[00:06:08] So both of those theories suggest strongly, well, why not just have low rates? If you’re going to get the same amount of money, no matter what. 

[00:06:16] Joe Selvaggi: Good. This concept, I want to spend our conversation drilling down on why it seems that regardless of rates, the government receives the same amount of money.

[00:06:24] It seems counterintuitive. I want to point then to your most recent work. I think it came out in Law and Liberty on April 15th. your article, addresses directly this idea, this nostalgia we have for the past, particularly amongst progressives, that we used to have a remarkably high tax rate.

[00:06:39] I think specifically it got as high as 94 percent. That meant the government only gave you six cents out of every dollar you earned. this is in the post-war period. And the same people who point to that say, at that time, the economy was booming. Ergo, it seems there’s no relationship between high tax rates and a healthy economy.

[00:06:59] What’s wrong with this interpretation of high tax rates and a booming economy? What do those historians get wrong? 

[00:07:07] Brian Domitrovic: Yeah, I’ll accept the basic correlation. So, let’s say, that from 1954 to 1963, the top marginal tax rate was 91%, the lowest. The tax rate in the income tax structure was 20%. The corporate tax rate virtually for all companies was 52%.

[00:07:24] So, yeah, you have a, 91 percent marginal income tax. You have a 52 percent corporate tax. And the economy is booming, right? It’s post-war prosperity in the 50s and 60s. I’ll accept that correlation. You can quibble. You can say, well, there were three recessions during the Eisenhower presidency. it was impossible for additional family members to enter the workforce if they were filing on the same tax return, hence the collapse in women’s employment.

[00:07:50] you can make all those kinds of arguments, but I’ll just concede it. There’s post-war prosperity. Okay, fine. The problem with the published rates, and this was discussed ad nauseum in the 50s, is that the published rates were inapplicable. So, there has to be some kind of minimum willingness on the part of the government, if it has high tax rates, to collect at high tax rates if we say there were high tax rates and we had prosperity.

[00:08:15] Did the government collect at those high tax rates? Not in the least. So, it’s not functionally correct to say that we had high tax rates, because we didn’t, in that they were not applicable. The federal tax take was 16 percent even though income tax rates began at 20 percent and were only higher after that even though the corporate rate effectively for everybody was 52%.

[00:08:34] So there has to be a minimum willingness of the federal government to enforce those rates to say we actually had them. 

[00:08:41] Joe Selvaggi: So I want to drill down a little bit further then. So again, we’re going back to our original idea that even at 91%, you said, was the top rate, the government was taking in just about the same amount of money.

[00:08:51] So how do you reconcile, let’s say a revenue collection remaining constant despite an enormously high, on-the-books tax rate? You say the unwillingness to collect is, how is that manifest? Is it in deductions or how is it that they could ask for 91 and only get what they got?

[00:09:08] Brian Domitrovic: Yeah, this was a paradox everybody had a lot of fun with. the law professor, Stanley Suri, at Harvard Law School had a lot of fun with it. They called it paper rates, and another WAG noted in congressional testimony, that we have to stop this, dipping into high incomes with a sieve.

[00:09:24] yeah, it’s just, everyone, well known. So they had these high published rates, and it became apparent as soon as World War II was over, basically, a couple of days before V Day, even, Congress understood that in peacetime, the jack rates way up in the Depression and certainly in World War II, and as soon as September 1945, Congress is well aware, the American public is not going to tolerate These rates anymore.

[00:09:50] It did for patriotic reasons during World War II. The moment the war is over, the public will not tolerate it. So they’re just immediately developed all sorts of expedience not to pay at those rates. Now, Congress could have just cut the tax rates. It did do that. Revenue Acts of 1945 and 1948 were very substantial cuts in tax rates but the main mechanism that Congress provided was they kept the rate structure and then introduced an absolute slew of legal tax avoidance opportunities. They took one of two general forms, either explicit deductions from income that you reported to the IRS or large categories of income that didn’t even have to be reported to the IRS.

[00:10:30] Joe Selvaggi: So, all right, and adjacent to this article or this, relationship between rates or lack of relationship between rates and revenue collected was also the assertion, again, those people who are nostalgic for higher rates, They assert that the income inequality, which seems to be the buzzword of policymakers these days, that income inequality is bad, and that high tax rates are effectively brought tax, the highest earners and the lowest earners closer together.

