Benjamin Franklin famously said, “In this world nothing can be said to be certain except death and taxes.” On a recent edition of the Financial Sense Newshour, Jim Puplava talked to Dominic Frisby about Frisby’s new book, Daylight Robbery: How Tax Shaped Our Past and Will Change Our Future. They discussed underlying functions and powers of taxation and the role tax policy has played in world history and economic development.
Taxes as a Historical Constant
There has never been a civilization in human history without taxation, “taxes are as old as we are,” Frisby said. He’s a proponent of examining world history through the lens of taxation which, he said, tends to occur in a cyclical pattern.
Taxes are typically introduced during a crisis and are presented as temporary and at a lower rate. They then sneak up on you over time, increasing throughout the years. Historically, people have gone to great lengths to avoid paying taxes, creating distortions in behavioral patterns and decision making.
Additionally, money raised through taxation was often wasted, or spent in ways that upset those being taxed. Eventually, frustration builds to a point where citizens are fed up and either overthrow the system in a revolution or otherwise reform it.
The U.K.’s window tax, Frisby said, is a great example of this historical pattern. The tax was enacted in 1688 in order to drum up revenue for the wars the country was involved in across the European continent. The idea was for citizens to pay a tax for each window of their house. This was seen as easy tax by the government because you could walk past someone’s home and count the numbers of windows thus not needing to interact with a tax planner, and no one could say it was a violation of their privacy.
As the pattern goes, the amounts collected were low at first, but they increased over time as it became a large source of revenue for the government. People’s behaviors changed in order to avoid paying the tax. During the Industrial Revolution, citizens began blocking up their windows so they wouldn’t be taxed. Outbreaks of disease in the cities were made far worse by these cramped, damp, windowless dwellings. And of course, the people who suffered the most were the poor.
“That's the life cycle of a tax,” Frisby said. “We can apply the same thing to income tax. Income tax was enacted at a time of need to fund the first World War. … It was presented as temporary, but it never is. Income tax was first enacted in 1790 in the U.K. and it was presented as temporary then as well, and here we are. It still hasn't gone away. It only affected the rich at first. Now, however, everyone pays income tax.”
Do Lower Taxes Lead to Greater Prosperity?
Some societies have flourished under less restrictive tax policy such as Hong Kong. This is primarily because its people are hardworking, entrepreneurial and clever, Frisby noted, but the tax system certainly encouraged them.
In 1945, Hong Kong’s population was just 600,000 people and it's per capita GDP was on a level with most of the African continent. Within a generation and a half, it was around a fifth of what England's per-capita GDP was, Frisby noted, and even a smaller fraction of U.S. GDP.
By the late 1980s, Hong Kong’s per capita GDP was higher than that of the U.K., and in the late 1990s it overtook the U.S. Today, Hong Kong is one of the wealthiest regions in the world. Its per-capita GDP is almost twice that of the U.K.
There’s an idea dating back to the Mesopotamian era that citizens pay a tenth of their earnings to a governing body in exchange for protection, care for the poor and so on, Frisby said. “Hong Kong was roughly at 14 percent. That’s not far off. There was no income tax except for the very rich. And something like 40 percent of Hong Kong's tax revenue came from land taxes. So, they didn't tax labor, they taxed wealth and it was extraordinarily successful.”
Dangers of High Taxation
The large-state, social democratic model we currently take for granted is unlikely to continue as it is, Frisby said, in part because of tax policy. As it is constituted now, the government is the main provider of welfare, education, healthcare and other essential services— and this model is in jeopardy.
Within a generation, Frisby said, many nation-states will no longer exist. At the heart of this change will be taxation. Government spending far exceeds government revenue, and the government makes up for this shortfall with debt. Debt, Frisby noted, is nothing more than a tax on the future.
Governments also use a hidden form of taxation, what Milton Friedman called taxation without legislation. This is taxation in the form of inflation, Frisby said, where governments debase the value of the currency to reduce the value of debt obligations.
Ultimately, governments as they are currently configured will not be able to continue to supply services without an increase in taxes. However, accomplishing this increase is almost impossible without crisis to justify it, Frisby noted.
The nature of employment is changing, and more and more people are becoming freelancers. By some estimates, around 2030 half of the U.S. workforce will be contingent, and these freelance workers are much harder to tax.
“We've been talking about this for years, but many governments are going to go bankrupt,” Frisby said. “As a result, the nature of the nation state that know today will change. Borders will change, governments will fall, many countries will split up and divide. We're already seeing this in Europe now. Catalonia wants independence from Spain. In the U.K., we have Brexit. All these factors just mean that this social democratic model by which most of the developed world lives, 50 years from now won't exist.”
Another subtly dangerous form of taxation comes from monetary policy, Frisby said. One of easiest ways for a government to get rid of its debt burden is to inflate it away. Debt and inflation are closely tied together as excess debt usually leads to inflation.
It’s important to note that inflation isn't measured properly. Originally, inflation was defined as an increase in the money supply, and the consequence of this increase could be seen in higher prices. Now, inflation is defined as higher prices, and this only measures a small part of the economy in the form of a basket of consumer goods, which can be misleading.
Ultimately, the value of a currency is diluted, reducing the debt burden of paying old debt with new, debased currency. This is another example of Friedman’s taxation without legislation, Frisby said.
“It really is insidious because people don't realize it's going on,” Frisby said. “Keynes said that inflation happens in a way that not one man in a million is able to diagnose. It’s like the ultimate stealth tax. And one of the ways they keep it stealthy is by not measuring it properly. And then suddenly the price of goods and services is getting more expensive every year. Your wages meanwhile aren't getting any higher and people can't understand why they permanently feel the squeeze. … Over the last 100 years, the U.S. dollar has lost 95 to 99 percent of its purchasing power. I'm sure over the next hundred years it’ll lose another 95 or 98 percent.”
Massive Growth Ahead for the Digital Economy
As Frisby mentioned earlier, he believes nation states are headed for permanent decline. In their place, he said we’re likely to see the rise of the digital economy and borderless workers. This trend developed alongside the rise of internet and new reliance on gig work.
There’s extraordinary growth freelance work, which has led to the rise of digital nomads. These are freelance workers who are not tied to any one place, and thanks to the internet, are able to work in virtually any location.
If we look at the growth in Silicon Valley from 1990 to today, the market cap of the three largest companies is roughly 60 times higher. At the same time, those three largest companies today employ a quarter of as many people as did the three largest in 1990. There are a lot of people who make a living using Google, Facebook and Apple products, despite not being employees of these companies.
Of course, this creates difficult in setting tax policy. The world economy is cross-border now, and governments have not found a way to tax it effectively.
“The globalized economy of the internet is very difficult to tax,” Frisby said. “How do you control and regulate it if the work is taking place in jurisdictions over which you have no control? It's a big problem that governments are going to have.” The digital economy will see far greater growth than the physical economy, because it won’t be held back by high taxes. Frisby concluded, “If one economy is being taxed and the other economy isn't being taxed, you know where the growth is going to be.”
Written by Ethan D. Mizer