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Mankiw’s Tortured Tax Logic

By Matthew Yglesias  

"Mankiw’s Tortured Tax Logic"

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The normal way to do cross-country comparisons of tax burdens is to look at taxes as a percent of GDP, or else to maybe look at public spending as a percent of GDP since the volume of spending determines the ultimate level of taxation that will be necessary. Since taxes as a percent of GDP are low in the United States compared to other developed countries, cross-country analysis leads some to believe that higher tax rates would be desirable or viable in the United States. Greg Mankiw doesn’t like that conclusion, because he thinks high tax rates depress growth, so he suggests that we try another way of comparing tax burdens:

The most common metric for answering this question is taxes as a percentage of GDP. However, high tax rates tend to depress 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

Mankiw concludes that “the bottom line” is that the United States isn’t actually a low-tax country. But while I’m sure Mankiw believes the conclusion that raising taxes isn’t as viable as I (or, say, Paul Krugman) think, I seriously doubt that he believes this mode of analysis is correct. After all, why should the bottom line relate to the United States at all? Does Mankiw really think that Italy has more scope to increase taxes and the size of its public sector than does the United States? Or consider that in Slovakia per capita GDP is just $20,000. By Mankiw’s logic, Slovakia could raise taxes up to 65 percent of GDP and it would still count as a country with a below-average tax burden!

Common sense is that if you’re worried about the impact of taxes on growth, then when you’re worried about is the scope of taxation relative to the total amount of economic activity taking place. For Slovakia to try to raise as much revenue as we have in the United States would involve potentially ruinous levels of taxation. Conversely, for the American government to raise as much revenue per person as they have in France would be relatively easy.

I think that if you want to reach the conclusion that taxes as a percent of GDP understates the extent of government involvement in the economy, the most promising line of argument is to note that there’s a substantial “shadow” welfare state of tax preference and regulatory mandates out there.

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