Distributional effects of federal tax policy 1929–1939

EXPLORATIONS

IN ECONOMIC

HISTORY

21, 40-63 (1984)

Distributional Effects of Federal Tax Policy 1929-i 939 THOMAS M. RENAGHAN” University

of California,

Davis

Tax policy clearly has distributional impacts. These impacts are often controversial enough to warrant tackling the ever-difticult task of estimating incidence. This paper reexamines the distribution of U.S. federal taxes across income size classes in the 1930s a decade for which distributional effects have often been asserted but only very crudely measured. Both Hoover and Roosevelt viewed tax policy as a legitimate means of equalizing the prevailing distribution of income. When Congress was hammering out the Revenue Act of 1932, for example, Hoover (1952, p. 136) wrote to Charles R. Crisp, Chairman of the House Ways and Means Committee, that Several millions of dollars is economic power and too often it falls into the hands of persons of little intention to use that power for public benefit, either.in expansion of enterprise and employment or for public service. It is the breeding ground of play boys and play girls of morally obnoxious and degenerating character.

Hoover’s distrust of the “morally obnoxious” rich is reflected in his December 1931 proposal for higher personal income and estate and gift taxes, which were enacted in the Revenue Act of 1932 along with the excise taxes he had not favored (Stein, 1969). But it is Roosevelt rather than Hoover who is better known for his attempt to use taxation to equalize the prevailing distribution of income. On numerous occasions, Roosevelt, pointing to the evils of concentrated wealth, characterized himself as a proponent of a more egalitarian distribution of income. In calling for passage of the Wealth Tax Act of 1935, the President (Roosevelt, 1939, p. 61) asserted that the nation’s tax laws “have operated to the unfair advantage of the few and they * The author thanks Peter H. Lindert, Thomas Mayer, Michael N. Hayes, Alan L. Olmstead, Marta Olney, Richard Sutch, and two anonymous referees of this Journal for helpful comments on earlier drafts of this paper. Correspondence should be directed to Thomas M. Renaghan, Department of Economics, Kerr Hall, University of California, Davis, California 95616. 40 0014-4983/84 $3.00 Copyright Au rights

0 1984 by Academic Press, Inc. of reproduction in any form reserved.

FEDERAL

TAX POLICY

41

have done little to prevent an unjust concentration of wealth and economic power. ” In the same year Roosevelt told an emissary of William Randolph Hearst that “I want to save the capitalistic system: to save it is to give some heed to world thought today. I want to equalize the distribution of wealth . . . it may be necessary to throw to the wolves the forty-six men who are reported to have incomes in excess of one million dollars a year” (Schlesinger, 1960, p. 325). With exception of the Revenue Act of 1938 Roosevelt was successful in obtaining passage of higher personal income, estate and gift, and corporate tax rates. The question, then, is, Did the tax policies of these President’s equalize the postfiscal distribution of income? I answer this question by calcdating and comparing the total tax burden and the associated gini coefficients in 1929, 1933, 1936, and 1939.’ I find that in 1929 the average burden of all federal taxes was mildly regressive between the lowest income bracket (those with incomes below $1000) and the broad middle group (with incomes ranging from $1000 to $.5000), and progressive between the remaining brackets.* While the Revenue Act of 1932 raised the tax burden of all but the lowest bracket, it had its chief impact on the very top bracket-those with incomes above $20,000. The Revenue Act of 1932did not, however, result in any substantial redistribution of income. In 1933 the difference between the pre- and postfiscal gini coefficients was very small. The Revenue Acts of 1934 and 1935, with~their provisions sharply raising personal income, estate and gift, and corporate tax rates, again shifted taxes toward the rich. These increased tax rates were very successful in offsetting a trend of rising prefiscal income inequality between 1933 and 1936. In 1936 the difference between the pre- and postfiscal gini coefficients was greater than in any other year of the thirties. In 1938 a more conservative Congress slashed capital gains taxes and eliminated the undistributed profits tax. This reduced the tax burden of the upper income brackets. Hence, between 1936 and 1939 federal taxation did very little to offset a further trend toward prefiscal income inequality.3 METHOD

Crucial to any tax burden study are the incidence assumptions applied to each tax. In this paper I adopt the tax incidence assumptions employed by Reynolds and Smolensky, shown in Table 1. Reynolds and Smolensky 1 The total tax burden is defined as the sum of all federal taxes-personal income, estate and gift, corporate income, and excise taxes---paid by each bracket. ’ I am defining progressivity in the following sense: If the tax burden expressed as a percent of average net income rises between each successive bracket it is regressive; if it declines between each bracket it is regressive. For other measures of progressivity see Musgrave and Musgrave (1980, p. 376). 3 Between 1936 and 1939 the prefiscal gini coefficient rose. This is shown in Table 10.

42

THOMAS

M. RENAGHAN

TABLE 1 Tax Incidence Assumptions Tax Personal income tax Estate and gift tax Corporate income tax Excise taxes

Distributor by income class Personal income tax Two highest income classes 1%dividends, % consumption of all items Consumption of taxed items

Source. Reynolds and Smolensky (1977).

(1977, p. 49) identify these assumptions as intermediate: “more regressive or progressive assumptions are plausible.” There is general agreement that personal income and estate and gift taxes are not shifted and that excise taxes are borne by the consumers of the taxed items. Pechman and Okner (1974, p, 73), for example, assume That the individual income tax is not shifted and excise taxes are borne by consumers in proportion to their consumption of the taxed items.

