Liberty Watch on the Road
Inside Liberty Watch Today - Aug. 8, 2005

Liberty Watch reader Jack Van Dien waded into the murky waters of tax debate with a letter to LW last week criticizing Steve Forbes' flat income tax idea, and specifically Forbes' argument for the exemption of interest and dividends from taxes. Mr. Van Dien believes that Forbes' argument that businesses have already been taxed, thus shareholders or bondholders receiving after-tax dividends and interest shouldn't be taxed on that income is "fallacious." 

"[W]hen business pays any tax including tax on net earnings the tax becomes a cost of the product or service which business recovers by passing it on to the consumer in the selling price," writes Van Dien. 

Mr. Van Dien essentially believes that businesses don't pay taxes, consumers do, and that all costs incurred by a firm, including interest, are without fail passed on to consumers. 

Of course this argument is nonsense. If all costs could automatically be passed on to the consumer, no business would ever fail. Company earnings would never ebb and flow. Business owners would never negotiate with suppliers or employees; "what the heck pay them whatever they want, we can always pass it on to our customers." Companies would never move to tax-friendly states or countries, because taxes and costs could be pushed onto the unwitting consumer. 

Taxes inflicted on business are paid by people, but not consumers. Taxes are shifted backwards to shareholders, employees and suppliers. 

As economist Murray Rothbard wrote in Power and Market; "The first law of incidence can be laid down immediately, and it is a rather radical one: No tax can be shifted forward. In other words, no tax can be shifted from seller to buyer and on to the ultimate consumer." 

Answering Mr. Van Dien directly, Rothbard continued: "It is generally considered that any tax on production or sales increases the cost of production and therefore is passed on as an increase in price to the consumer. Prices, however, are never determined by costs of production, but rather the reverse is true. The price of a good is determined by its total stock in existence and the demand schedule for it on the market. But the demand schedule is not affected at all by the tax. The selling price is set by any firm at the maximum net revenue point, and any higher price, given the demand schedule, will simply decrease net revenue. A tax, therefore, cannot be passed on to the consumer." 

Mr. Van Dien has fallen for the same "labor theory of value" espoused by David Ricardo and later by Karl Marx, that prices are set by costs. But, that is not true. 

"It should be quite evident that if businesses were able to pass tax increases along to the consumer in the form of higher prices," Rothbard explains, "they would have raised these prices already without waiting for the spur of a tax increase. Businesses do not deliberately peg along at the lowest selling prices they can find. If the state of demand had permitted higher prices, firms would have taken advantage of this fact long before." 

The argument should be about whether there should be taxation at all. Not what kind of taxes. All taxation-flat, progressive or regressive--is morally wrong, no matter who is paying or how much. Anyone advocating for taxes of any kind is endorsing theft. 

Doug French, Liberty Watch Columnist