[00:10:59] Is it the fact that they were actually, the revenue was, their income was going to taxes or was it going somewhere else? In other words, was it that their income was being taken away or rather their income was being less likely to be reported? 

[00:11:12] Brian Domitrovic: Yeah, I don’t think the income inequality literature from the left tells us that at all, anything about the question you just posed, because the income inequality literature, Piketty, Zuckman, Saez, Sancheva, all those people, they, they all talk about pre-tax income.

[00:11:27] that’s their bread and butter. That’s their main measure, pre-tax income. So that tells us nothing about what taxes are paid. So we adopt all of their data with some of the adjustments from Phil Magnus and everyone else. But what we say is, well, if you look at pre-tax income, when tax rates are high, of course, it’s going to plummet.

[00:11:46] I mean, if the, if you have a progressive tax system and tax rates are, go from 7 to 91%, the rich are going to report way less income under a high tax regime. As the cost of reporting income goes up, You produce less of it. As the costs of reporting income go down, you produce more of it. What does that tell us about real income?

[00:12:05] Nothing. But it does tell us about reported income. So pre-tax reported income in high tax eras, as all economic relationships would indicate, goes way down. But that leaves open the question of what real income is. And the deduction culture of the 1950s and 60s indicates that real income was still quite gigantic.

[00:12:24] Joe Selvaggi: So, again, I want to drill down a little bit more on this, so we say, okay, if income gets taxed and therefore we want to have less income, executives, and professionals want to get compensated, so, we, we’ve got a culture where if you report as income, the government takes it away, if you give it in some other form, it doesn’t take it away, you, you compared it essentially to like, in your article or in your piece, recent piece, that we had a culture that evolved around this sort of tax avoidance, almost like the iconic, Madman, culture, or the three-martini lunch at the Fabulous Club, all as a sort of response to taxing income.

[00:12:59] This was a way to circumvent that income tax by compensating people in different ways. Say more about that. 

[00:13:05] Brian Domitrovic: Sure. Yeah, Joe, you know from my article, you are, running a risk here and having me sing to you because I was quoting songs. We talk about this golden era of income inequality. Well, one of the pop hits of that time, Steve Allen, Steve Lawrence, and Edie Gourmet’s song, This Could Be the Start of Something, written by Steve Allen of Tonight Show fame. It’s good pop music. You rarely see a song so extolling of the elites and not the little guy. The song, This Could Be the Start of Something Big, talks about how you’re dining at Sardi’s, and you’re lunching at 21, you’re up in an airplane, or lying in Malibu. These are all rich people’s endeavors.

[00:13:45] And this is a popular song that was on the Billboard charts. So what’s this about, this is a golden era of income inequality. These are young, affluent people celebrating being just that, and there’s a line in that song that says while doing your income tax or buying a toothbrush, just indicating that the kind of up and coming, rising people, number one, were celebrating how high on the hog they were living, and when they were dining at Sardi’s or lunching at 21, declining a Charlotte Russe dessert, they were all totting that up on the deduction tableau. Virtually all business consumption, including lunch, three martinis, lunch, everything. We put it in the book, Tom Wolfe’s descriptions of the Midtown Manhattan lunches in the 50s and early 60s from 12:30 to 3pm, right? As he says, they were like something out of a dream. You really need to know French in order to pronounce everything they were ordering.

[00:14:40] It’s not just that these things were all deductible as intermediate expenses because they’re business expenses. They’re deductible against a 91 percent tax rate. Okay, that’s very valuable. You’d have to pay them with your four, with your nine bucks if it weren’t deductible. No, it’s deductible.

[00:14:56] You don’t have to pay taxes on that expenditure. It’s more than that. It’s that those expenses were also, furthermore, deductible from the corporate tax return, which meant that the government was picking up half the bill, because the corporate rate was 52%. So there was a double deduction. And I think income inequality misses this stuff, literature misses this stuff completely.

