Taxes Matter 5 – The Economics And Mindset Of The Rich

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Being rich often stems from finding your personal area of genius. Being rich involves finding the vocation where your productivity is most valued by society. High marginal tax rates encourage us to forget about finding our place in the cosmos and mow the grass instead.

Consider a situation where you are paid $256 for working an 8-hour day. But instead of being paid $32 an hour, you are paid half your remaining salary for each hour you work. So during the day you are paid $128 for the first hour, $64 for the second hour, $32 for the third hour, and $16 for the fourth hour.

By lunchtime you have earned $240 for four hours of work.

After lunch you earn $8 for the fifth hour, $4 for the sixth hour, $2 for the seventh hour, and $1 for the eighth hour. Your afternoon’s work has earned you $15.

Assume that your work is worth well over the $128 you are paid for the first hour, but you are not allowed to keep what you have earned. The more you work each day, the greater the percentage that is taken in taxes. Now consider your decision-making.

Given this steep and progressive tax system, would you bother to work in the afternoon? Would you even bother to work beyond the first hour? Would you work the evening shift to try to earn the last missing dollar?

This is the decision making process at the upper end of the Laffer Curve.

You yourself engage in this decision making process every day. After your regular employment, you could moonlight at a fast food restaurant, but you choose not to. The extra money is not worth the marginal inconvenience of the time required after working an eight-hour day. This is why employers have to offer time and a half for over-time.

Using that same principle, our tax system should offer special incentives for the rich to earn even more. Instead of time and a half for over-time, perhaps we could reduce the tax rate on income over $250,000. As crazy as a regressive tax rate sounds, it would benefit the poor and middle class as well.

When the rich are making decisions at the upper end of the Laffer Curve, they are not primarily trying to decide if they are going to work additional hours. They are trying to decide if it is worth the expense and risk of expanding their business or starting a new industry.

If they decide the reward is worth the risk, they purchase many goods and equipment from other industries. They hire many employees to whom they pay wages. If taxes or regulations reduce their expected margin of profit, they will determine it isn’t worth the risk and many other economic industries and workers will suffer.

Small business owners are the backbone of the American economy. If you are a salaried employee, your livelihood and wages may depend on the decisions of small business owners, but the economic impact as a result of your decision is much smaller. If you work for the government or an organization that is subsidized by the government, you are part of the economic burden of the Laffer Curve, not part of the solution.

Much of the animosity toward the rich stems from a moral disdain for the ostentatious lifestyle we associate with the rich. They drive in limousines, they hire butlers and gardeners and chefs, and they live without the cares and burdens of life that the rest of us seem to have.

But many of these lifestyle choices are in the best interest of all of society.

Consider again our worker earning $128 an hour. They are doing something that is valued by society at $128 an hour. Their work is so valuable, that they should not perform tasks that could be performed by other members of society.

If they hire a chauffer to drive them to and from work each day in a limousine so that they can be productive, society gains. If they hire a gardener so that they can continue contributing in their area of expertise, society gains. If they hire a butler or a chef, so long as they employ someone else for less than $128 an hour, society gains.

Even aside from issues of productivity, no matter what the rich do with their money, it benefits society. They can spend it and create jobs, they can invest it and finance new companies, they can put it in the bank and provide capital at lower interest rates, and they can give their money away to charitable causes. Only the government can truly engage in negative productivity and still remain in business.

What doesn’t benefit society is taxing the additional hours of the rich until they are earning only $1 for their last hour of work. At that wage, society loses not only the productive labor that is worth $125, but the resulting ancillary employment.

With a high marginal tax rate, our “rich” worker will quit at noon and forgo the last $15 of wages. They will fire the chauffer, gardener, butler, and chef. They will perform these tasks themselves and society will be poorer as a result.

Encourage the rich to be rich or else suffer the consequences of striving toward making us all equally destitute.

Photo by Aziz Acharki on Unsplash

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David John Marotta is the Founder and President of Marotta Wealth Management. He played for the State Department chess team at age 11, graduated from Stanford, taught Computer and Information Science, and still loves math and strategy games. In addition to his financial writing, David is a co-author of The Haunting of Bob Cratchit.