A Personal Exploration Of Income, Consumption, Savings and Taxation (#economics, #politics, #taxation)

I thought it’d be interesting to explore my personal budgeting efforts in broad terms to illustrate some of the problems with mainstream public thinking about personal incomes, taxation and “hoarding” of savings by the rich. Now, I am not rich, but I do alright and I think I am safely in the “productively contributing to society and paying more than my fair share” so I think my example can be illustrative for the principles involved.

I took a look at my budget sheet for the full year, 2015, and in terms of percentages it broke down like this:

  • Personal consumption, 35%
  • Savings, 33%
  • Taxes, 32%

A few things should be noted right away. The first is that these taxes are directly levied on my income at the time I get my paycheck, this doesn’t serve as a comprehensive register of all taxes I paid, such as sales tax, gasoline consumption taxes, etc. The second is that I included my tax refund for 2014 in my income for 2015, which makes my income higher than it would be and raises my savings rate while lowering my tax rate. I’m not going to make a big deal about it, but it is there and it actually makes my tax rate and my savings rate closer to even, if not swinging more toward taxation.

Taking my percentage rates as above, the way to think about it simply is that for every $100 I earn in income, I enjoy personally, in the present, $35 worth of it; I pay $33 to the government; and then I save/”hoard” $32 of it, which we will get into more detail below. But the immediate idea is that I earn $100, but I actually only get immediate benefit from $35– you might already think that is too much and I shouldn’t get to enjoy so much of my own money, but it’s worth belaboring the obvious point that I don’t spend $100 if I earn $100, I spend a fraction of it and for me, that fraction is about 1/3rd, meaning that a majority of my income is not something I personally, immediately benefit from. This principle would extend to any other person based on their rates of consumption, savings and taxation, including “the rich”, and I would imagine for “the rich” their consumption percentage would actually be much lower than mine (because it gets really difficult to spend large amounts of money on personal consumption), while their rates of taxation (assuming they don’t have a sophisticated tax sheltering scheme) and savings are higher than mine.

Let’s look at that tax portion of my income at 32%. One way to look at what I pay in taxes is to say that I derive valuable use of goods and services provided by the government — roads, police and firefighter services, public utilities — and my taxes are a user’s fee for these items. Of course, virtually no government services (not even roads and highways via the gasoline tax!) are 100% funded by direct charge of fees on a pro rata basis, so this is a strange argument. In addition, most governments at the state level, and certainly this is true of my current state, and the federal government, run consistent budget deficits, which means they spend more than they take in on tax revenue. So if we want to look at it as “user’s fees”, it’d be a weird situation where you are charged only part of the cost of your use, and then some financier makes up the difference by lending it to the service provider who plans to charge you for the rest of your use at some date in the future.

Another thing to consider is that some people make use of government goods and services without paying anything for them. In cases of direct welfare subsidy, this is obvious and purposeful, they’re never meant to. In other cases, people simply make more use because of their behavior than they pay into the system, because of their income generation efforts. For example, someone might call the cops all the time, or have ambulances summoned on their behalf with greater frequency, or be a much bigger user of Medicare, than what they pay in to the system. Without making a moral commentary on this, it’s clear that looking at taxation as a “user fee” is not really a reasonable way to considering things because some users aren’t paying anything and using it a lot, and other people are paying a lot and not using much (hint: I’d skew more toward that end of the spectrum, I can’t remember the last time I made use of or was the “victim” of emergency services, I drive on the roads less than most people because I work close to home, hate traffic and spend a lot of time reading on my couch, and I generally pose a lower risk/cost to other members of my community while being more productive than average — based on income).

The point of all of this is to support the idea that, of my annual tax contribution, I do not get 100% of the benefit but only some fraction. It’s not easy to calculate what that fraction is (is it greater than 50%? Less than 50%?) so of the 1/3rd of my income that I pay in taxes, some portion of it doesn’t benefit me but other people.

Now let’s look at the savings portion. This is the part that always trips up the income-worrier crowd. Savings are interesting because clearly, for savings to be accumulated, one must abstain from direct personal consumption in the present, right? To have $1 of savings, that must mean I had the opportunity to spend $1 on my personal enjoyment but chose not to do that. It’s possible that at some future date I will make use of that $1 of savings, and so my savings are a form of “time-delayed enjoyment”– but it’s also possible I never get to, either because I die, or I lose them through increased taxation or inflation, or I simply choose not to do so either to maintain my optionality in perpetuity, or because I want to deploy my savings in an investment.