[00:15:17] We have the quotation in the piece that I wrote from Piketty, Saez, and Stancheva saying that all this stuff is anecdotal. We have anecdotal evidence of deductions in 1960, and the anecdotal evidence says they were small. Well, what I argue is that statement on the part of Stancheva is itself sufficient to show that those economists have not studied this era.

[00:15:39] If you look at circa 1960 tax culture and say, all we have is anecdotal evidence, you haven’t even begun to look at that period. Because the evidence is essentially Mount Everest of how much the tax deduction culture was in 1960. You can’t look at that period without getting overwhelmed, white out overwhelmed, with tax deductions.

[00:15:59] So if they just say, hey, we haven’t really picked up any evidence of tax deduction of the periods, it’s tantamount to saying they haven’t even studied the period. So I just throw out all of their literature. They just haven’t studied it. 

[00:16:09] Joe Selvaggi: Indeed. So again, we could talk about the lavish lunches, but also I think a legacy of high tax rates, or you, actually, I guess it was, income control, we, employers compensated, employees with health insurance, being tied to, their wage, meaning they could give them lavish health plans rather than taxed income.

[00:16:28] I think we still live without the distortions of employee-based income control. Health insurance to this day, would you characterize that as a sort of a legacy of a high tax regime? 

[00:16:38] Brian Domitrovic: Yeah, the health insurance came about specifically in World War II when wages were under control, so unions, workers weren’t allowed to ask for, weren’t allowed to get higher wages in World War II because of wage-price controls.

[00:16:49] And so unions came up with the idea of income benefits that were not technically wages. And so workers during World War II took their raises in the form of health insurance benefits at that time, as opposed to increases in wages. And then this became because they were so valuable against the tax code, they were deductible against health insurance benefits are deductible.

[00:17:09] Employee compensation is deductible to the corporation. So that means deductible against a 52 percent corporate rate. The government pays half the bill. And they’re untaxable to the recipient. So in other words, there’s the double tax deduction again. So you see this proliferation, and that’s just one. pensions were actually, an even greater example in that both the contributions and the lump sum distributions were We’re tax free.

[00:17:33] So that was gigantic. We have a similar to today in the 401k world. It’s funny how retirement savings can’t get out of the deduction trap. When you have high tax rates, you always have these kind of retirement plans. Cash value life insurance was the same thing in the 50s. It was the equivalent of a 401k.

[00:17:51] So we don’t have cash value life insurance anymore because we have 401k, but your contributions were all taxable. tax deductible, your appreciation was not taxed, and then when you received the lump sum, it was not taxed. So, this ends up amounting to, 20 percent of GDP in total. And so the idea that we look at pre-tax income and come up with income inequality charges is just a losing enterprise.

[00:18:13] Joe Selvaggi: Right. And then, of course, what it does is generate this sort of spy versus spy where the government tries to tax and business tries to frustrate that attempt and comes up with creative alternatives, probably hand in glove with the cooperation of legislators who they may have influence over.

[00:18:27] Brian Domitrovic: So, that point. Since I conceded post-war prosperity, I’m not even going to concede the government tried to tax it. There has to be a certain minimum of effort that proves that you’re trying. And, if the tax rates are 20 to 91 percent and 52 percent and you’re collecting 16, you’re not trying.

[00:18:45] So, and that’s consistent with post-war prosperity. If the government tried at all to collect on those tax rates, there would not have been post-war prosperity. 

[00:18:53] Joe Selvaggi: Let’s shift our argument from, let’s say, a historical perspective to just a common, understanding of taxes. Again, you as an expert in taxation and the history of taxation, the spirit of taxation, I think, for many of our listeners would be, at the end of the day, we have prosperous, high-earning, Americans and, let’s say, less fortunate Americans.

[00:19:11] The idea that taxation might also serve the purpose of not just paying for wars, but Redistributive, right? We want to, in a sense, like Robin Hood, take from the rich and give to the poor in some fair, agreeable way. You, particularly in the book you wrote with Dr. Art Laffer, suggest that when we try to redistribute wealth, that is take money from the wealthy and give it to the needy, we have a double effect of, in a sense, discouraging production.

[00:19:40] On those we tax and discourage production on those we give benefits to. Elaborate a little bit on how this, noble effort to redistribute wealth might get frustrated by reality. 

