Wednesday, March 31, 2010

Mankiw on Taxes

Greg Mankiw proposes we re-think measuring tax burdens. We generally measure them by calculating taxes, adjusted for GDP.
Looking at taxes as a percentage of GDP may mislead us into thinking we can increase tax revenue more than we actually can. For some purposes, a better statistic may be taxes per person, which we can compute using this piece of advanced mathematics:

Taxes/GDP x GDP/Person = Taxes/Person

Here are the results for some of the largest developed nations:

France: .461 x 33,744 = 15,556.
Germany: .406 x 34,219 = 13,893.
UK: .390 x 35,165 = 13,714.
US: .282 x 46,443 = 13,097.
Canada: .334 x 38,290 = 12,789.
Italy: .426 x 29,290 = 12,478.
Spain: .373 x 29,527 = 11,014.
Japan: .274 x 32,817 = 8,992

The bottom line: The United States is indeed a low-tax country as judged by taxes as a percentage of GDP, but as judged by taxes per person, the United States is in the middle of the pack.
Brad Delong and Matthew Yglesias says this implies that North Korea is a wonderful tax haven and Slovakia could stand much higher tax rates.

There's a reason why Mankiw focused on the countries he did: institutions. Japan, Italy, US, and the UK have similar economic systems (similar compared to the rest of the world). Mindlessly treating North Korea as the same as South Korea makes the same mistakes economists made decades ago when we wondered why all countries weren't converging to the same GDP. But the Solow model's predictions only work when countries are institutionally similar: "conditional convergence." Comparing Solvakia and Spain about tax revenue misses the point.

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