The Remarkably Stable Amount of Federal Revenue as a Percentage of GDP

TaxProf Blog points to a Wall Street Journal piece by W. Kurt Hauser showing a hard fact that has yet to sink in on most budget-balancers: Since World War II, federal revenue as a percentage of GDP hasn't budged much from a bit shy of 19 percent. Regardless of tax rates and what have you, that's the amount the feds have been able to collect. Writes Hauser (of Stanford and The Hoover Institution):

Over this period there have been more than 30 major changes in the tax code including personal income tax rates, corporate tax rates, capital gains taxes, dividend taxes, investment tax credits, depreciation schedules, Social Security taxes, and the number of tax brackets among others. Yet during this period, federal government tax collections as a share of GDP have moved within a narrow band of just under 19% of GDP.

Why? Higher taxes discourage the "animal spirits" of entrepreneurship. When tax rates are raised, taxpayers are encouraged to shift, hide and underreport income. Taxpayers divert their effort from pro-growth productive investments to seeking tax shelters, tax havens and tax exempt investments. This behavior tends to dampen economic growth and job creation. Lower taxes increase the incentives to work, produce, save and invest, thereby encouraging capital formation and jobs. Taxpayers have less incentive to shelter and shift income. 

Whole WSJ piece here.

The folks at American Thinker have made a picture of the top marginal rate vs. total revenue. Here's what it looks like:

This has real and obvious implications for all plans to balance the federal budget and reduce debt load, including the co-chairs' draft proposal from President Obama's National Commission on Fiscal Responsibility and Reform (which brags about getting spending down "eventually to 21%" of GDP, thus locking in deficit spending).

Any budget plan based on revenue being better than 19 percent of GDP is just blowing smoke.

Hat tip: Reason columnist and Mercatus Center economist Veronique de Rugy.

Comments

[Max]

More proof that libertarianism is true, true, true. And we aren't cherry picking evidence. Please make a donation today.

[Max]

ARFARFARFARFARFARFARF!!!

[Episiarch]

Do you do anything other than monitor H&R, Edward? Anything?

[pmains]

This puts another spin on the much-maligned Laffer curve. Why would WWII be the turning point, though? I wonder if there are any periods of similar stability prior to WWII, or if this sort of trend holds in other countries.

[R C Dean]

WWII is when the federal demand on the nation's resources ramped up to hit what appears to be the cap.

[Abdul]

I was thinking the same thing when I saw that big drop in marginal tax rate from 1980-90 while revenues held steady.

It's like the Gipper said "Once it started working, they stopped calling it 'Reaganomics.'"

[BakedPenguin]

Beat me to it. The Laff's on the "eat-the-rich" douchebags.

[robc]

The Laffer curve may be much maligned, but it is obvious fact.

At 0 andd 100% the revenue is zero, or close enough for government work. If the function is continuous, and arguments from Neu notwithstanding, it is, then there must be a maximum (or a minimum, but I think we can safely assume revenue is positive).

[Brett L]

I think the fight has always been about where the maximum lies. Even economist PhDs have to learn the Fundamental Theorum of Calculus, right?

[NAL]

What the graph shows is that the Laffer curve must be very flat, which shows that to maximize both revenue and economic growth one should find the lowest tax rate for which you can get 19% as revenue. A first guess would be that the top tax rate should be 19%

[robc]

See my reference to Neu. He, based on some economist, argued that is wasnt a continuous function and was in fact chaotic. To which I called bullshit.

FTC wouldnt apply in that case.

[Brett L]

Right. Sorry, I thought I was reading the greek letter, and had forgotten some standard distribution coefficient.

[Legate Damar]

Having your goal scenario still result in a deficit may seem bad to you, but if we could get 10% of our federally-spent money from bonds rather than the 40% we're at now, I'd consider that to be significant progress.

[MJ LeGalization]

Any budget plan based on revenue being better than 19 percent of GDP is just blowing smoke.

Right.

[I Like Simple Things]

That colorful chart is nice, but to really make an impact you need an opinion poll.

[P Brooks]

When tax rates are raised, taxpayers are encouraged to shift, hide and underreport income. Taxpayers divert their effort from pro-growth productive investments to seeking tax shelters, tax havens and tax exempt investments.

But- that's society's money; how dare those moneygrubbing leeches try to cling to it?

