Justifying tax cuts for the rich?

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The Australian Government recently delivered the budget for the 2006/07 financial year. It caused a bit of a ruckus because the tax cuts were aimed primarily at high-income earners. This week I received an email defending those tax cuts. It surprised me. I wasn’t surprised that people are greedy but I was surprised at the lengths they will go to in order to justify it. People are going to see this email so you might as well see it here with some perspective. Honestly, it’s a well written story but it’s just not as simple as the email makes out:

Emotive introduction

At last, a proper explanation for the whingers that believe the wealthier are ‘given’ too much… Here is the REAL story to lighten the Budget discussion! You’ve heard the cry from across Australian the last couple of weeks: “It’s just a tax cut for the rich!” - and then it’s accepted as fact. But what does that statement really mean? The following explanation may help.

Catchy supporting story

Attributed to Prof. David R. Kamerschen, Professor of Economics at the University of NSW.

Suppose that every night, ten men go out for dinner at La Porchetta’s. The bill for all ten comes to \$100. They decide to pay their bill the way we pay our taxes, and it goes like this:

  • The first four men (the poorest) paid nothing
  • The fifth paid $1
  • The sixth $3
  • The seventh $7
  • The eighth $12
  • The ninth $18
  • The tenth man (the richest) paid $59

All 10 are quite happy with the arrangement, until one day, the owner says:

“Since you are all such good customers, I’m going to reduce the cost of your daily meal by $20.”

So now their dinner for ten only costs $80.

The group still decides to pay their bill the way we pay our taxes.

The first four men are unaffected. They will still eat for free.

But how should the other six, the paying customers, divvy up the $20 windfall so that everyone would get his “fair share”?

They realise that $20 divided by six is $3.33. But if they subtract that from everybody’s share, then the fifth and sixth men would each end up being paid to eat. The restaurateur suggests reducing each man’s bill by roughly the same percentage, thus:

  • The fifth man pays nothing (like the first four) instead of $1 (100% saving)
  • The sixth pays $2 instead of $3 (33% saving)
  • The seventh pays $5 instead of $7 (28% saving)
  • The eighth pays $9 instead of $12 (25% saving)
  • The ninth pays $14 instead of $18 (22% saving)
  • The tenth pays $49 instead of $59 (16% saving)

Each of the six are better off, and the first four continue to eat for free, as now does the fifth - but outside the restaurant, the men began to compare their savings.

“I only got a dollar out of the $20,” declared the sixth man. He pointed to the tenth man “but he got $10!”

“That’s right,” exclaimed the fifth man. “I only saved a dollar too. It’s unfair that he got ten times more than me!”

“That’s true!” shouted the seventh man. “Why should he get $10 back when I got only $2? The wealthy get all the breaks!”

“Wait a minute,” yelled the first four men in unison. “We didn’t get anything at all. The system exploits the poor!”

The nine men then surrounded the tenth and beat him up.

The next night the tenth man didn’t show up for dinner. The nine sat down and ate without him, but when they came to pay the bill, they discovered that they didn’t have enough money between all of them to meet even half of the bill!

That, boys and girls, journalists and college professors, is how our tax system works. The people who pay the highest taxes get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy, and they just may not show up at the table anymore.

There are lots of good restaurants in Monaco and the Caribbean

My perspective

While it’s a cute story, the problem is that I can’t remember the last time I saw 4 low-income earners regularly eating out at a restaurant. Most of them have their hands full just coping with rent, basic food and childcare. Forcing a high-income earner into a “tight-spot” where they can only upgrade their late model car every 2.1 years instead of every 2 years just doesn’t weigh heavily on my social conscience.

I’ve been at both ends of the tax spectrum. This “whinger” still reckons reducing the rate for the top 2 tax brackets doesn’t help those who really need it most… target the bottom brackets and then some low-income earners might make it to La Porchetta’s once a year for a treat… perhaps.

I hope you’ll remember the other perspective the next time there’s mention of tax cuts for high-income earners.