One of my favorite explanations of how so many people can misunderstand the tax code, and easily call it unfairly skewed for the rich when rates are lowered, was written by David R. Kamerschen, Ph.D., Professor of Economics at the University of Georgia. It was posted in it's original form a couple of years ago by Gary Voyles here.
I thought, given the recent discussions about the tax codes and how the system of credits is really about redistribution of wealth, it would be worthwhile to revise this story to illustrate the issues.
Bar Stool Economics, Revised
Suppose that every day, ten men go out for beer and the bill for all ten
comes to $100. If they paid their bill the way we pay our taxes, it
would go something like this:
The first four men (the poorest) would pay nothing.
The fifth would pay $1.
The sixth would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.
So, that's what they decided to do. The ten men drank in the bar every
day and seemed quite happy with the arrangement, until one day, the
owner threw them a curve. 'Since you are all such good customers,' he
said, 'I'm going to reduce the cost of your daily beer by $20. Drinks
for the ten now cost just $80.
The group still wanted to pay their bill the way we pay our taxes, so
the first four men were unaffected. They would still drink for free. But
what about the other six men - the paying customers? How could they
divide the $20 windfall so that everyone would get his 'fair share?'
They realized that $20 divided by six is $3.33. But if they subtracted
that from everybody's share, then the fifth man and the sixth man would
each end up being paid to drink his beer. So, the bar owner suggested
that it would be fair to reduce each man's bill by roughly the same
amount they were currently paying, so he proceeded to work out the
amounts each should pay. It would look like this:
The fifth man, like the first four, would now pay nothing (100% savings)
The sixth would now pay $2 instead of $3 (33%savings).
The seventh would now pay $5 instead of $7 (28%savings).
The eighth would now pay $9 instead of $12 (25% savings).
The ninth would now pay $14 instead of $18 (22% savings).
The tenth would now pay $49 instead of $59 (16% savings).
Each of the six would be better off than before. However, once the men
began to compare their savings, many of them felt they weren't making
out as well as the ones footing more of the bill:
'I'll only get a dollar out of the $20,' declared the sixth man; he pointed
to the tenth man,' but he'll get $10!'
'Yeah, that's right,' exclaimed the fifth man. 'I'd only save a dollar, too.
It's unfair that he would get ten times more than I did.'
'That's true!!' shouted the seventh man. 'Why should he get $10 back
when I got only two? The wealthy get all the breaks!'
'Wait a minute,' yelled the first four men in unison. 'We won't get
anything at all. The system exploits the poor!'
So the bartender came up with a different solution. 'How about if, instead of
reducing your bill by $20, I give each of you back $2 after you pay the bill?
That way, everyone would get the same amount back.'
The first 6 men all thought this would be a great solution, since everyone
would get something back, and the rich man wouldn't be getting half of the savings.
This is how it worked out:
The first four men would be getting $2 each, when they weren't paying anything to begin with
The fifth man would now be getting $1, instead of paying in the $1 before
The sixth man would now pay only $1, instead of the $3 he paid before
The seventh would now pay $5, instead of the $7 he paid before. He didn't make out any worse or any better by this plan.
The eighth would now pay only $10 instead of $12
The ninth would now pay $16 instead of $18
The tenth would now pay $57 instead of $59
However, the total amount of money paid by men 5-10 has only been reduced
to $89, even though the bartender is only keeping $80 of it. So every night these
men drink, men 5-10 are essentially giving $9 to men 1-5, and $80 to the bartender.
Now the first four, who hadn't been paying to begin with, started realizing that the
$2 didn't cover their bus fare to and from the bar each night, and began grumbling
that it wasn't enough. They convinced the fifth man that this was unfair, and more should
be done. Men 8-10 started talking among themselves, and realized that the $20 in
savings didn't actually materialize, and they were just paying the first 5 to drink with them.
Men 6 and 7, who were initially indifferent to the second option, began to see
why the eighth, ninth, and tenth men were upset, and said to the first 5 that they
needed to go with the first option, because the second was unfair. The first 5
began to give the sixth and seventh men a hard time, wondering why they were
sticking up for the 'rich' men, since the first plan wouldn't help them any more,
but it would certainly benefit the 'rich' guys more.
And there, my friends, is the difference between lowering taxes and introducing
refundable credits. In the end, it's costing more for the tax payers than it should for
public services, and starts making the people at the bottom feel like they should still be getting more.
Enter class warfare.