I am a huge fan of helping my fellow neighbor out in any way I can, but before we blindly take steps that feel good, maybe it would be prudent to look at the details of what we are actually doing. Take example the question, should we raise Capital Gains tax or lower it? Some would say without question, "Raise the tax!! Only the rich realize capital gains anyway, with the extra tax revenue we can send a welfare check to someone who doesn't generate any tax revenue, and ensure that they have no incentive to try!" Others might say "Lower the rate!! It will stimulate economic activity... and isn't that the best way to help everyone?"
I guess the question comes down to what are we trying to achieve, do we want to try and funnel more money to the lower income workers, or do we want to spur economic growth with lighter tax restrictions. Let’s look at each one of these goals a little closer.
If we wanted to give more money to lower income workers then we would have to get that money from somewhere, so lets take it from the 'rich' with higher Capital Gains taxes. O.k., on the surface this seems logical, but in reality Uncle Sam would receive less revenue from an increased tax, thus having less money to 'spread around'. The reason for this is that people only have to pay a Capital Gains tax when they sell an asset, so if I know that I would be taxed heavily on the profits from my asset, well I just won't sell it and good old Uncle Sam won't get anything. However, if I’m not going to be taxed as heavily on my profits, then I won't mind giving a little to Uncle Sam and would be more likely to sell my asset. This is not a theory and it is historically proven that when the Capital Gains tax is raised, Uncle Sam receives less revenue, and when the tax is lowered, more revenue comes in (fig 1).
It is also not hard to see that if people are more likely to sell their assets, they will be stimulating the economy and providing a catalyst for economic growth. However, with a higher tax rate, they again will not sell their assets and lead the way for stagnation in the economy.
So, now I’m confused, what exactly would we gain from increased Capital Gains tax?
