Unit 7 Macroeconomics:Taxes, Fiscal, and Monetary Policies

Chapters 14.1

EconomicsMr. Biggs

As U.S. citizens, we authorize the government, through the Constitution, to raise money in the form of taxes.

Funding Government ProgramsTax - A required payment to a local, state, or national government.Taxes are the primary way that governments collect the revenue they need to operate.Revenue - The income received by a government from taxes and other nontax sources.

What are Taxes?

Taxes and the ConstitutionThe U.S. Constitution spells out specific limits on the government’s power to tax.

The Power to TaxArticle 1, Section 8, Clause 1 grants Congress the power to tax.

Limits on Powers to TaxThe U.S. Constitution states that a federal tax must:

Be for common defense and general welfareBe the same in every stateNever tax church services (freedom of religion)Never tax exports (can tax imports)

In 1913, the 16th Amendment legalized income taxes.

Tax Bases and Tax StructuresDespite its limits, the government collects a wide variety of taxes.

Tax BaseTax base - Income, property, and goods or services that are subject to a tax. Individual income tax - A tax on a person’s earnings.Sales tax - A tax on the dollar value of a good or service being sold.Property tax - A tax on the value of a property.Corporate income tax - A tax on the value of a company’s profits.Once the government determines a tax according to the value of the object taxed, they decide how to structure the tax on that particular tax base.

Proportional TaxesProportional tax - A tax for which the percentage of income paid in taxes remains the same for all income levels (also known as a flat tax).For example, whether the income goes up or down, the percentage of income paid in taxes stays the same.

Progressive TaxesProgressive tax - A tax for which the percentage of income paid in taxes increases as income increases.For example, the US federal income tax.

Regressive TaxesRegressive tax - A tax for which the percentage of income paid in taxes decreases as income increases.For example, sales tax is considered a regressive tax because higher-income households spend a lower proportion of their incomes on taxable goods and services.

Characteristics of A Good TaxA good tax should have four characteristics:1. Tax laws should be simple and easily

understood.A taxpayer should be able to prepare

their own taxes.2. Tax laws should be efficient.

Collecting and paying tax should not take too much time or money.

3. A taxpayer should be certain when a tax is due, and how the tax should be paid.

4. Tax laws should be fair or have equity.No one should bear too little or too much

of the tax burden.

Determining FairnessThe tax system should be fair, but people disagree on what “fair” means.According to the benefits-received principle, people should pay taxes based on the level of benefits they expect to receive.For example, people who drive should pay gasoline taxes used to build and maintain highways.According to the ability-to-pay principle, people should pay taxes based on their ability to pay.People who earn more can afford to pay more taxes.This is the rationale behind a progressive tax like the US federal income tax.

Balancing Tax Revenues and Tax RatesTax revenue should be enough to meet citizens’ needs, but not so much that the tax discourages production.Many people argue that the economy benefits from lower, rather than higher, tax rates.

Who Bears the Burden of TaxesTo fully evaluate the fairness of a tax, it is important to think about who bears the incidence of a tax.Incidence of a tax - The final burden of the tax.The more inelastic the demand, the more easily the seller can shift the tax to consumers.The good or service is seen as a necessity.The more elastic the demand, the more the seller bears the burden.The good or service is seen as a luxury.

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