If I decide to invest my savings, I do so because I have the expectation of earning a return over time. One could argue that earning myself more resources is a benefit to me and thus my savings are providing me personal enjoyment, but again, unless I directly consume the return as future income, it will just end up funding taxes or funding my growing savings (and investment) in which case I get no direct personal benefit from the resources. But if I don’t get any direct personal benefit during this process, who does benefit?

An investment of savings is a method by which an individual or group of individuals with a profitable social project can make use of the saved resources to fund their project. I might make a loan to a company, or buy some of their equity, which they then use to buy supplies, pay workers, cover rent, etc., in the course of providing valuable goods and services to other people. For example, all “public companies” that can be bought and sold in the stock market are funded by the investment of savings provided by people like me, who choose not to spend all their income and instead turn over some of their resources to these companies who use them to: serve people coffee (Starbucks) or hamburgers (McDonald’s) or build housing (Lennar) or provide mobile telecom networks (Verizon), etc. I might be a customer of one or many of these companies myself and thereby earn a small incremental benefit from their existence, but the point is that these companies are primarily serving other people than myself and so my savings, in so far as they are invested, are not being used for my benefit but for other people’s.

So what if we go back to my rates of “spending” (consumption, savings and tax) and start adjusting them. My consumption is lower than it appears, because part of what is baked into my spending is sales taxes I’ve paid on purchases which fund local governments. Although the average sales tax rate is higher than this, some of my spending is comprised of things like rent which do not have an explicit tax component I pay (that is paid as property taxes by the property owner) so it might average out to about 4% of my total income. My consumption is now 31% and my taxation component is closer to 36%. However, some portion of what I pay in taxes I personally benefit from as well. This is really hard to estimate but I think I could conservatively say that I don’t benefit directly from at least 25% of what I pay in taxes. So let’s add back 27% to my personal consumption, so I am at 58% personal consumption and 9% taxation on my income spending. We’ll leave my savings rate alone at 33%, and we’ll simplify our analysis by saying that I invest my entire savings in each period, which is very nearly true. I have good cash management practices so I don’t generally need to fund my personal consumption from my accumulated savings, and while I do keep a balance of cash for emergencies, it’s not under my mattress but in a bank account so it’s being loaned out (for essentially 0 interest!).

Using me as an example, then, we can see that in an annual period, I personally and directly consume about 58% of my income (via my own spending and benefits I derive from government-provided goods and services which I paid for via taxation) while I do not make use of 42% of my income in each period (via savings deployed as investment, and money that is taxed to fund government services for other people). For every $100 I earn, $42 is being consumed by other people.

What’s the problem with “hoarding” in this case? If my savings “hoard” increases, it just pushes the proportion of my income which benefits other people higher.

Also, what is the problem with me earning a higher income? I can only enjoy so much of it myself. As I earn more and more, it is harder and harder to spend it on my own enjoyment and I tend to use less and less government services as a percentage of what I pay in taxes, so the benefits are accruing largely to the rest of society. You might say, “Well, if you’re not using the money anyway, why not have the government tax more of it away from you, or legally restrict your income to a certain cap so others can be paid more?” but that misses the point that, assuming we’re talking about a free and competitive market, I created the value I earn as an income as evidenced by the fact that other people voluntarily give it to me in exchange. If you stop me from earning it, then I stop producing it and it doesn’t simply shift to other people in society to enhance their income, the real value of it disappears altogether!

As I said, I am not rich, though I do alright. But if I was rich, these numbers would just keep skewing further and further toward providing value to other people than myself. If I was earning a billion dollars a year (which is different from saying I am a billionaire based on asset value), would it be reasonable to believe I enjoy even $10M of (1%) my income as direct personal consumption each year? That is A LOT of government services, fine meals, first class air travel, fancy cars, etc. when we’re talking about pure, after-tax dollars. At that point, fully 99% of my annual income is providing benefit to persons other than myself. What is greedy about that?

This isn’t meant to be a defense of any specific wealthy or high-income individual. There might be a lot of people engaged in illicit or corrupt personal gain. I am trying to provide some logic about the general principle of personal incomes and who actually benefits from them. If anyone is “selfish” with their spending, it’s probably lower income people who pay zero to negative taxes and don’t manage to save much if any of their income. People with higher incomes and high propensity for savings are largely funding the enjoyment and well-being of people other than themselves.

Leave a Reply

Your email address will not be published. Required fields are marked *