Taxation Versus Efficiency
FEBRUARY 01, 1989 by RICHARD JONES
Richard Jones is a winemaker/writer who built his own house in Sapello, New Mexico.
Adam Smith appreciated specialization. In The Wealth of Nations he cited the example of pinmakers. By Smith’s estimate an eighteenth-century pinmaker could produce, working by himself, fewer than 20 pins a day. However, by dividing the tasks involved in pinmaking, and with the aid of some specialized tools, 10 pinmakers could turn out 48,000 pins a day—or about 4,800 per worker,
In our day a skilled plumber can assemble pipes more efficiently than a carpenter. Not only does he have more experience at his job, he has specialized tools. By the same token a carpenter can frame a house more efficiently than a surgeon. And that surgeon can perform a heart bypass operation better than a mechanic. And the mechanic can . . . well, you get the idea. Specialization increases efficiency. Efficiency increases productivity. Productivity increases abundance.
All this should be obvious to anyone.
Well, almost anyone. It doesn’t seem so obvious to those who tax us.
Consider an example. Bob the Baker wants to build a new house. His plans call for a relatively modest structure costing $60,000. Going by a rule of thumb, Bob knows that half of the $60,000 will go for materials, the other half for labor. The $30,000 for labor represents twelve months’ work, say that of three framers for two months each, a cabinet maker for two months, a plumber for a month, an electrician for a month, a painter for a month, and a roofer/floor mechanic for a month. Twelve months of labor for $30,000.
As a hard-working baker, Bob earns $30,000 a year. Over the past five years he has saved the $30,000 to pay for the materials. Now you would suppose that since he earns $30,000 a year, he can work a year, give the builders that $30,000 and have his new house paid for. Right? Wrong.
Of his $30,000, Bob must turn over approximately half to Federal, state, and local governments in direct and hidden taxes. He faces sales taxes, property taxes, excise taxes, Social Security taxes, amusement taxes, state and Federal (and perhaps even city) income taxes—indeed taxes on virtually anything you can think of. By the time Bob finishes paying his direct and indirect taxes he has about $15,000 of his $30,000 left. Consequently, after taxes it will take him two years, not one, working as a baker to pay the workmen to build his house.
But suppose Bob is pretty handy with tools. He has learned a little bit about carpentry, plumbing, and wiring. The roofing and flooring he can figure out when he gets there. By his estimate Bob can build the house by himself in 18 months. That’s six months more than the combined labor of his specialists. Bob figures that he can quit his job as a baker, spend 18 months building his house, then go back to work baking the last six months of the second year and come out $7,500 ahead (‘,alter paying $7,500 in taxes on his $15,000 income).
Bob stashes his bread pans and shuts down his ovens. He saws and nails and plumbs and wires for 18 months. His house is finished.
Compared to hiring specialists to do the work, Bob not only has his new house, but an extra $7,500, too. Everything’s okay, right?
Well, it may be as far as Bob is concerned, but what about the economy as a whole? Eighteen months of work went into building a house which should have consumed only twelve months of labor. Six months of lost production means that fewer goods are produced. The economy suffers a net loss.
Whether taxation discourages the employment of carpenters or mechanics, of electricians or plumbers, the results will be the same. The more taxation discourages the advantages of specialization, the fewer goods will be produced. High taxes might appeal to some people, but they would seem plain foolish to the keen mind of Adam Smith.