Benjamin Higgins

A Note on Taxation and Inflation

The cold war has resulted in levels of government spending in advanced countries far bigger than the post-war deflationary gaps as estimated by the most pessimistic of the pessimists. Deflationary gaps have been over-filled, and the postwar situation in the advanced countries has been one of chronic inflation rather than chronic under-employment. The high level of demand in the advanced countries has also aggravated the chronic inflationary pressure in the less developed countries. It is natural, therefore, that the attention of economists and laymen alike should have turned from public spending policy to tax policy. The general tax problem which seems to have aroused most interest is, “What are the limits to taxable capacity?” Among business men, trade union officials, government advisers, and even among professional economists, from Canada to Indonesia, one often hears today the statement that when tax rates reach a certain limit, further increases in tax rates will be inflationary rather than deflationary. It is the present writers opinion that this statement is based upon a misunderstanding, and that its frequent repetition in high places calls for a restatement of home truths regarding the economic effects of taxation. What follows is certainly not original analysis; but sometimes a simple application of familiar but appropriate tools can help to clarify an economic policy issue. Such clarification is the purpose of this note.