Excise taxes have been allocated on the basis of the relative consumption of the taxed items. The National Resource Council’s (NRC) 19351936 study served as the basis for the allocation of excise taxes (National Resources Council, 1939). This study is reliable for allocating excise taxes in 1936, but relative consumption patterns no doubt varied over the course of the ‘thirties. Therefore, based on the NRC study, a rough pass at a set of piecewise linear splines was used to derive a set of consumption expenditure estimates for 1929, 1933, and 1939. This is discussed in the Appendix. While there is general agreement that personal income and estate and gift taxes are not shifted and that excise taxes are borne by consumers of the taxed items, there is no consensus concerning who bears the burden of the corporate income tax. As Joseph Pechman (1977, p. 24) puts it, There is no general agreement about who really pays it. Some believe that the tax is borne by the corporation and hence their stockholders. Others believe it depresses the rate of return to capital throughout the economy, and it therefore is borne by the owners of capital in general. Still others argue that the tax is passed on to consumers through higher prices, or may be shifted back to workers through lower wages. Some believe that it is borne by all three groups-stockholders, consumers, and wage earners-in varying proportions.

FEDERAL

TAX POLICY

43

Thus, the assumption that one-half of the corporate income tax is borne by dividend recipients and one-half by consumers represents a compromise between those who view the corporate income tax as falling entirely on corporations and hence their stockholders, and those who assert that the tax is passed on to consumers through higher prices. The portion of the corporate income tax shifted to dividend recipients was distributed in proportion to dividends received by each income class. My final results are, however, only slightly affected by the corporate income tax incidence assumption. It is unclear whether social security taxes should be included in the tax burden. Martin Feldstein, for example, suggeststhat social security taxes represent a valuable insurance premium that reduces the need for private savings (1974). In this paper I assume that Feldstein is correct. I do, however, present two variants of the 1939 tax burden--one in which social security taxes are excluded and one in which they are included in the tax burden.* THE FEDERAL TAX BURDEN

IN 1929

The 1929 federal tax burden is shown in Table 2 and Fig. 1. It is slightly regressive between the lowest bracket, with incomes below $1000, and the broad middle group, with incomes ranging from $1000 to $5000, and progressive thereafter. One question is how the legislative changes in the tax code enacted between 1929 and 1939 shifted the tax burden. Therefore, it is useful to review some of the major revisions in the tax laws enacted in this period. FACING THE ONSLAUGHT

OF HIGHER TAXES

The first major revision in the nation’s tax laws passed in this period was the Revenue Act of 1932. Motivated by a desire on the part of President Hoover and the Democratic Congress to restore “confidence” through a balanced budget, the Revenue Act of 1932 represented one of the largest peacetime tax increases in U.S. history. This tax law raised personal income, estate and gift, corporate income, and excise tax rates. The Revenue Act of 1932 raised existing excise tax rates on tobacco, sporting goods, furs and jewelry, and theatre admissions, and it imposed new taxes on gasoline, lubricating oils, tires, brewers’ wort, malt syrup, and grape concentrates, to name just a few (Ratner, 1967, p. 448). Tax rates on normal and surtax net income were also raised. The normal tax rate was raised from 1.5%on the tist $4000above the exemption level, 3% on the next $4000, and 5% on the remainder to 4% on the first 4 If social security taxes are included in the 1939 tax burden it is more regressive between the four lowest brackets. The total tax burden including social security taxes is shown in the bottom row of Table 8. Social security taxes were taken directly from Colm and Tarasov (1941, p. 4.5).

3.46 25.53 28.99

2.75 9.27 12.02

0.58 1.96 2.54

Tax Burdens (% of average net income) Personal Excise Total

0.26 1.90 2.16

0.03 3.43

0.00 2.75

1334

473

Tax collections ($1936) Personal income tax Estate and gift tax Corporate tax shifted to dividend recipients Total personal taxes Total excise taxes Total taxes

1661

585

13,037

1993

$lOOO$2000 $809$1618

Consumer units (000)

Less than $1000 Less than $809

Average net income ($1929) Average net income ($1936)

Income classes ($1929) Income classes ($1936)

