October 14, 2013 at 2:46 pm #18018
After re-reading this section in Power and Market, I’ve realized that I don’t understand this concept as well as I thought I did.
Rothbard states “Shifting occurs if the immediate taxpayer is able to raise his selling price to cover the tax, thus “shifting” the tax to the buyer, or if he is able to lower the buying price of something he buys, thus “shifting” the tax to some other seller.” (p. 1156)
As he goes on to point out in the case of the general sales tax, however, both a producer’s selling prices go up and buying prices go down. So clearly these cannot be the key criteria.
He states “It is true that a tax can be shifted forward, in a sense, if the tax causes the supply of the good to decrease, and therefore the price to rise on the market. This can hardly be called shifting per se, however, for shifting implies that the tax is passed on with little or no trouble to the producer. If some producers must go out of business in order for the tax to be “shifted,” it is hardly shifting in the proper sense but should be placed in the category of other effects of taxation.” (p. 1156-1157)
But couldn’t this same argument be used to argue that he is not shifting the tax backward to the producer?
I could say ‘It is true that a tax can be shifted backward, in a sense, if the tax causes the demand for the factors of the production of the good to decrease, and therefore the price to rise on the market. This can hardly be called shifting per se, however, for shifting implies that the tax is passed on with little or no trouble to the producer. If some producers must go out of business in order for the tax to be “shifted,” it is hardly shifting in the proper sense but should be placed in the category of other effects of taxation.”
My point isn’t to argue that Rothbard is wrong about where the tax is shifted. I feel in some common sense way he is correct (I think because the basic imputation of value should apply to the incidence of taxation too), but I’m trying to identify specifically why that is the case.
Further, what specifically differentiates the harmful effects of the incidence of the tax and the other harmful effects? In other words, what evidence would we see, all else equal, from the incidence of the tax that would not be present for the “other effects” of the tax.
BharatOctober 15, 2013 at 9:47 am #18019
Rothbard is responding to the mainstream literature on tax incidence. In that literature, incidence refers to who bears the burden of a tax, i.e., whose income is lowered when the tax transfers income to the state. With a general sales tax collected from the entrepreneurs, Rothbard shows that producers income is lowered not that of entrepreneurs or consumers. Entrepreneurs will not raise prices for output because, given preferences, they are already at their revenue maximizing levels. And entrepreneurs will not lower the interest rate (i.e., the spread between output prices and input prices) to the capitalist because, given time preference, its current level is necessary to clear the time market. After paying the tax, entrepreneurs have less revenue and thus, their demands for factors of production must fall and the prices of producers goods fall to maintain the interest rate.
Incidence, therefore, is only part of a larger analysis of the overall effects of taxation. The harm to consumers is not directly from the tax revenue transferred to the state but indirectly from the suppression of production that results from the tax.October 15, 2013 at 1:22 pm #18020
Thanks for the quick response! Okay, so I think where I’m confused is when Rothbard brings up the discussion of a decreased supply increasing prices. Rothbard uses this point to argue that taxes cannot be passed forward, period, because a decreased supply means firms are going out of business, and if they’re hurt in such a way, this can’t truly be a case of passing on the tax to consumers.
1) Is this decrease in supply a special case within possible general sales tax scenarios, or does this occur every time a general sales tax is implemented (i.e. as demand for factors is lowered due to the tax, does supply necessarily decrease, and prices necessarily rise)?
2) If Rothbard’s point is that firms going out of business means that they cannot shift taxes forward, why cannot the same argument be used to say that they cannot shift taxes backward? Is this argument by Rothbard simply besides the point? I follow his process of reasoning how firms being taxed lower their demand for factors and derived demand in higher stages of production are thus lowered until the original factors receive lower incomes. So maybe that particular argument is just a bad one? If firms are going out of business, they’re going out of business, regardless of who the tax was really passed on to.
The only way I can square that particular argument with Rothbard’s line of reasoning is if firms being taxed do not go out of business as they pass on the tax backwards. Does that make sense?October 15, 2013 at 1:51 pm #18021
I messed this up in the first post so let me try again.
If I wanted use the argument Rothbard uses against the possibility of shifting a tax forward, but instead using it against the possibility of shifting a tax backward, I could say:
“It is true that a tax can be shifted backward, in a sense, if the tax causes the demand for the factors of the production of the good to decrease, and therefore the price of the factors to fall on the market. Production in this way is hampered, causing supply to decrease and marginal firms to go out of business. This can hardly be called shifting per se, however, for shifting implies that the tax is passed on with little or no trouble to the producer. If some producers must go out of business in order for the tax to be “shifted,” it is hardly shifting in the proper sense but should be placed in the category of other effects of taxation.”
The reason I think this is applicable is because it seems to me that, firms go out of business regardless of where the tax is shifted, forwards or backwards.October 15, 2013 at 9:00 pm #18022
But, again, shifting in the mainstream literature (and thus, in the way Rothbard uses the term), means “shifting the reduction in income from a tax levied on you to someone else.” The sales tax is levied on the entrepreneurs. The state collects the tax from them. But the entrepreneurs’s income is profit, the difference between his selling prices to consumers and his buying prices to owners of factors of production. This leaves open the possibility that entrepreneurs can restore the pre-tax price spread (and thus, their profits) by either raising their selling prices for output or lowering their buying prices for inputs. If entrepreneurs shift the tax, then their income, which is profit, remains the same even though they pay the tax while that of either consumers or owners of factors of production declines.
Shifting does not refer to the production dynamics of the market. So Rothbard’s claim about the production effects of the tax are subsequent to new pattern of prices of factors of production result from the tax. In response to your last statement, then, Rothbard would say: the reduced demand for factors of production is the method entrepreneurs use to shift the tax to producers. The resulting change in the pattern of prices for producer goods will make some previously-viable production now not viable. With reduced supply, given demand, the price for such goods will rise. The rise in price harms consumers but does not shift consumer incomes to the state.
The attempt to shift the sales tax forward to consumers is asymmetric to the case of shifting it backward to producers. In the forward shifting case, when the tax is levied on entrepreneurs, they have previously-produced stocks to sell. It only reduces their revenue to raise their prices. Therefore, they will not do so. Their revenues are maximized at the existing prices because when the state levies a tax on entrepreneurs it does not increase consumer demands for their products. According to Rothbard, then, taxes can never be shifted forward. So there is no such case to compare to the case where taxes are shifted backward to analyze whether or not firms go out of business in both cases.October 16, 2013 at 11:44 am #18023
Thanks! That makes perfect sense.
Just to clarify, does this decrease in supply occur (as part of the other effects) every time a general sales tax is implemented?
Also, in the footnotes, Rothbard says that for a general sales tax, resources can only shift into idleness. He goes on to give an example of labor shifting into leisure. Does this occur for land as well in the case of a 20% sales tax? Or does it only occur for labor because labor has an opportunity cost?October 16, 2013 at 2:58 pm #18024
Labor is the only category of producer good that must have an opportunity cost because of the personal use value of leisure foregone. But other resources could have personal use value to their owners and therefore, could have an opportunity cost that is more valuable to their owners than the after-tax income. For example, a landowner could own land that he uses for his personal ends instead of leasing it to a farmer when the tax lowers the lease payment.
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