A Pig By Any Other Name

Cigarette smokers should hate Arthur Pigou, but most of them have probably never heard of him.

He’s the economist from the 1920s who theorized that people who cause harm to others through legal activities – like smoking, drinking, etc. – should be taxed to pay for the harm they cause.

In the case of smokers, paying for the social cost of smoking that Medicare bears and the lost productivity of unhealthy people is the reasoning behind astronomical taxes on a pack of cigarettes. It’s the same way with all sin taxes. Such taxes are called Pigovian taxes, and make sense.

When it comes right down to it, this is the way every tax should be handled.

If you’re a hunter, then your license should go to pay for the Fish & Wildlife Department. If you drive, then your car registration should be applied to the DMV and maintenance of roads.

Tying the cost of something provided by the government to the beneficiaries who gain the most is intuitive. The beneficiaries can then decide if their perceived gains are worth the taxes paid.

Of courses there are a whole host of services government provides that fall under a general category, such as defense and law enforcement. These national provisions affect us all and must be covered by broad taxes like the personal income tax.

The problem arises when governments start moving money around and levying taxes in one area to pay for another. In effect, they turn a Pigovian tax into a pig.

For a clear example, consider the current taxes on cigarettes. At roughly $11.80 a pack in New York City, there is no question the revenue the city brings in is well beyond any cost of smokers that the city will be asked to pay. Instead, New York is simply targeting a group that won’t complain too loudly.

But this sort of misdirection is not limited to bad habits or even local governments. Our Congress is busy patting itself on the back for reaching a budget deal before the deadline approaching this month. There are claims of bipartisanship and hard work.

Right.

What really happened is that Representative Paul Ryan and Senator Patty Murray agreed to take money from federal workers through less generous pensions, and at the same time raise the taxes paid by consumers who fly.

The airline ticket tax of $2.50 per one-way flight was originally levied after 9/11 to pay for the TSA (Transportation Security Administration). This tax is set to double so that it will throw off billions of dollars in extra revenue over the next decade in order to offset higher general spending.

While the original tax was not Pigovian (the action of flying doesn’t generate a bad external outcome), the bloated increase in the tax is certainly a pig.

Congress still can’t do the “hard work,” also known as its job. The main function of Congress is to determine laws that will create the best setting for Americans to be safe as they pursue their own goals, and then to fund the government through taxes. If the laws are general, then raise general taxes.

This is where things break down. Because a general tax increase is hard to get passed, Congressmen go after lower hanging fruit – like airline passengers. Will you stage a general protest over an airline ticket tax that has increased from $2.50 to $5.00? Probably not.

And yet the increase in this tax is clearly a mismatch. The government is targeting a very specific subset of the nation to pay for general activities. This means that one group is paying more than their fair share for benefits while another group is paying less.

The sad part is that because such tactics work – people don’t get really upset by an extra $2.50 – Congress and other taxing bodies are encouraged to keep doing it. All the while we move farther away from clearly connecting government activities with their true costs and their most obvious beneficiaries.

The jumbled mess makes the U.S. tax statutes more confusing and the tax code even harder to reign in, as if that was ever going to happen.

So we’re stuck with being nickel-and-dimed, having our savings chipped away one airline fee at a time as the government continually shies away from addressing the real problems at hand.

The U.S. is currently incurring costs – both present and future liabilities – at a rate much greater than we can possibly pay. And while Congress can put a band aid on the open wound through tiny measures like this fee, it can’t hope to use these actions to actually save the patient. That will take much bigger actions and, I fear, a lot more of our money.

As I’ve said many times, always do what you can to shrink your taxable footprint. In the years ahead it could save you a fortune.

Rodney

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About Author

Rodney Johnson works closely with Harry Dent to study how people spend their money as they go through predictable stages of life, how that spending drives our economy and how you can use this information to invest successfully in any market. Rodney began his career in financial services on Wall Street in the 1980s with Thomson McKinnon and then Prudential Securities. He started working on projects with Harry in the mid-1990s. He’s a regular guest on several radio programs such as America’s Wealth Management, Savvy Investor Radio, and has been featured on CNBC, Fox News and Fox Business’s “America’s Nightly Scorecard, where he discusses economic trends ranging from the price of oil to the direction of the U.S. economy. He holds degrees from Georgetown University and Southern Methodist University.