0.47 1.57 2.04

9.20 30.65 39.85

0.18 9.02

1956

2418

7512

$2000$3000 $1618$2427

0.48 1.56 2.04

15.13 49.09 64.22

0.48 14.65

3154

3898

4428

$3000$5000 $2427$4045

TABLE 2 The Tax Burden of 1929

2.12 1.17 3.29

116.95 64.33 181.28

4.22 112.73

5511

6811

2241

$5000$10,000 $4045$8091

4.88 0.97 5.85

477.13 94.72 571.85

36.38 440.75

9769

12,074

632

$10,000$15,000 $8091$12,136

8.06 0.95 9.01

l,llO.ll 131.16 1241.27

130.43 37.96 941.72

13,773

17,024

172

$15,000$20,000 $12,136$16,181

9.89 0.57 10.46

5156.59 295.89 5452.48

292.42 168.89 4695.28

52.159

64,468

288

Above $20,000 Above $16,181

FEDERAL

TAX

POLICY

45

46

THOMAS

M. RENAGHAN

$4000 and 8% on the remainder. The personal exemption for a single individual was reduced from $1500 to $1000 and from $3500 to $2500 for the head of a family or married couple. The 25% earned income credit, established in the Revenue Act of 1928, was eliminated (Ratner, 1967, p. 448). The 1932 surtax rates began at 1% on the amount of net income in excess of $6000 and increased by steps of 1% on each $2000 bracket of income until they reached 47% on the $98,000-$100,000 bracket. The brackets then increased in size, and the maximum rate of 55% was levied on net income over $1 million. Previously surtax rates were graduated from 1% on net income in excess of $10,000 to 20% on net income over $100,000 (Ratner, 1967, p. 449). The corporate income tax rate was raised from 12% to 13.75%. Affiliated corporations filing consolidated returns faced a tax rate of 14.5% (Ratner, 1967, p. 448). THE FEDERAL TAX BURDEN IN 1933 The federal tax burden in 1933 is shown in Table 3 and Fig. 1. In contrast to the 1929 tax burden it displays progressivity between each successive bracket. How did the Revenue Act of 1932 shift the tax burden between 1929 and 1933? This tax law shifted taxes primarily to the very top bracketwith incomes above $20,000. This is clearly seen in Table 4 where between 1929 and 1933 the tax burden of this top group rose by 19.8 percentage points.5 The remaining upper brackets-with incomes between $5000 and $20,000-were paying higher taxes in 1933 than were the brackets with incomes below $5000. But it is the rise in the tax burden of the top bracket which stands out in Table 4. The higher personal income, estate and gift, and corporate taxes levied in the Revenue Act of 1932 were clearly responsible for the rise in the tax burden of the upper brackets, and the $3000-$5000 bracket. Turning again to Table 4, these groups experienced larger rises in their personal tax burden than in their excise tax burden. The chief impact of the Revenue Act of 1932, then, was to shift taxes toward the upper brackets, and the top group in particular. 1933-l 936 SOAKING THE RICH Roosevelt continued what Hoover began. Despite his 1932 Presidential campaign pledge to reduce taxes, tax rates were raised sharply in 1934 and 1935. The Revenue Act of 1934 increased tax rates on normal and surtax net income, estates and gifts, and extended the excise tax rates 5 The tax burden in 1929 expressed as a percent of average net income was subtracted from the tax burden in 1933 expressed as a percent of average net income.

4.27

5.40 37.80 43.20

0.91

0.91 14.80 15.71

0.13 2.07 2.20

Tax burdens (% of average net income) Personal Excise Total

0.36 2.50 2.86

1.13 -

1514

713

0.00 -

1414

9762

$2000 $1071$2141

$lOOO-

667

26,158

Less than $1000 Less than $1071

Tax collections ($1936) Personal income tax Estate and gift tax Corporate tax shifted to dividend recipients Total personal taxes Total excise taxes Total taxes

Average net income ($1933) Average net income ($1936)

Consumer units (000)

Income classes ($1933) Income classes ($1936)

0.68 2.22 2.90

18.35 59.74 78.09

15.67

2.68 -

2694

2516

3076

$2000$3000 $2141$3212

2.35 2.08 4.43

92.61 81.97 174.58

74.00

18.61 -

3945

3685

1058

$3000$5000 $3212$5153

TABLE 3 The Tax Burden of 1933

7.27 1.64 8.91

520.72 117.24 637.96

399.96

120.76 -

7158

311

$5000$10,000 $5153$10,701

11.51 1.40 12.91

1666.89

180.26

1486.63

1110.56

376.07 -

12.916

12,064

68

$10,000$15,000 $10,701$16,060

13.85 1.32 15.17

2593.92 246.60 2840.52

29.47 0.86 30.33

429.48 lt(156.28

14,735.78

5843.50 688.77 8203.51

49,996

18.728

660.75 136.05 1797.12

46,696

48

Above $20,000 Above $21,143

17,492

27

$15,000$20,000 $16,060$21,143

THOMAS

M. RENAGHAN

FEDERAL

TAX

POLICY

49

passed under terms of the Revenue Act of 1932. In addition, the Liquor Taxing Act of 1934, passed 1 month after the repeal of prohibition, became effective January 12, 1934. The Revenue Act of 1934 imposed a flat normal tax of 4% on all net income. This replaced the 1932provision for a normal tax of 4% on the first $4000 of net income and 8% on the remainder, While the 1932 surtax was graduated from 1% on net income over $6000 to 55% on net income over $1 million, the 1934 surtax began at 4% on net income over $4000 and rose to a maximum rate of 59% on net income over $1 million. The earned income credit, repealed in 1932, was restored by the Revenue Act of 1934. The credit allowed, however, was 10% instead of 25% and applied to earned income below $14,~0 (Ratner, 1967, p. 465). The 1934 tax legislation also introduced a new method of capital gains taxation. Prior to 1934 taxpayers had the option of paying regular tax rates on capital gains on assets held over 2 years or singling them out for a special tax rate of 12.5%. This was abolished by the Revenue Act of 1934. In its place regular tax rates, those on normal and surtax net income, were applied to the percentage of the gain on the sale of capital assets reported on tax returns. The percentage of capital gains reported varied from 100% on assets held less than 1 year to 30% an assets held for more than 10 years (Peppers, 1970, p. 217). In 1935 Roosevelt made tax legislation the centerpiece of his attack upon the “economic royalists” opposing the New Deal, The Revenue Act of 1935, more commonly known as the Wealth Tax Act of 1935, was intended, by the President at least, to correct an “unjust concentratiun of wealth and economic power.” It left tax rates on normal net income unaltered from the rates established in 1934, but it sharply raised the rates on surtax net income. The 1935 surtax ranged from 31% on net income over $50,000 to 75% on net income over $5 million (Ratner, 1967, p. 469). The 1935 tax law also replaced the 13.75% corporate income tax with a tax graduated as follows: 12.5% on net income below $2000, 13% on net income between $2,000 and $15,000, 14% on net income between $15,000 and $20,000, and 15% on net income over $20,000 (Ratner, 1967, pp. 469, 470). In lirmewith the President’s attack on the concentration of wealth, the Revenue Act of 1935 also sharply raised estate and gift tax rates. The 1935 estate tax rates ranged from 2% on the value of estates below $10,000 to 69% on estates in the $20 million-$50 million bracket. The 1935 gift tax rates ranged from 1.5% on gifts below $10,000 to 52.5% on gifts over $50 million (Ratner, 1967, pp- 470, 471). Conservatives denounced the higher tax rates contained in the:Revenue Act of 1935 as tantamount to outright expropriation. William Randolph He&t, for example, wired his editors, “President’s tax program is es-