Da noive o' dem guys!

[robc]

Ive said this before: Any budget "compromise" needs to be at 18% of GDP. I know we all want lower, but if we could get that, I really dont give a damn how its spent.

Well, I do, but you know what I mean. We cap spending of 18% of GDP and the fights over what it should be spent on just become fun.

[Kroneborge]

Shit I'd be happy if they could settle at 19.

[mdb]

I would like to see data that incorporates tax brackets with tax rates. If only 0.1% of income was subject to 90% tax rates (due to brackets), what effect would changing the top tax bracket to include more income at a lower rate have? My guess is no much effect on revenue. I always want to brackets included in these types analyses, I never do though.

[robc]

lower and middle class have had significant tax increases over the time frame due to changes in FICA rates.

[NAL]

...and the Bush tax cuts in 2001 cut the lowest tax bracket from 15% to 10% (which nearly everyone's income either reaches or goes through) which is a huge 33.3% reduction. Then there was the doubling of the child tax credit, the reduction of the 28% bracket to 25%, the elimination of the marriage penalty for middle-class incomes, etc.

Contrary to what you hear from the other side, the Bush tax cuts benefitted the lower- and middle class tremendously.

[robc]

I dont think 15->10 offsets FICA change from a few percent to 15.3.

It did benefit lower and middle.

My point was that there have been enough changes beyond just the top that has held the 19% constant.

[R C Dean]

We cap spending of 18% of GDP and the fights over what it should be spent on subterfuge over how spending carries on above that level just become fun depressing.

Our political class, political system, and political culture are broken. Only traumatic shock can sweep aside what is broken and replace it with something new, which may or may not be better.

There will be no observed agreement on capping spending unless and until this traumatic shock occurs, the current political class is driven from public life, the political system is reformed, and a new culture of self-reliance emerges.

[robc]

Damn it RC, let me be positive for a change.

Yeah, wishful thinking.

[Bingo]

Yup, incrementalism isn't going to do it. Here's hoping the traumatic shock isn't too traumatic.

[Episiarch]

The current political class will do everything in its (considerable) power to forestall this. They will do anything necessary to push off the pain onto future politicians/generations.

In other words, they will fight what you describe tooth and nail, with the knowledge that they don't have to win--just delay. I doubt they will fail.

[R C Dean]

The typically egotistical error they are making is in believing that the shock will be purely internal and electoral and thus subject to their control.

I don't think it will be. The shock will be global/financial/economic, completely beyond their control. And I don't think it can be put off all that long. All the Western currencies are doomed, IMO. The wealth destruction and resetting of the world economy that will occur when they finally collapse is not something that can be papered over with hearings about steroid abuse in baseball.

[R C Dean]

Look at it this way: This country basically lives from one Treasury auction to the next. We are one failed Treasury auction away from a contagious financial lockup and meltdown.

[Socrates]

Sadly, RC Dean, I think you're right. Historical evidence shows that limiting tax rates, expanding revenues, and focusing public ire on deficits has never once led to decreased spending. Even when Reagan held the reins. I wrote on this last week: http://solutionproblem.wordpre.....ever-lead/

[P Brooks]

Our political class, political system, and political culture are broken.

Next you'll tell me the Committee on Government Reform shouldn't be holding televised hearing about steroid use in professional sports.

[Robbie]

I agree about the bracketing. I mean, yea lots of rates changed, but did they all go up, and for proportionate amounts of people? If all we have done is reshuffle and overcomplicate the tax code, there may not have been much effect on the revenue. Yes, of course higher taxes give incentive to hide/evade etc, but it is hardly proven here that those incentives directly counteract increased tax rates after a certain point.

I think this is an interesting point, for sure. I just think a more detailed analysis would prove more useful to the argument of a "cap" at around 19%. At the very least, if it was all reshuffling of how the money was gotten and from whom, the overcomplication creates economic waste by requiring people specialized in tax code, amongst other things.

[joshua corning]

there may not have been much effect on the revenue.

Technically there was an effect on revenue....it just had no effect on the percentage of revenue compared to GDP.

The take away lessen here is that fucking with the tax code hoping to get a bigger piece of the GDP will do nothing for you.

The only way to grow revenues is to grow GDP.

And the only way government can increase GDP is to deregulate and cut taxes.

