Greg Mankiw is trying to make a reductio ad absurdum critique of the objective of income redistribution. He has written a paper with Matthew Weinzierl which shows that optimal taxation will typically involve taxing all kinds of characteristics that seem patently unfair and unacceptable. He concludes from this that it is the goal of income redistribution that entails these absurdities.
But there is a prominent guy who lives at a nice home at 1600 Pennsylvania Avenue who wants to “spread the wealth around.” The moral and political philosophy used to justify such income redistribution is most often a form of Utilitarianism. For example, the work on optimal tax theory by Emmanuel Saez, the most recent winner of the John Bates Clark award, is essentially Utilitarian in its approach.
The point of our paper is this: If you are going to take that philosophy seriously, you have to take all of the implications seriously. And one of those implications is the optimality of taxing height and other exogenous personal characteristics correlated with income-producing abilities.
This argument fails because the objectionable policies implied by optimal taxation in his model have nothing to do with income redistribution or utilitarianism. Indeed they would be optimal under the weaker and unassailable welfare standard of Pareto efficiency which I would assume Mankiw embraces.
Let me summarize. Optimal taxation involves minimizing the distortionary effect on output from raising some required level of revenue. It does not matter what that revenue is being used for. It could be for redistribution but it could also be for producing public goods that will benefit everyone. Whatever revenue is required, the optimal taxation policy generates this revenue with minimal cost in terms of reduced incentives for private production. Taxing exogenous and observable characteristics that are correlated with productivity is a way of generating revenue without distorting incentives.
If we tax income (a direct measure of productivity) you can lower your taxes by earning less, that is a distortion. If we tax your height (known to be correlated with productivity), you cannot avoid these taxes by making yourself shorter.
So the implication that Mankiw wants us to be uncomfortable with is an implication of the way optimal tax theorists conceive the problem of revenue generation and the implication would be present regardless of how we imagine that tax revenue being spent. It has nothing to do with redistribution and we can feel uncomfortable with height taxation without that making us think twice about our desire to redistribute wealth.
Cheap Talk 
5 comments
Comments feed for this article
May 30, 2009 at 2:47 am
Michael
There must be a subtlety to this argument that I am missing. Isn’t there an equally efficient tax to generate revenue, namely a simple poll tax? My understanding is that the only reason you might want to tax exogenous characteristic that are correlated with productivity is exactly for the redistributive aspect the tax. People who make more money would pay higher income taxes on average. You get some of the redistributive aspects of the income tax with all the efficiency of the poll tax.
May 30, 2009 at 9:30 am
jeff
This is a good question. A lump sum tax, such as a poll tax, is the most efficient way to raise revenue. The problem is that its not feasible. How much do you tax? Whatever amount you choose, there will be some who have not earned that much. What do you do with them? Whatever your answer is, you have left the realm of lump sum taxes and moved into taxes that are contingent on earnings.
For the same reason, taxing height does not mean “tax the tall and pay the short.” Because height is only correlated with income, it does not perfectly predict income. If you try to tax every tall person $X, you will run into the problem that some tall people haven’t earned that much. Then you are forced into a tax scheme that depends on earnings plus height.
Here is how you combine earnings and height in an optimal tax scheme. People with low earnings pay a small share of their earnings in taxes if they are short and high share of their earnings if they are tall. This has the effect of discouraging the tall from reducing their output in order to avoid taxes. In response to this they work a lot and earn a lot.
If you don’t include height in the calculation you cannot get this incentive benefit for the productive agents (the tall) without ruining incentives for the less productive (the short.)
June 2, 2009 at 3:20 am
La justice distributive peut-elle être justifiée autrement que de manière utilitariste ? « Rationalité Limitée
[…] mais il me semble qu’il y a dans la thèse de Mankiw et Weinzier un non sequitur que souligne Jeff Ely de Cheap Talk : il y a confusion, ou plus exactement un saut logique, entre imposition et redistribution. […]
February 27, 2010 at 1:52 pm
ILya
This may just be an elaboration on Jeff’s point:
Mankiw’s “just dessert” suggestion wold work only in a 1st-best world where a perfectly competitive equilibrium arises (plus some extra assumptions). Then we can indeed let eveyone enjoy his marginal contribution to society while balancing the budget (e.g. there is a paper by Makowski and Ostroy about this). Once we need to provide public goods for which any single person is nonpivotal, their cost must be allocated somehow by extracting some of people’s marginal contributions. While a poll tax would be an efficient and might even think the most fair way to pay for public goods, it’s not workable for reasons Jeff points out. (And a pure height tax would be impractical for the same reason, although taking height in consideration would work.) So Mankiw does not suggest any workable alternative to utilitarianism in financing public goods. It seems fair by any criterion that those who benefit more from the public good should pay more for it, even if they are nonpivotal and the “just desserts” approach would say they should pay zero. And once Mankiw allows to view helping the poor as a public good that enters people’s utilities, this leads us back to a social welfare function and utilitarianism.
Of course there are many other “market failures” because of which we don’t live in a 1st-best world. In a 2nd-best world, giving people their marginal contributions is not possible or desirable, regardless of whether you are motivated by efficiency or fairness reasons.
February 28, 2010 at 1:16 am
Mankiw Flogging A Non-Existent Horse « Cheap Talk
[…] this is part of his argument against income redistribution. As I have said before (and see a nice comment there by Ilya) Mankiw is not understanding the theory of taxation he is […]