Suppose that every day, ten men go out to the Coral Strand Pool Bar for beer and the bill for all ten comes to SR 100. If they paid their bill the way we pay our taxes, it would go something like this:
The first four men (the poorest) would pay nothing.
The fifth would pay SR1.
The sixth would pay SR3.
The seventh would pay SR7.
The eighth would pay SR12.
The ninth would pay SR18.
The tenth man (the richest) would pay SR59.
So, that’s what they decided to do.
The ten men drank in the bar every day and seemed quite happy with the arrangement, until one day, the new Russian owner threw them a curve. “Since you are all such good customers,” he said, “I’m going to reduce the cost of your daily beer by SR20.” Drinks for the ten now cost just SR80.
The group still wanted to pay their bill the way we pay our taxes so the first four men were unaffected. They would still drink for free. But what about the other six men - the paying customers? How could they divide the SR20 windfall so that everyone would get his ‘fair share?’
They realized that SR20 divided by six is SR3.33. But if they subtracted that from everybody’s share, then the fifth man and the sixth man would each end up being paid to drink his beer. So, the bar owner suggested that it would be fair to reduce each man’s bill by roughly the same amount, and he proceeded to work out the new amounts each should pay.
And so:
The fifth man, like the first four, now paid nothing (100% savings).
The sixth now paid SR2 instead of SR3 (33% savings).
The seventh now paid SR5 instead of SR7 (28% savings).
The eighth now paid SR9 instead of SR12 (25% savings).
The ninth now paid SR14 instead of SR18 (22% savings).
The tenth now paid SR49 instead of SR59 (16% savings).
Each of the six was better off than before. And the first four continued to drink for free. But once outside the restaurant, the men began to compare their savings. “I only got a rupee out of the SR20 declared”, the sixth man said. He pointed to the tenth man, “but he got SR10!”
“Yeah, that’s right,” exclaimed the fifth man. “I only saved a rupee, too. It’s unfair that he got ten times more than me!”
“That’s true!!” shouted the seventh man. “Why should he get SR10 back when I got only SR2? The wealthy get all the breaks!”
“Wait a minute,” yelled the first four men in unison. “We didn’t get anything at all. The system exploits the poor!”
The nine men surrounded the tenth guy and beat him up. The next night the tenth man didn’t show up for drinks, so the nine sat down and had beers without him. But when it came time to pay the bill, they discovered something important. They didn’t have enough money between all of them for even half of the bill!
And that, President and Ministers, Tax Department Heads, Central Bank Governor and pseudo financial wizards, ladies and gentlemen, is how our tax system works. The people who pay the highest taxes get the most benefit from a tax reduction. Tax them too much, attack them for being wealthy, and they just may not show up anymore. In fact, they might start drinking overseas where the atmosphere is somewhat friendlier.
For those who understand, no explanation is needed. For those who do not understand, no explanation is possible.
Courtesy of David R. Kamerschen, Ph.D.
Professor of Economics at the