50

THOMAS

M. RENAGHAN

sentially Communism,” adding that it should be ascribed to “a composite personality which might be labelled Stalin Delano Roosevelt” (Schlesinger, 1960, p. 329). The Philadelphia Inquirer charged that the Revenue Act of 1935 was “a bald political stroke . . . to lure hosannas from the something-for-nothing followers of Huey Long, ‘Dot’ Townsend, Upton Sinclair, and the whole tribe of false prophets” (Leuchtenberg, 1963, p. 152). THE FEDERAL TAX BURDEN IN 1936 The federal tax burden in 1936, shown in Table 5 and Fig. 1, displays progressivity throughout the income distribution. We are also interested in how the Revenue Acts of 1934 and 1935 shifted the tax burden. Table 6 reveals that similar to the Revenue Act of 1932, the 1934 and 1935 tax laws shifted taxes disproportionately to the top two brackets, with the top group receiving the lion’s share of the increase. Between 1933 and 1936 the tax burden of the very top bracket rose by 12.4 percentage points and the tax burden of the rich $15,000-$20,000 group rose by 3.3 percentage points. The shift in the tax burden of the remaining groups was very small-less than one percentage point. The bulk of the taxpayers, then, emerged unscathed from the higher tax rates enacted between 1933 and 1936. TAX RELIEF FOR THE RICH In 1938 Roosevelt’s “soak the rich” tax policies met with a sharp reversal. Republican gains in the 1938 Congressional elections allowed a coalition of conservative Southern Democrats and Republicans to modify many of the taxes that business and upper income groups found objectionable. The Revenue Act of 1938 eliminated the 1936 undistributed profits tax and reduced capital gains taxes. Yet, repeal of the undistributed profits tax was not solely the work of “reactionary” Republicans and Southern Democrats. Abolition of this tax was also favored by many ardent New Dealers. As Leuchtenberg (1963, p. 260) explains, Business Democrats like Bernard Baruch and Joseph Kennedy won unanticipated support from New Dealers like Marriner Eccles, who believed the tax had helped cause the downturn (of 1937-1938), and Harry Hopkins, who was accused of currying business support for the 1940 nomination . . . With the administration divided, the “Baruch men” in the Senate, Pat Harrison and Jimmy Byrnes, were able to push through a new measure which repealed the undistributed profits tax , . . When Roosevelt threatened a veto, House conferees managed to restore the unpopular tax in principle but little more.

The 1936 special surtax on undistributed corporate net income ranged from 7% on the first 10% of net income retained to 27% on the net income retained in excess of 60% of the corporation’s total income.

5.60 42.63 48.23

2.01 18.75 20.76

0.30 2.78 3.08

Tax burdens (% of average net income) Personal Excise Total

0.39 299 3.38

4.60

1.00 -

1426

13,920

$lOOO$2000

0.01 2.00

675

18,359

Less than $1000

Tax collections ($1936) Personal income tax Estate and gift tax Corporate tax shifted to dividend recipients Total personal taxes Total excise taxes Total taxes

Average net income ($1936)

Consumer units (000)

Income classes ($1936)

2.74 3.53

0.79

19.83 69.22 89.05

3.15 16.68

2523

4434

$2000$3000

2.26 2.61 4.87

83.81 96.76 180.57

17.72 66.09

3714

1618

$3000$5000

TABLE 5 The Tax Burden of 1936

7.10 1.99 9.09

479.38 134.22 613.60

133.16 346.22

6752

596

$SOOO$10,000

11.19 1.69 12.88

1348.65 203.45 1552.50

442.83 905.82

12,052

153

$10,000$15,000

16.84 1.65 18.49

2899.07 283.43 3182.50

835.05 557.35 1506.67

17,219

68

$15,000$20,000

-

41.74 1.02 42.76

19,088.55 467.76 19556.31

8629.72 3100.90 7357.93

45,732

110

Above $20,000

Personal tax shift Excise tax shift Total tax shift

Income classes of 1936 ($1936) Income classes of 1933 ($1933)

0.17 0.71 0.88

Less than $1000 Less than $1071

0.03 0.49 0.52

$lOOO$2000 $1071$2141 0.11 0.52 0.63

$2000$3000 $2141$3212 -0.09 0.53 0.44

$3000$5000 $3212$5353

TABLE 6 The Shift in the Tax Burden 1933-1936

-0.17 0.35 0.18

$10,000 $5353$10,701

- 0.32 0.29 - 0.03

$15,000 $10,701$16,060

$SOOO-$10,000-

2.99 0.33 3.32

$15,000$20,000 $16,060$21,143

12.27 0.16 12.43

Above $20,000 Above $21,143

ti

E

F

E

FEDERAL

TAX POLICY

53

Coupled with this tax was the normal tax on corporate net income which was graduated from 8% on the first $2000 of net income to 15% on the amount over $40,000. The Revenue Act of I938 taxed corpora&us earning $25,000 or less at 12.5% on the first $5000 of net income; 14% on net income between $5000 and $20,000; and 16% on the next $5000. Corporations earning more than $25,000 paid a tax ranging from 16.5 to 19.0% in accordance with the percentage of profits retained (Ratner, 1967, p. 479). The Revenue Act of 1938 also reduced the percentage of capital gains on assets held over 1.5 years that had to be reported on tax returns. The differing treatment of capital gains under the Revenue Acts of 1934 and 1938 is shown in Table 7. The new treatment of capital cams favored the upper brackets. As Gerhard Colm (1938, p. 259) remarked, “The main points of the tax revision are that capital gains are taxed at what is in effect a lower rate than that for other income, and that progression in the taxation of capital gains stops earlier than progression in the taxation of other income.” THE FEDERAL TAX BURDEN

