ASSUMPTIONS BEING MADE ABOUT A FLAT TAX MAY BE OFF THE MARK

The purpose of this is to express some disagreement with Jay Eastlick's Feb. 10 analysis of the effect of the so-called flat tax.

Just why the change to a flat tax would have the consequences outlined by Mr. Eastlick is not entirely clear to me. Mr. Eastlick assumes that there will be a reduction in the capital-gains tax, although strictly speaking this is not a necessary feature of a so-called flat tax. A reduction in the tax on capital gains would increase the incentive to invest in stocks, but it is by no means clear to me why it would increase the incentive to invest in bonds of private firms rather than in tax-exempt state of municipal bonds. After all, capital gains on bonds result from a reduction in current market rates of interest, and both state and municipal bonds and bonds of private firms would be affected in much the same way.

Mr. Eastlick does not say so in his article, but he may be assuming that his flat-tax proposal includes a provision eliminating the tax-exempt feature of state and municipal bonds. This would, of course, make bonds relatives more attractive. And there is a good possibility that today the courts might hold that the elimination of this exemption does not violate the provision in the Constitution which forbids the federal government from taxing the "instrumentalities of the states." However, I don't think we should overlook the fact that now state and municipal governments, if they borrow, would have to pay higher interest rates than they did when their bonds were tax-exempt, and that as a result they might borrow less and spend less, or they might raise taxes to higher levels to avoid curtailing their expenditures so much. A cut in state and municipal spending would result in fewer jobs for persons or firms supplying labor or materials for school buildings, roads, bridges, park facilities, libraries and the like. And a rise in the taxes levied by states and municipalities would, of course, reduce the disposable income of taxpayers, thus causing them to have less to spend or to invest.

Even if it could be shown that this shift to the flat tax not only would not increase the federal government's deficit, but would result in an increase in aggregate demand for goods and services, we still would not be able safely to conclude that real income or that employment would be increased. After all, if we could make the whole country more prosperous just by increasing total government, private and consumption spending, this could be accomplished very easily by our Federal Reserve System through its purchases of U.S. government securities and by lowering the interest rates banks must pay when they borrow from the Fed.

In the short run, an increase in spending might give rise to some increase in employment, mainly because wage increases might be delayed and also, in part, because of some delay in raising product prices. But in the long run the volume of employment and output in real terms does not depend on the money supply of the country or how much spending is being done. When it is very easy to find a job and when the demand for labor by employers is great relative to the labor supply, wage rates will rise. When firms have no or very little trouble selling whatever they produce, they will raise prices. Sometimes they do this in obscure or subtle ways such as by reducing the size of packages, eliminating old models and substituting new and superior products on which higher prices are set. But it still happens. The result is that, if an increase in spending reduces unemployment in the short run, this will not last. Wages and prices will rise until the percentage of the labor force unemployed returns to its usual level or to whatever it would have been if the increase in spending had never occurred. I can think of several factors which would have some long-run influence upon the proportion of the labor force which is unemployed, but the quantity of money in circulation and the total volume of spending are not among these.

To make it possible for workers, and especially those of modest abilities, to earn a decent livelihood, the supply of labor must be limited. It would help workers in this country if immigration were sharply reduced or eliminated altogether. It would also help a great deal in the long run if our birth rates were reduced. The efforts of the pro-life faction is a significant obstacle to this. The attitude of the Catholic church toward contraception would be an even more important obstacle but for the fact that, in many countries, a high proportion of Catholics choose to ignore the church's official policy.

Many formerly good and well-paying jobs are being or have been lost to foreign competition. With free trade, each nation tends to specialize in the production of those goods in which it has a comparative advantage. One would expect those nations with an over-abundance of labor relative to capital and natural resources to specialize in the production of what I shall refer to here as labor-intensive goods. By this I mean goods in whose production relatively much labor and relatively little capital, land or other natural resources are used. This helps to explain why there has been widespread elimination in the United States of jobs in the manufacture of shoes, clothing, electronic gadgets etc. and why we increasingly import these goods from low-wage countries. Often U.S. firms help to finance the building of plants in low-wage countries and sometimes ship materials of U.S. origin to these plants to have them processed into finished goods by this relatively cheap foreign labor. If we were to levy high protective tariffs on the importation of these labor-intensive goods, this probably would help maintain higher real wages for U.S. workers. Unfortunately, however, if we were to abandon our free-trade policy, it seems likely that many tariffs would be imposed not on these goods, but on land-intensive or capital-intensive goods. This could hurt the U.S. worker more than it would help him.

I somehow got the impression from my early courses in economics that almost any increase in the amount or quality of capital, defined so as to include buildings, machines, tools etc., or any advances in technology would help workers as well as it would help owners of capital or natural resources. This, I think, has been referred to as the trickle-down theory. Unfortunately, the amount of land and mineral resources in the earth cannot be increased by man's efforts. The number of board feet of timber which can be cut per year depends in the long run upon the acreage devoted to timber production and upon the rate of growth of trees. The output of fisheries depends largely on the rate of reproduction and growth of fish. These are things we don't seem able to influence very much. Increases in capital may, to some extent, be complementary to labor, but they are often substitutes for labor, forcing large numbers of workers either to work for less or to remain unemployed. We cannot assume that if the tax burdens on the rich were reduced so that they would have a stronger incentive to invest this investment would also benefit the poor.

Phillips H. Brown is a Cape Girardeau resident.