Scott Sumner  

Define "efficient"

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Tyler Cowen directed me to an article on government efficiency in The Atlantic. The author tried to push back against the claim that state and local governments were more efficient than the Federal government:

Similarly, the Internal Revenue Service is a ruthlessly effective tax collector, when compared to those in other high-income countries and to the states. California spends 94 cents on overhead for every $100 of state tax revenue collected, for instance, with Great Britain spending 74 cents. The feds, on the other hand, spend less than 50 cents.
This is a narrow definition of 'efficient'. In my view, state and local governments are far more efficient at collecting taxes than the federal government in two far more important dimensions:

1. The federal income tax is extremely complex. I spend about $1500 and more importantly lots of time each year complying with the federal income tax. State income taxes tend to be far simpler. In addition, my wife spends many hours complying with paperwork created by systems that owe their existence to the federal income tax, such as the tax free status of daily wear contact lens (but only if you buy them via a very complicated insurance scheme that forces you to jump through many hoops.) These paperwork and time costs dwarf the cost of managing the IRS.

2. Federal income taxes tend to radically distort economic activity. These taxes discourage saving, and more importantly they encourage behavior that avoids taxes. These distortions impose massive deadweight losses on the economy. For instance they encourage debt and discourage equity finance. Hmmm, was there a recent problem in America caused by too much debt and too little equity?

The problem is not that the collection of taxes is costly for the federal government, it's that the collection of taxes is costly for the public.

States tend to rely relatively more on taxes on property, sales and gasoline. These also have their drawbacks, but in general create smaller distortions for the economy.

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COMMENTS (10 to date)
Khodge writes:

In addition to the cost to taxpayers, the Federal government has several advantages, foremost is its size: a large company can be extremely wasteful yet have its revenues dwarf its expenses. The Federal government is primarily income taxes which, for most individuals, is captured by (over)withholding.

It is not accurate to compare California with (I'm guessing) arcane nanny state taxes to England with VAT taxes to the Federal government with mostly income taxes

Ben writes:

No one’s doubting that but if more and more spending was directed to the states who says they’ll have a better tax system?

Tax systems seem to naturally become inefficient as populations demand certain exemptions and deductions for things society deems shouldn't be taxed e.g. healthcare, mortgage interest and even daily wear contact lenses.

So, often, local taxation systems are not more efficient for their people and meanwhile far less efficient at actually collecting taxes as they're not a centralised system.

Alan Goldhammer writes:

This is a hilarious post! I've had to deal with several different states during my working years and compliance with the Federal tax system is always simpler. I guess Scott pays an accountant to do his taxes as that's the only way I can figure spending $1500 (I use Turbo Tax (this is not an endorsement!) and it's about $60 for the combined Federal/State program). Most of the hassle is data entry for all the various deductions.

Scott has not lived in California long but my experience as a short time property owner out there was horrific. I had to file trust tax returns for my two daughters because of inherited rental property in San Diego. As an out of state property owner this cannot be done electronically!! The girls had total taxable income of $2 and the tax return was 50 pages; this is not what I define as efficient. I have had similar issues trying to get refunds from Pennsylvania because of the reciprocity agreement with Maryland on income earned in that state for summer jobs. You cannot file electronically and Pennsylvania sits on your money for more than eight weeks while the return is being processed!!

I would urge Scott and other readers of this blog to read TR Reid's recent book on tax reform, "A Fine Mess: A Global Quest for a Simpler, Fairer, and More Efficient Tax System." He surveys a number of tax systems abroad and points out that typical Dutch citizens do their tax returns in about 10 minutes (mostly data checking as the government has all the income information in their database).

John Hall writes:

I had seen that article, I read about 20% of it before I realized it was non-sense and quickly skedaddled.

Scott Sumner writes:

Ben, That's true to some extent, but not completely. There can be healthy "tax competition" at the state level that does not exist at the federal level.

Consider the Swiss system, with income taxes set at the canton level.

Kansas is losing business to South Dakota because South Dakota has a much more efficient tax system.

bill writes:

State taxes can get pretty complex when you file in 3 or more states.

Andrew_FL writes:

The cost of collecting taxes incurred by the state is *part* of the cost to the public, but a very small part.

Alec Fahrin writes:

Consider this possibility,

State Governments are able to collect taxes that are more "efficiently" collectable (whatever you define that to be) because the Federal Government collects the taxes that are less "efficiently" collectable.

Not saying that's necessarily true everywhere, but I'd wager that it is in the USA.

Any thoughts?

Scott Sumner writes:

Bill, I'll have to do three states this year.

bill writes:

That's funny. Your accountant will basically force them to a final number in an iterative process. The states I've filed in have all essentially wanted to be last. ie, there's a blank on their form that says something like "taxes paid to other states" and since you can't complete any of the states first, it would be an infinite loop. I guess that's not really a big deal, though it bothered me more back in the day when I was using my hand held calculator and a pencil. It's been a long time since I even tried to understand the forms.

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