IN 1939

The 1939federal tax burden is shown in Table 8 and Fig. 1.6It displays regressivity between the three lowest brackets and progressivity between the remaining brackets. How did passage of the Revenue Act of 1938 shift the tax burden between 1936 and 1939? It is clear from Table 9 that this tax law had its chief impact on the upper brackets and the very highest bracket in particular. Between 1936 and 1939 the top group’s tax burden declined by 19.1 percentage points. The tax burden of the remaining upper bracketswith incomes between $5000 and $20,000-also declined between 1936 and 1939, but it was not nearly as pronounced as the decline in the tax burden of the very top bracket. It is true that between 1936 and 1939 the tax burden of the $3000-$5000 bracket declined but it was very small-less than 1 percentage point. The tax burden of the groups with incomes below $3000, on the other hand, rose slightly between 1936 and 1939. With the exception of the very bottom bracket, however, the tax burden of these groups rose by less than one percentage point. One question remains: Why did the tax burden of the upper brackets decline between 1936and 1939?The answer is repeal of the undistributed profits tax and the revision of long-term capital gains taxes enacted in 1938. Repeal of the undistributed profits tax is reflected in the rise in after-tax undistributed profits. Between 1938 and 1939 after-tax undis6 For an earlier discussion of the federal tax burden in 1939 see Colm and Tarasov (1941) and Adler in Poole (1951).

54 A Comparison

THOMAS

TABLE 7 of Capital Gains to be Reported under Terms of the Revenue Acts of 1934 and 1938

Revenue Act of 1934 Number of years asset held Under 1 l-2 2-5 5-10 Over 10

M. RENAGHAN

Revenue Act of 1938 Percentage of capital gains to be reported

Number of years asset held

Percentage of capital gains to be reported

100 80 50 40 30

Under 1.5 1.5-2 Over 2

100 66.6 50

Source. United States Bureau of Internal Revenue (1940).

tributed profits rose from a negative $0.2 billion to $1.8 billion (U.S. Dept. of Commerce, 1965, p. 154). Repeal of the undistributed profits tax also meant that corporations were no longer penalized fro retaining corporate surpluses, and hence could pay out fewer dividends. The average dividend per consumer unit declined between 1936 and 1939, and therefore the portion of the corporate income tax burden slitted to dividend recipients declined in this period. The corporate tax burden of the top bracket, for example, fell from 16.09% of average net income in 1936 to 8.63% of average net income in 1939. We are also interested in how the tax burden shifted over the course of the thirties. Turning again to Table 9 it was the very top bracket which bore the brunt of the higher tax rates enacted between 1929 and 1939. Between 1929 and 1939 this group’s tax burden rose by 13.2 percentage points. This dwarfed the tax increase of the remaining brackets. In comparison to the experience of the top bracket, then, the rise in the tax burden of the remaining groups over the course of the thirties was mild. The remaining upper brackets did, however, receive larger tax increases than the broad middle and lowest brackets. Between 1929 and 1939 the very bottom bracket and the $3000-$5000 group received the lightest tax increases. Thus, over the 1930s taxes were shifted disproportionately towards the very top of the income distribution. While the fairly rich groups, with incomes. between $5000 and $20,000, paid higher taxes than the remaining brackets, the rise in the tax burden of these groups was not nearly as large as that experienced by the very top bracket.

units

(000)

Tax burdens (% of average net income) Personal Excise Total Total (including social security -

tax)

collections ($1936) Personal income tax Estate and gift tax Corporate tax shifted to dividend recipients Total personal taxes Total excise taxes Total taxes

Tax

Average net income ($1939) Average net income ($1936)

Consumer

Income classes ($1939) Income classes ($1936)

8.01 48.46 56.47

3.51 29.59 33.10

0.56 3.41 3.97 4.72

6.38

3.46

0.52 4.36 4.88 5.85

-

0.05 -

1.63

0.54 3.20 3.74 3.99

13.63 80.18 93.81

2.46 11.17

2509

1422

678

8654

$2000$3000 $1996$2994

2514

13,112

$lOOO$2000 $998$1996

1425

-

1.33 3.05 4.38 4.59

49.07 112.64 161.71

11.37 37.70

3695

3702

4169

$3000$5000 $2994$4990

TABLE 8 Tax Burden of 1939

679

13,858

Less than $1000 Less than $998

The

3.96 2.35 6.31 6.31

264.28 156.67 420.95

78.84 185.44

6670

6683

1062

$5000$10,000 $4990$9980

6.23 2.01 8.24 8.24

753.49 242.58 966.07

263.56 489.93

12,088

12,122

246

$10,000$15,000 $9980$14,970

~____-

10.19 2.00 12.19 12.19

1748.70 343.73 2091.93

492.54 352.23 903.93

17,160

17,194

103

$15,000$20,000 $14,970$19,960

22.34 1.32 23.66 23.66

9433.63 558.79 9992.42

3841.40 1947.91 3644.32

42,226

42,310

166

Above $20,000 Above $19,960

of 1936

of 1939

of 1929

of 1939

Personal tax shift Excise tax shift Total tax shift

Income classes ($1936) Income classes ($1936)

Personal tax shift Excise tax shift Total tax shift

Income classes ($1936) Income classes ($1936)