[robc]

Never read comments at a newspaper website...I thought the WSJ might be different, but no.

[GILMORE]

Not to nitpick, but it would be nice if they had the actual revenue per capita data available as well.

Meaning, Im just curious what the 20% of GDP represented at different times in terms of relationship to the population. It wouldn't be as flat, obviously. But the ups/downs would be interesting to see.

[Accountant's Union]

"Taxpayers divert their effort from pro-growth productive investments to seeking tax shelters, tax havens and tax exempt investments."

Excuse me but providing tax shelters havens, and exempt investments is an industry too. We are just providing stimulus to those parts of society.

[Robert]

Yes, this is why a VAT is essential.. 🙂

[Kroneborge]

hypothyitcal here, what if we lowered tax rates, and revnue went up to 20% of GDP, so we lowered them again, and revenue still went up.

Of course I'm sure there is some point where revenue would stop going up, but I'd like to try anyway.

[Brett L]

Well, Art Laffer would be proven right. I think they'd find Krugabe, completely broken, wandering Wall Street wearing only his Nobel medal, and screaming to the wind, "More Stimulus!"

[Maxp]

The more interesting breakdown of Hauser's analysis is that the 19% represents a tradeoff between the corporate tax rate and the social insurance tax rate. (See Zubin Jelveh on this here.) As corporate tax rates have decreased social insurance tax rates have increased to make up for the gap. So Hauser's argument only holds if you also assume some very Democrat-friendly policies, as Jelveh points out.

[Meiczyslaw]

Dan Mitchell (a senior fellow at Cato) points out that other nations can generate revenues larger than Hauser's Law would indicate. He posits that this is the maximum revenue that can be generated if a state only really taxes the rich. If you're willing to tax the middle class more heavily (like with a VAT) then you'll generate more revenue, because they're not powerful enough to avoid the taxes.

[robc]

This also could explain why we are currently at a relatively low point in revenue. Still in the 15-20 range that its been since WW2, but I believe we are about 16 now instead of 19.

I think the tax cut from 15% to 10% might be the primary reason. Nearly everyone pays that (if they make enough to pay taxes at all). The rich are dodging 15%, much less 10% and the middle and lower classes arent making dramatic changes either.

Probably because the peak of the Laffer is in the 15-20 range.

Thus, if the leftists were serious about raising revenue with tax cuts, they would be calling for a repeal of that change, not the upper bracket changes.

[robc]

The rich ARENT dodging 15%...

[Brett L]

Or the fact that we 5% fewer people working at all -- I think that comes out to 10 million non workers. That's a big chunk, even at $10/hr you'd be talking approximately $20B.

[joshua corning]

I like how the Reagan tax cuts before 1990 were deeper then the Bush tax cuts and did absolutely nothing to hurt revenues. Yet the left still scream bloody murder about the smaller Bush tax cuts.

[Juice]

You linked to American Thinker? Jeez.

Anyway, that pic is leaving a lot of information out. Top nominal tax rate is not the end of taxes or revenue.

But the take home message should be that with all the fiddling with the tax code, it doesn't seem to change revenue (as a percentage of GDP, however the hell that's measured, doesn't it also include government?)

[Kbaynes]

I had a discussion with some leftists about this same issue and graph. The final argument made was this graph only shows that if you 1) Lower top marginal rates and 2) increase Payroll taxes over the same period, that you can hold revenues stable over time.

Personally, I think if the fed gov could squeeze more out of us they would, but the argument that the tax burden was simply shifted from the top to the middle requires thought because it seems possible.

Does anyone have any real evidence or ideas that address this notion that this chart simply shows a shift of tax revenue from the top to the middle?

[Tim]

Individual income tax isn't the only source of federal revenues.

1) the ratio of corporate tax receipts to personal income tax receipts has fallen dramatically over this time, (though corp tax receipts are much more volatile so the latest datapoint is a cyclical low, as well as the continuation of a long trend.)

2) Soc Sec & Medicare, etc... are outside the personal income tax system...indeed, they reduce the amount subject to personal income tax.

[Tim]

So, why not compare apples-to-apples, using the personal income tax rates and federal revenues from the personal income tax?

For instance, the last table here:

http://www.taxfoundation.org/news/show/250.html

contains total tax collected as a % of AGI, and total AGI is a number that can be found.