[00:19:52] Brian Domitrovic: Yeah, Arthur Laffer talks about this, the so-called transfer problem, which he learned at the feet of Robert 60s.

[00:19:58] And it comes from the Slutsky equation. I will add just preliminarily, I don’t consider it a noble effort whatsoever. I consider it nefarious. it’s, very clear that rich people in American history, 19th century, whatever industrial revolution, when they’re not taxed, they do things like create millions of jobs.

[00:20:16] So that’s like an immense benefit to the lower classes. so if you throw sand in those gears, you’re not doing, you’re not doing any kind of noble work, but, by raising taxes on the rich, you’re just going to diminish job creation and opportunity and production. So yeah, Arthur Labrador’s argument is, well, if you impose a tax to distribute, in welfare, well, the tax on the producers leads them to produce less.

[00:20:40] And then when you give stuff, Give resources away in welfare. Those, recipients don’t want to work because they just receive money. Robert Mundell outlined this argument very famously in the 1960s. One of the reasons he won the Nobel Prize. So, in technical economics jargon, the substitution effects accumulate.

[00:21:01] These are not counteracting forces. They’re both bad. It’s a double negative. If you tax the rich and give to the poor, the rich produce less, the poor produce less. There’s less overall output. The economy gets worse. 

[00:21:13] Joe Selvaggi: Yeah, it seems counterintuitive to think that progressive tax rates, again, I just share with my friends, just over a beer one time, you think, okay, we have wage rules that require you to pay time and a half overtime, which is to say, if you’re asked to work more than your 40 hours, you better compensate me a lot.

[00:21:34] 150% of my wage for that 41st hour, I need to be paid more to work more. Progressive tax logic seems to work in the opposite, that the more you work, the more money you earn, the less you keep. It does seem to be, if not explicitly, it will have the effect of discouraging the next marginal, propensity to produce.

[00:21:54] Is it that simple? 

[00:21:55] Brian Domitrovic: It is that simple. Now, what we know now from the high tax rate era, however, is what the subject of our talk today, or our podcast, is. Is that, yes, high tax rates will be very discouraging of production from the most productive people. That’s the interesting thing. Like, the top 1 percent is by definition the most productive because every time they do something, they make a ton of money.

[00:22:15] So if we did have high tax rates in the 50s and 60s or whenever. we wouldn’t have had post-war prosperity because there must have been some secret. You can’t have a 91 percent tax rate and the economy actually being productive. So, therefore, we didn’t have a 91 percent tax rate. And sure enough, we did not, because you look at the federal tax rate at 16%.

[00:22:33] So everything about our history, including the high tax era, shows resoundingly that high tax rates that are de facto correct, real, will kill the economy. 

[00:22:46] Joe Selvaggi: Well, this is a great segue for me to just introduce an idea that we could spend, again, a whole separate podcast about is, the infamous, and I hope for our listeners they’re familiar with the idea of the Laffer Curve, and we’re talking around this idea, which is to say, the government needs money and wants to impose some, a level of tax.

[00:23:02] As it raises taxes, it gets more money from a tax base, but at some point, The tax is large enough that it changes the behavior of the tax base. In other words, you and I are talking about the high tax rates, in the 50s and 60s that cause people to compensate their employees differently, and not in the form of income, in the form of something else.

[00:23:22] So, there’s always a reaction, perhaps an unintended reaction, as tax rates increase. The total revenue coming to the government seems to decrease gradually and then ultimately reverse. Share with our listeners from a historical economist perspective, why does the Laffer Curve obtain, let’s say, in the 50s, 60s, and perhaps even today?

[00:23:43] Brian Domitrovic: Sure, yeah, Laffer Curve, Arthur Laffer probably first drew it on a napkin, famously, on, updated as December 6th, 1974, the long-term, bottom of the Dow Transdestrial Average, as it turns out, to the second. and yeah, he says that it’s a simple relationship, says, when you increase tax rates, revenue increases to a certain point, and then as you increase tax rates, revenue goes down.

[00:24:06] Same thing with tax cuts. You can cut taxes and increase revenues, and then cut taxes and lower revenues. And there’s a normal relationship when things respond as you would expect. Thank you. Raise taxes, increase revenue, lower taxes, less revenue. That’s the normal section of the curve. And the prohibitive range is when you get the opposite effects.