-0.06 2.40 2.34

Less than $998 Less than $809

0.22 1.58 1.80

Less than $998 Less than $1000

0.30 1.51 1.81

$998 $1996 $809 $1618

1.17 0.42 0.59

$998$1996 $lOOO$2000

The

0.07 1.63 1.70

$1996 $2994 $1618 $2,427

-0.25 0.46 0.21

$1996$2994 $2000$3000

0.85 1.49 2.34

$2994 $4990 $2427 $4045

-0.93 0.44 -0.49

$2994$4990 $3000$5000

TABLE 9 Shift in the Tax Burden 1936-1939 1929-1939

1.84 1.18 3.02

$4990 $9980 $4045 $8091

-3.14 0.36 -2.78

$4990$9980 $SOOO$10,000

1.35 1.04 2.39

$9980 $14,970 $8091 $12,136

-4.96 0.32 -4.64

$9980$14,970 $10,000$15,000

2.13 1.05 3.18

$14,970 $19,960 $12,136 $16,181

- 6.65 0.35 -6.33

$14,970$19,960 $15,000$20,000

12.45 0.75 13.20

Above $19,960 Above $16,181

- 19.40 0.30 -19.10

Above $19,960 Above $20,000

5

$

%

&

E

2

FEDERAL

PERCENTAGE

TAX POLICY

57

TAX BURDENS BORNE BY POPULATION PERCENTILES

Any tax burden study would be seriously amiss if it did not adjust for the changing distribution of consumer units. The magnitude of this change is illustrated by the rise in the number of consumer units in the bottom bracket between 1929 and 1933. In this period the percent of the total number of consumer units in the lowest bracket rose from 22.0 to 64.7%. Figure 2 incorporates these shifts and the tax rates from Tables 2, 5, and 8. The tax rates are plotted on the vertical axis. Consumer units are ranked cumulatively from the lowest (0%) to the highest income (100%) on the horizontal axis.7 In 1929, for example, that bottom 22.0% of the total population of consumer units bore a tax burden of 2.5% of average net income, as shown by the segment AB. What does Fig. 2 tell us about the course of taxation in the thirties? First of all, while the Revenue Act of 1932 shifted taxes toward the very highest bracket, this bracket comprised only 0.12% of the total number of consumer units in 1933. It is true that between 1929 and 1933 the brackets with incomes between $5000 and $20,000 experienced steeper tax increases than did the brackets with incomes below $5000. These groups, however, also constituted a small fraction of the total population of consumer units in 1933-only 0.99%. For the vast majority of consumer units the Revenue Act of 1932involved no material change in tax burdens. Between 1933 and 1936 taxes were again shifted to the top of the income distribution. The top two brackets, comprising only 0.45% of the total number of consumer units in 1936, had their taxes raised by more than the remaining brackets. The bulk of the consumer units, then, were only marginally affected by the higher tax rates legislated in 1934 and 1935. Passageof the Revenue Act of 1938, with its provisions slashing capital gains taxes and abolishing the undistributed profits tax, shifted taxes disporportionately away from the top bracket. While the number of consumer units in the top bracket rose between 1936 and 1939, in 1939 the top bracket accounted for only 0.40% of the total number of consumer units. The remaining upper brackets, accounting for 3.41% of the total number of consumer units in 1939, also had their taxes reduced. The 7 The number of consumer units in 1929 was taken from Levin et al. (1934). The number of consumer units in 1936 was taken from the National Resources Council (1939). Since there is no study detailing the number of consumer units in 1939, Pecbman’s estimate of the number of consumer units in 1941 was used as a proxy for 1939. See Pechman (1951). The number of consumer units in 1933 was derived as follows: I first calculated the ratio of tax returns to consumer units in each income class in 1936; I then multiplied the number of tax returns in each income class in 1933 by the 1936 ratio of tax returns to consumer units. This yields the number of consumer units in each income bracket in 1933.

Rate

5

10

20

jo

1939 .. . . ..._. .. . . . 4 -1

87 6'

10 9-

20

30

40

50

I

Tax

(Per cent)

40

50

60

70

Cummulative

90 91 Per

92 Cent

93 of

Consumer

94

percentile.

Units

95

r .-.-.-.-. - .-.-.-. . . . . . . . . . .I...

FIG. 2. The tax burden by population

80

. . .._...........-....I

prJ '"'3 ;;

96

97

98

99

r---" . ., . . .5;. i I I . . _. . _ _. . . . . i-.. . .-..: I r" t : L.-. .-. -I . . *:r'r-- w--m-- -----;

1929_.

1939+..

100

.: '1 I

i!

6’

-a. iI 1933 -;,

1936

10

20

30

40

50

FEDERAL

TAX POLICY

59

bulk of the consumer units with incomes below $3000 experienced a slight rise in their tax burden between 1936 and 1939. Figure 2 shows that over the course of the thirties every group of consumers was paying higher taxes than in 1929. The 1939 tax curve is everywhere above the 1929 tax curve. Yet, it is at the very bottom and the very top of the income distribution that the disparity between the 1929 and the 1939 tax curves is most pronounced. Members of the top income class, only 0.40% of the total population of consumer units in 1939, were paying much higher taxes in 1939than they had in 1929. The groups with incomes ranging from $5000 to $20,000, the 96.2nd to the 996th percentile, experienced larger tax increases than did the groups with incomes between $1000 and $3000, the 65.2nd to the 86.lst percentile. And, the lowest bracket, covering the lower 33.5% of the total population of consumer units, had their taxes raised by a greater percentage than the groups with incomes between $1000 and $3000. THE PATTERN

