It seems to me, if a leviathan government must be built and paid for, it is better to tax consumption than production. Examples of taxing production are, income tax, taxing interest on investments, corporate taxes, inventory taxes etc… Taxing consumption is when government imposes sales taxes and value added taxes. The question of whether or not we build up a leviathan, since we already have, is moot and so, until we tear the edifice to human hubris is torn down, the question of how we pay for the thing becomes paramount. Taxation, being a counter force to whatever it taxes, if we choose the wrong method of taxation and stifle our economies in pernicious ways we lower potential economic output more than is necessary. So this question, whether to tax production, consumption or both, has implications for every one of our standards of living.
It is a well know phenomenon that taxes drive up the cost of that which is taxed. As the cost of a thing goes up the demand for it goes down via the supply demand curve. The utility of spending that additional dollar for what you get diminishes… eventually to zero. As demand for a thing goes down the production of that thing will follow. As production drops units of productive capacity are taken out of production from building that thing, and are put back into the system, (people are laid off, machines are idled and plants are closed). Now we can frame our question this way, should we lower productive capacity, or demand, by taxes necessary to maintain the gigantic government we have, while limiting the damage to our economy such necessary taxation will do.
Many economists in the Keynesian camp will immediately argue demand must not be stifled by taxation and so production must be taxed. Their mantra is; demand drives supply. They follow the aggregate demand aggregate supply model of economic growth. The aggregate demand aggregate supply model has the advantage of being simple but it has the disadvantage of being wrong. Japan has focused like a laser beam on their economy for over a decade using the aggregate demand aggregate supply model. You know… their “Lost decade.” FDR went whole hog Keynesianism and ushered in the Great Depression with it. There is no example in human history where aggregate demand aggregate supply actually predicted or accurately modeled an economic event, but the faithful are hopeful. So taxing demand might not be such a bad thing as the demand side economists would have you believe.
Most who call themselves supply side economists, and so would be against taxing and thus lowering production, don’t have a clue about the basis of supply side economics. To say “supply side” is to focus on too narrow a policy. Supply side economics seeks a dynamic economy while demand siders only seek to increase demand, the source of which, (to them) is irrelevant. As a result, a demand sider is perfectly happy with a stagnant economy where, the older a firm is the safer it is, as long as it reliably grows it’s demand. Those of us who are supply siders seek to make conditions favorable for entrepreneurs to start businesses, grow those businesses and disrupt older technologies. We recognize that it is in the very disruption itself, of new ideas being implemented making old ideas outmoded, that is the fire in the chamber that drives an organic free market system. An organic free market creates new luxuries, makes old luxuries necessities and lowers the cost of our needs, and it does it by implementing new ideas.
Taxing production lowers production and so puts people out of their jobs, lowers wages due to the lower demand for labor but most importantly… creates a barrier to entry for entrepreneurs. Taxing consumption on the other hand drives down demand for those goods and services that are taxed, while creating a demand for behind the counter merchandise. Clearly, if we tax both production and consumption, we get the negative outcome of both, so in a sane world the doing both option should be out. If the very thing that powers the market system however, is the introduction and implementation of new ideas, then it follows that the implementation and introduction of new ideas should be fostered at all costs, and not undermined by any means. While taxing production makes it harder for an entrepreneur to start a business, taxing consumption makes capital more available, (since the interest on it wouldn’t be taxed), which would lower the barrier to entry for the would be entrepreneur.
The track record of the demand siders should speak for itself as should the track record of the supply siders. Every time demand side economics is blindly followed the economy gets the moniker “Great,” like, Great depression, Great recession etc… When supply side economics have been followed the economy has always flourished. The supply side policies of Calvin Coolidge, who came into the Presidency during a bigger economic downturn than Obama did, ushered in the period of the fastest economic growth in US history. Ronald Reagan, who inherited Jimmy Carter’s economic, foreign policy and Cold War messes, made it easier to do business in the US and the US economy rebounded. So, given their historical track records, taxing consumption and only consumption, would be the smartest move and would have the least negative effect on our economy. Because… If you seek green, blending yellow and blue works better than red and white, no matter how much you might want red and white to make green.