[00:24:25] Yeah, we knew this in the 50s and 60s. when you had tax rates lowered from 91 to 70 percent as John F. Kennedy took care of in 1964. the rates that are Revenue from the top earners, from those earning over 100,000, say a million dollars today, in today’s terms, the revenues from that cohort just soared.

[00:24:46] So, yeah, whenever you made the, whenever you lowered the statutory tax rates when they were very high, you found out immediately that we had been in the prohibitive range. Same thing with Ronald Reagan. Ronald Reagan walked into the office and cut the marginal tax rate from 70 to 50 percent and all of a sudden revenue from the top, that’s a tippy top cohort, just goes way up.

[00:25:06] So yeah, that’s the Laffer curve and it’s, it’s been proven time and again. 

[00:25:09] Joe Selvaggi: Would this, logic,pertain to even, let’s say, state, income tax? I’m here in Massachusetts. we have, a flat 5%, until very recently we imposed a, what they call a millionaire’s tax, a, surcharge on income over a million dollars of 4%.

[00:25:21] Yeah. I can see, and we made the argument on this podcast that such, tax rates would encourage high earners to leave or change their behavior such that they don’t pay that tax. How is it that would even apply in the U. S.? if we could take a serious effort to reduce all these creative ways of avoiding income tax, that is, get rid of all these deductions, and actually impose a higher tax, what choice would Americans have other than to pay it?

[00:25:45] What are they going to do about it? 

[00:25:48] Brian Domitrovic: Yeah, if you don’t mind, I’m going to take the opportunity to talk about what’s going on in Massachusetts. I think Massachusetts is over. I think that the income tax surcharge will kill it. I noticed that I never travel to Massachusetts anymore. I’m always invited.

[00:26:04] I always travel to Texas, to Florida. Places with no income tax. That’s just, a kind of natural movement of capital. I think Massachusetts has completely misunderstood what has been responsible for its prosperity for the last 50 years. It is almost exclusively due to Proposition 2.5, which limited property tax growth to 2.5 percent as of 1980. So, property owned in Massachusetts has just been a wonderful investment. It enabled the state to cut its income tax rates in the 80s and 90s. And that’s why we had a Massachusetts miracle. It’s why we had a Dukakis candidacy, all that stuff. If Massachusetts doesn’t understand that and raises its, or doubles its marginal income tax, there is no chance it will ever attract capital again.

[00:26:47] I don’t care about Harvard, I don’t care about the Athens of America, I don’t care about its high-tech tradition, I don’t care about Yankee ingenuity. There will be a complete capital departure from Massachusetts, and I think it’s starting right now. Why can’t the government just impose tax rates?

[00:27:01] Well, there’s no record that it can’t. So, when it imposed 20 91 percent tax rates, what happened? Nobody paid them. when it imposed a 52 percent corporate tax rate, what happened? Nobody paid for it. So, there’s no evidence that high tax rates ever collected, ever are effective. So, I don’t have any problem saying that there’s no reason to explain it.

[00:27:20] It just never works. 

[00:27:22] Joe Selvaggi: Yes, indeed. Again, like, I think we somehow intuitively understand that. But, of course, there are those who would say our progressive, intuition here in Massachusetts is because we’re wealthy and educated. I think that gets the causation backward, where you’re 

[00:27:37] Brian Domitrovic: Yes.

[00:27:38] Wealthy and educated, with Proposition 2. 5. Without Proposition 2. 5, wealthy and educated, would have resulted in zero in negative economic growth since 1980. 

[00:27:46] Joe Selvaggi: All right, let’s let me get back to this idea that tax rates equals tax revenue. It seems that, at least, as you mentioned, people, our progressive friends say, the way to raise revenue is to increase taxes.

[00:27:59] From a historical perspective, what you’re saying is Higher tax rates rarely, if ever, lead to more revenue and in fact, over time, particularly with the right to vote with their feet, someplace like Massachusetts, ultimately, as more and more people leave, or as you suggest, fewer and fewer people come with their dollars and investment dollars, ultimately, higher taxes may result, or inevitably will result, in lower net revenue. Is that what I’m saying? 