OF INEQUALITY

Changes in pre- and post-tax income inequality are summarized by the gini coefficients for 1929, 1933, 1936, and 1939 shown in Table 10.’ Table 10 clearly shows that with the exception of 1936 federal tax policy had very little influence on the distribution of income. In 1929, for example, the difference in the pre- and postfiscal gini coefficients was only 0.0101. By 1933 the difference had risen to 0.0140. Thus, the higher tax rates passed in 1932 did little to make the distribution of income more equal. Between 1933 and 1936, however, the higher federal tax rates coupled with increased transfer payments offset much of the trend toward prefiscal income inequality. In 1936 the difference between the pre- and postfiscal gini coefficients was higher than for any other year of the thirties. Between 1936 and 1939the trend was toward greater prefiscal income inequality. But after the tax reductions of 1938 very little of the prefiscal income inequality was offset by federal taxation.’ The results in Table 10, then, show that Hoover’s tax policies contributed very little toward equalizing the distribution of income. Roosevelt met with greater success in equalizing the distribution of income, but only temporarily. In 1938Republicans and,conservative ‘Southern Democrats, aided by some New Dealers, put an end to Ro’osevelt’s “soak the rich” tax policies. As a result by 1939 federal taxation ‘was again exerting a very slight influence on equalizing the distribution of income. * The gini coefficients in Table 10 were calculated by the method described in Morgan (1962). ’ It should be. borne in mind that if the Lorenz curves intersect the gini coefficient does not provide us with an unambiguous measure of income inequality. If the Lorenz curves intersect, au alternative measure of inequality, the Atkinson index, may be more appropriate. See Atkinson

(1970,

1974).

60

THOMAS

M. RENAGHAN

TABLE 10 Pre- and Postfiscal Gini Coefficients 1929-1939” Year 1929 Prefiscal Postfiscal 1933 Prefiscal Postfiscal 1936 Prefiscal Postfiscal 1939 Prefiscal Postliscal

Gini coefficient

Change in gin?

0.4962 0.4861

0.0101

0.3513 0.3373

0.01470

0.4084 0.3517

0.0567

0.4243 0.3952

0.0291

’ Government transfer payments in 1936 and 1939 are allocated to the lowest income bracket. b The prefiscal less the postfiscal gini coefficient in each year.

CONCLUSION We can now offer some summary judgments on the distributional consequences of federal tax policy in the Great Depression. Between 1929 and 1933 taxes were shifted to the very top of the income distribution. Yet in 1933 the difference between the pre- and postfiscal gini coefficients was very small. Roosevelt’s soak the rich tax policies of 1934 and 1935 again shifted taxes to the top of the income distribution. These higher tax rates coupled with increased transfer payments offset a rising trend of prefiscal income inequality. In 1936 the difference between the pre- and postfiscal gini coefficients was larger than for any other year of the thirties. In 1938 Roosevelt’s attempt to force an even higher share of the tax burden upon the upper brackets came to an abrupt halt. Republican gains in the 1938 Congressional elections allowed a coalition of Republicans and Southern Democrats, aided by business New Dealers, to eliminate the undistributed profits tax and slash long-term capital gains taxes. This led to a reduction in the tax burden of the upper brackets, and the very top bracket in particular. With a decline in the tax burden of the upper brackets federal taxation was again contributing very little to equalizing the distribution of income. The net effect over the decade was thus only slightly progressive and more nuanced than conventional commentary

FEDERAL

TAX POLICY

61

on the 1930s implies. The progressive shifts between middle- and npperincome groups were largely offset by a hitherto unnoticed regressivity in the lower income ranges. APPENDIX

This Appendix is designed to provide a more detailed acount of the method used to allocate the various federal taxes. I will first discussthe allocation of excisetaxes. I begin with a relationship between average net income and average consumption for each income bracket in 1936. Linear interpolation was then used to estimate average consumption expenditures in 1929, 1933, and 1939. A useful example is provided by the derivation of average tobacco expenditures in the $lOOO-$2000income classin 1929. Average net income in this class in 1929 (in 1936 dollars), was $1344. The question, then, is, What level of consumption corresponds to this income level? To determine this I first calculated the slope relating average tobacco expenditures to average net income in ‘1936between the first two income classes.Having the slope between these two brackets I then substituted average net income in 1929 into the 1936 slope equation. This yields average tobacco expenditures in the $lOOO-$2000bracket for 1929 of $26.00. To allocate tobacco excise taxes among the various income classes I first calculated a tobacco tax rate for 1929by dividing total tobacco tax receipts (in 1936 dollars), by total tobacco consumption in 1929. This yields a tobacco tax rate of 25.6%. Multiplying average tobacco consumption in each income class by the tobacco tax rate yields average tobacco taxes paid in 1929. This is shown in column (3) of Table I-l. Dividing average tobacco excise taxes paid by average net income yields the tobacco excise tax burden as a per cent of average net income. The allocation of alcohol excise taxes proved troublesome. The difficulty is that the 1935-1936 NRC study did not break down alcohol expenditures by income class. However, a study published in 1941 by the National Resources Planning Board (NRPB), covering family expenditures in 19351936, provided estimates of combined alcohol and soft-drink expenditures by income class.” I first calcualted combined alcohol and soft-drink expenditures as a percent of average income in the NRPB study. These percentage figures were then multiplied by average net income as calculated from the tax return data. This yields average combined alcohol and softdrink expenditures by income class in 1936. Linear ~interpolation was then used to estimate combined alcohol and soft-drink expenditures by income clas$ in 1933 and 1939. The alcohol tax burden was calculate in the same manner as that used for tobacco excise taxes. ” National Resources Planning Board (1941).

