It’s well known that an increase in taxes on an activity results in less of that activity. This is because taxes make an activity cost more. Therefore, a sure way for government to reduce income producing activity, is to increase income taxes. And a sure way for government to reduce investment activity is to increase taxes on investment profits, a.k.a. capital gains. Less income and less investment means a slower economy.

It’s the Poor and Middle Class Who Get Hurt Most by a Slow Economy, and They Benefit the Most from a Good Economy

Here are two main reasons for why this is so:

First, a slow economy results in fewer jobs and longer periods of unemployment. But the richer you are, the more likely you are to either not need a job at all, or be able to withstand longer periods of unemployment.

And second, economic growth increases the standard of living, and because of the laws of diminishing returns benefits lower income people more.

What is the law of diminishing returns?

Let me illustrate with an example:

Suppose you don’t have a car, and then buy a good used car for $5000. The positive impact on your life is potentially enormous. You can now go to places that were previously out of reach or very inconvenient to reach. Suppose you strike it rich, and decide to buy a $200,000 Rolls Royce. Now you’ve paid an extra $200,000, but the only extra benefit you get is the ability to go places in style. Buying that first car had a much more drastic impact on what you could and couldn’t do in your life, yet it cost A WHOLE LOT less.

That was an effect of the law of diminishing returns, where each additional dollar is worth less in terms of the real benefits it can bestow than the previous one.

Why does a good economy benefits lower income people more than the rich?

Now I’ll illustrate with another example how the law of diminishing returns turns a growing economy into an engine that helps lower income people more than the rich.

When large-screen flat-panel TVs first came out, they were very expensive. Only affluent households could afford to pay $10,000 and up to get one, while everyone else was stuck with tubes. But now, one can buy a very nice flat-panel 50″ (quite large!) plasma TV for under $1500, making it affordable to most middle class households.

What caused this incredible price drop? Increase in productivity and technological know-how, which were spurred by investment, innovation, and the desire to make a buck, did. A slow economy, with less productivity and investment delays this process.

Why did the middle class benefit more than the rich? Middle class people can now afford quality large-screen flat-panel TVs, whereas before they couldn’t. And sure, the rich can afford yet better TVs now. However, currently, if you have the money, you can buy a 70 inch plasma TV for $10,000. But how much more benefit are you getting for that extra $8500 over a 50 inch TV, which almost any household can afford? Not much as compared to going from a small tube to a large plasma. Therefore, the effective benefit of advances in TV technologies was larger for the middle class.

Increase in productivity and technological advancements are the true equalizers of society. And a soak the rich, investment killing, productivity squashing, tax policy imposed by a socialist government, works against the very equality it claims to advance.

In the early 20th century, few people could afford such things as cars and airplane tickets, and up until the 1990’s few people could afford cell phones, yet today we take those for granted as things even many households that are considered poor can afford. What has caused this tremendous advances in the standard of living? Welfare programs? No! What has caused these advances that greatly benefited “the poor” is the desire of individuals and corporations to make money.

But wait, won’t the government take the money from the tax increases on the rich, reinvest it in the people and the economy, and generate economic growth that way?

No. Any growth resulting form government spending won’t come close to the growth generated by the private sector. That’s because the government is much more wasteful than the private sector and is not very good at allocating resources. The government is driven by what’s politically beneficial to elected officials and not by what’s most conducive to economic growth. Taking money from the private sector and giving it to the government can never create a sustainable long term benefit to the economy. To learn more about government waste and it’s consequences, go here.