[00:28:27] Brian Domitrovic: We don’t have to look, just look at anywhere where there’s tax increases, permanent tax rate increases, and they immediately become long-term bust areas. I’m going to list the following states that started from scratch in income tax between 1960 and 1990.

[00:28:45] New Jersey, Pennsylvania, Michigan, West Virginia, Ohio, Indiana, Illinois. yeah, you just said, right, you just named the Rust Belt. Yeah, I did. Those are the states that started an income tax in the 60s and 70s. Right, so investments, investors just said goodbye. And because investors say goodbye, there are no more jobs, and that’s the Rust Belt.

[00:29:04] Since then, all those states have increased their property taxes big time because their income tax not only failed to produce revenue, it also drove away all the business. So, yeah, just, that’s just the story of, taxation. If you want to have high taxes, people won’t live there. And the idea that the government can outsmart people on taxes is ludicrous.

[00:29:21] People deal with their own personal circumstances as a natural matter of course. They’re the master of that domain. You impose a tax on it, they’ll just master it because they’re in charge of their own affairs. Yeah, there are no examples of successful tax increases. 

[00:29:38] Joe Selvaggi: And I think something that, I’ll call it reading between the lines.

[00:29:41] In the process of avoiding taxes, which is natural, I think all of our listeners try to minimize their taxes. I don’t say they would try to cheat on their taxes, but rather tax minimization is a normal thing we all, I hope, consider. all these schemes, whether it’s at a firm level or an individual level, if I choose to pick up, pull up stakes, and move to Florida, that’s very, cumbersome and disruptive to my life, but I might do it if I’m earning enough.

[00:30:07] But doesn’t that also, reading between the lines, Doesn’t that also have a negative effect? If I’m spending my life, because taxes are so high, trying to avoid taxes, I’m making choices that are not good for me to maximize revenue, or good for my business to maximize, productivity, but rather, minimizing taxes is fundamentally, or the attempt to minimize taxes is fundamentally counterproductive.

[00:30:27] You’re minimizing tax payment. You’re not minimizing, you’re not optimizing production 

[00:30:33] Brian Domitrovic: output, right? Absolutely.  Just the ascertainable costs of income tax compliance are at least half a trillion dollars a year. And those are the actual ascertainable costs, like how much you have to pay accountants and all that stuff.

[00:30:48] But in terms of substituted behavior and deadweight losses in terms of wasting time doing this stuff, it’s incalculable. So, yeah, if you have an aggressive tax administration. You couple that with native human ingenuity to pursue legal tax avoidance and even illegal tax evasion, you’re just going to have deadweight losses galore.

[00:31:10] So, that’s why I say when I look at the 50s And I see, post-war prosperity. I know the federal government has no vigor in enforcing those tax rates because if it did try to match those tax rates with vigorous collection, the economy would have collapsed. 

[00:31:25] Joe Selvaggi: Indeed, and of course, it would have collapsed, but instead it incentivizes some, I would say not necessarily productive activities.

[00:31:32] In other words, yes, uh, the economy thrived because there wasn’t really a high effective tax rate, but so did lunch clubs and martini makers. they thrived, but that’s not, that didn’t contribute to efficiency. Once those, the tax rates came down, I think that I don’t know if it was in your book or in something else I read by you that said, once we took tax rates down to, let’s say, normal levels or reasonable levels, people stopped getting expense accounts, and the madman three martini lunch went away, and everybody got a ham sandwich and a Sprite for lunch.

[00:32:02] So all the, let’s say, negative, or counterproductive activities, like three martini’s lunch, went away, and effectively, lower tax rates generated more efficient business behavior. Is that a 

[00:32:13] Brian Domitrovic: question? Yeah, you got that from us. We were quoting Tom Wolfe’s famous piece in Esquire about the founding of Intel for that.

[00:32:19] The lunch sandwiches and Sprite on a sawhorse in Silicon Valley instead of, yeah, that’s Tom Wolfe again. So, yeah, no, there’s a deadweight loss. There’s no question about it. But when there really is no enforcement of the paper rates, the amount of the deadweight loss is small.