62

THOMAS

The Allocation

Income classes ($1936) Less than $809 $809-$1618 $1618-$2427 $2427-4045 $4045-$8091 $8091-$12,136 $12,136-$16,181 Above $16,181

TABLE I-l of Tobacco Excise Taxes in 1929

Average tobacco consumption ($1936) (1) 9 26 34 45 57 71 86 132

M. RENAGHAN

(2)

(3)

Effective tax burden (percent) (4)

25.60 25.60 25.60 25.66 25.60 25.60 25.60 25.60

2.30 6.66 8.70 11.52 14.59 18.18 22.02 33.79

0.49 0.50 0.44 0.37 0.26 0.19 0.16 0.06

Tax rate (percent)

Average tax collection

($1936)

I assume that personal income, and estate and gift taxes are not shifted. The personal income tax burden was calculated by dividing total income taxes paid by each income class (in 1936 dollars) by the number of consumer units in each income class. Estate and gift taxes were allocated in a similar manner. The burden of the corporate income tax is assumed to be borne equally by both dividend recipients and consumers. The portion of the corporate income tax shifted to dividend recipients was distributed on the basis of dividends received by each income class. In other words, one-half the dividends reported on tax returns (in 1936 dollars) was divided by the number of consumer units in each bracket. The portion of the corporate income tax shifted to consumers was based on total consumption by each bracket. REFERENCES Adler, J. H. (1951), “The Distribution of Income and the Public Welfare.” In Fiscal Policies and the American Economy (K. E. Poole, Ed.). New York: Prentice-Hall. Atkinson, A. B. (1970), “On the Measurement of Inequality.” Journal ofEconomic Theory. Vol. 2. Atkinson, A. B. (1974), The Economics ofInequality. Oxford: Clarendon. Colm, G. (1938), “The Revenue Act of 1938.” Sociul Research 5, 225-282. Colm, G., and Tarasov, H. (1941), “Who Pays the Taxes?” Temporary National Economic Committee, Investigation of the Concentration of Economic Power, Monograph 3., 76th Congress, 3rd Session. Washington D.C.: U.S. Govt. Printing Office. Feldstein, M. J. (1975), “Social Security, Induced Retirement, and Aggregate Capital Formation.” Journal of Political Economy (September-October), 905-926. Hoover, H. C. (1952), The Memoirs of Herbert C. Hoover; The Great Depression 19291941. New York: Macmillan Company. Vol. 3. Leuchtenberg, W. E. (1963), Franklin D. Roosevelt and the New Deal 1932-1940. New York: Harper & Row.

FEDERAL

TAX POLICY

63

Levin, M., Moulton, H. G., and Warburton, C. (1934), America’s Capacity fo Consume. Washington D.C.: Brook&. Morgan, J. N. (1962), “The Anatomy of Income Distribution.” Review ofEconomics and Statistics

44, 270-283.

Musgrave, R. A., and Musgrave, P. B. (1980), Public Finance in Theory and Practice. New York: McGraw-Hill. National Resources Council (1939), Consumer Expenditures in the United States. Washington D.C.: U.S. Govt. Printing Office. National Resources Planning Board (1941), Family Expenditures in the United States. Washington D.C.: U.S. Govt. Printing Office. Pechman, J. A. (1951), “The Distribution of Income Before and After Federal Taxes,” Studies in Income and Wealth, Vol. 13, Conference on Research in Income and Wealth. New York: National Bureau of Economic Research. Pechman, J. A., and Okner, B. (1974), Who Bears The Tax Burden? Washington D.C.: Brookings. Pechman, J. A. (1977), Federal Tax Policy. Washington D.C.: Brookings. Peppers, L. C. (1970), The Full-Employment Surplus in the 1930’s. Unpublished Ph.D. dissertation, Vanderbilt University, Ann Arbor: University Microfilms. Ratner, S. (19673, Taxation and Democracy in America. New York Wiley. Reynolds, M., and Smolensky, E. (1977), Public Expenditures, Taxes, and the Distribution of Income: The United States 1950, 1961, and 1970. New York: Academic Press. Roosevelt, F. D. (1939), The Public Papers and Addresses of Franklin D. Roosevelt. (Samuel Rosenman, Ed.). New York: Random House. Vol. V. Schlesinger, A. M., Jr. (1960), The Politics of Upheaval. Boston: Houghton Mifflin. Stein, H. (19691, The Fiscal Revolution in America. Chicago: Univ. of Chicago Press. United States Bureau of Internal Revenue (1929), Statistics of Income, Washington DC.: U.S. Govt. Printing Office. United States Bureau of Internal Revenue (1933), Statistics of Income. Washington DC.: U.S. Govt. Printing Office. United States Bureau of Internal Revenue (1936), Statistics of Income. Washington DC.: U.S. Govt. Printing Office. United States Bureau of Internal Revenue (1939), Statistics of Income. Washington D.C.: U.S. Govt. Printing Office. United States Bureau of Internal Revenue (1940), Statistics of Zncome. Washington D.C.: U.S. Govt. Printing Office. United States Department of Commerce (1%5), The National Income and Product Accounts of tke United States 1929-1965. Washington D.C.: U.S. Govt. Printing Office. United States Department of the Treasury (1929), Annual Report of the Secretary of the Treasury. Washington D.C.: U.S. Govt. Printing Office. United States Department of the Treasury (1933), Annual Report of the Secretary of the Treasury, Washington D.C.: U.S. Govt. Printing Office. United States Department of the Treasury (1936), Annual Report of the Secretary of the Treasury. Washington D.C.: U.S. Govt. Printing Office. United States Department of the Treasury (1939), Annual Report of the Secretary of the Treasury. Washington D.C.: U.S. Govt. Printing Office.