[00:32:34] but I do think this point is absolutely essential for understanding the dynamics of modern American economic history. This whole thing about a corporate job and a job for life were all in-kind forms of compensation because the tax rates taxed cash compensation. So when you worked in a fancy lab or a corporate park or had art on the wall in your office, All those things of the mid-century, those were forms of compensation that were not taxed to the recipient and were tax deductible against a 52 percent rate to the employer.

[00:33:06] When tax rates went down in the 1980s, you had those massive corporate layoffs. you’re talking, things like Motorola was laying off 10,000 people a year in the early 1980s, in the 1980s, Goodyear, all these companies. you just have incredible corporate layoffs. And yet there’s 18 million job growth in the 1980s.

[00:33:23] 40 million from 1980 to 1990, even as the Fortune 500 just sheds employees like crazy. Yeah, because when you lower the corporate rate from 52 to 34, and you lower the marginal rate from 91 to 28, You just completely change the fundamental structure of how business is organized towards entrepreneurialism and, non-write-offs.

[00:33:43] Yeah, that’s a more efficient way, but you had this wrenching 20 years in which you had to make the transition. And the shame of the 2000s is that we never then just glided into smooth growth. We had nonmarginal tax cuts under George W. Bush, which were bad. And then, Obama just consolidated the George W. Bush tax structure. So, we should have had a 21st century of just extraordinary economic growth. 

[00:34:07] Joe Selvaggi: So, we’re getting close to the end of our time together, so I don’t like to have a show all about criticism, you’re a historian, but I suspect you, you do have an inclination towards looking to the future, I don’t think that’s a betrayal of your expertise.

[00:34:19] Given what you know about the future and the relationship between, say, tax rates and productivity and the well-being of everyone, rich and poor, what would you imagine as, let’s say, an optimal, tax structure whereby we encourage Rich and poor to go to work and be productive. we want to have, an efficient, productive, prosperous economy.

[00:34:40] What kind of a tax structure, based on your view of history, cultivates the optimal level of prosperity? 

[00:34:46] Brian Domitrovic: yeah, if the tax take is 17%, when it’s 17 percent or 13 percent as Arthur Laffer says, flat tax rate, and then you would have no deductions and you just have the most efficient system.

[00:34:57] So, practically, that’s probably what I’d say. But ultimately, I’d say this. If the American economy and currency are leading the world, the United States has no grounds for having a tax system whatsoever. 

[00:35:08] Joe Selvaggi: Interesting. That’s quite a bold assertion at the end of a show. That would be a different podcast and maybe I’ll circle back with you.

[00:35:16] Thank you very much for joining today. Where can our, you sent me along, your website, which is a collection of your essays, and a link to your book. Where can our listeners learn more about your work? The work of the Laffer Institute, is it? Laffer Center. The Laffer Center. Where can, if we’ve, piqued their interest, whet their appetite for supply-side economics, where can our listeners, read more about it?

[00:35:38] Brian Domitrovic: Yeah, so the Laffer Center. org is our website here at the Laffer Center, and I have my own personal website called, and supply-side economics was first called global monetarism back in the 70s, so that’s why I use that term. 

[00:35:51] Joe Selvaggi: Well, good. I’m good. I’ve learned a lot today, and I’m going to continue to dig into Your work, past and present, I’m fascinated by all of it.

[00:35:58] I really appreciate your time joining me today on the podcast, in this week of taxes, where it’s top of mind for everyone. I appreciate you joining me today. Thanks, Joe. It was great. This has been another episode of Hubwonk. If you enjoyed today’s show, there are several ways to support Hubwonk and Pioneer Institute.

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Joe Selvaggi talks with economic scholar Dr. Brian Domitrovic about the history of federal tax policy and the reasons for why varied marginal rates fail to correlate with either tax revenue or GDP growth.


Brian Domitrovic is the Richard S. Strong Scholar at the Laffer Center in Nashville. He is the author or editor of six books, including “Taxes Have Consequences” (with Arthur Laffer and Jeanne Sinquefield), “The Emergence of Arthur Laffer” (2021), “JFK and the Reagan Revolution” (with Lawrence Kudlow, 2016), and “Econoclasts” (2009). He has been professor of history at Sam Houston State University in Texas and the Visiting Scholar in Conservative Thought at the University of Colorado Boulder. He holds a PhD in history from Harvard.