The Incidence Of Taxation.

UP to the present we have avoided all but the most
incidental mention of the difficult problems connected with
I the real as opposed to the apparent pressure of taxation.
This course has the great convenience of allowing an
acquaintance to be made with the leading features and
general guiding rules of the system free from the complica-
tions that are inherent in any discussion of the question of
incidence. The omission must now be remedied ; we have
to consider the nature and consequences of the series of
processes usually known as shifting or repercussion of
taxation, and to study the effects produced by them on the
financial organization. A correct solution of the problem
is indispensable for full knowledge of the subject. Our
judgments on every part of the tax system will be affected
by our theory of incidence. Take, e. g. the question of
justice. How can we say that any given arrangement of
taxation is fair unless we know its real, not merely its
apparent incidence ? The extent and limits of the shifting
of taxation are elements in estimating the expediency of
exempting the minimum of subsistence, of imposing a pro-
gressive income-tax, or of taxing articles of consumption.
Instead of confining our attention to surface appearances,
we must examine the underlying conditions, and estimate
in their entirety the effects of fiscal regulations.
This complicated investigation will occupy the present
chapter. We shall seek to establish the general laws of
repercussion and their most important results, reserving
the treatment of the several taxes for the appropriate
place 1 .

2. Popular discussion of financial matters has always
given a large place to this special topic. The real inci-
dence of tithes, of import duties, or of local rates has been
hotly debated at many a dinner-table and in many a
tavern, and very positive conclusions have been reached in
entire ignorance of the grave difficulties that surround any
attempt to determine accurately these and similar points.
It takes some training to see that confident decisions as to
the division of rates between landlord and tenant, or of
duties between producer and consumer, cannot be made in
a ready and off-hand way. Such is however the case.
The complications are too great ; the subtle modes in
which pressure applied at one point is diffused over a
wider area are too hard to be followed without a clear
appreciation of the general conditions and a careful use of
the slippery instrument of abstract deduction. In dealing
with the problems of incidence we are at that part of
Finance that touches most closely on economic theory in
its hardest form.

Scientific students have long recognised the fact, and the
earliest efforts of financial inquiry have been directed to the
question of the incidence of taxation. In some instances it
was apparent that duties temporarily paid by the seller of
a commodity were only advanced by him, to be obtained
later on from the buyer in the form of increased price 2 .
The extension of this result to all cases of taxation on pro-
ducers or dealers was so plausible that it became an accepted
doctrine of practical Finance before passing into a theoretical form. This particular position dealt only with readily
observed facts, and was confined to outward and apparent
effects of taxation. A far more important step was made
when the fruitful idea of a single source from which all
taxes must, in the last resort, come suggested itself. The
doctrine found a definite expression in Locke's statement,
* that taxes however contrived, and out of whose hands
soever immediately taken, do in a country where their great
fund is in land for the most part terminate upon land 1 .
Put forward tentatively by Locke in connexion with his
controversy as to interest the conception of land as the true
source of taxation was made the basis of a practical plan
by Vanderlint, and more fully developed by the Physiocrats
as a part of their view of the ' net product.'

This earliest scientific theory of shifting rested on certain
general assumptions, some of which we have already
noticed 2 . They are (i) that wages are at the minimum
point of subsistence ; (2) that taxation of profits will drive
capital out of industry, and by thus reducing the supply
raise the rate to its former point, the tax excluded ; (3) that
expenditure for consumption is simply the employment of
income, and that increased prices through taxation will
compel a compensatory increase of money wages and
profits. By aid of these propositions it was easy to establish
that taxation of wages or profits or their outlay must be
passed on to some other class in society. The gains from
commerce and professional avocations were brought under
the same principle by the ingenious argument that they
also were necessary to secure the continuance of the trade
or profession 3 .

We thus obtain a rigorously complete theory of incidence
accompanied by a description of the mode in which the
shifting is carried out from the points of initial pressure to
the ultimate resting-place. The equalizing agency of com-
petition and the necessity for normal wages and profits are
the forces that push the burden of taxation on to the land-
owners' revenue. The conception of society as a mechanism
in which strains were distributed in obedience to general
laws, quite independent of legislation or intention, was
thoroughly grasped by the physiocratic school and was
applied by them to this as to other questions 1 .

The contrast between Adam Smith and his French con-
temporaries, so often noticed, appears clearly in his treat-
ment of the question of incidence. The sharp and definite
theory that regards all taxation except that on rent as
necessarily shifted is changed into the broader doctrine
that transference may or may not take place according to
circumstances, and may fall on any one of the three con-
stituents of income. In the application of" these general
positions several qualifications are introduced. Taxes on
wages are always, Adam Smith holds, transferred partly to
the consumer in higher price, partly to the landlord in
lower rent. The employer must have his ordinary profit,
and he recoups himself for his larger wages' bill by in-
creasing his sale price, or if a farmer, by giving his landlord
a smaller amount of produce. The share of profit known
as employers' gain is also unamenable to taxation, as being
merely the necessary reward of the entrepreneur. Interest,
though capable of bearing some of the public charges, is
difficult to estimate, and its root, capital, is apt to emigrate
under exceptional charges. Taxes on necessary articles of
consumption tend to raise the wages of labour, and there-
fore are, like direct wages taxes, passed on to the consumer
or the landlord. A house-tax tends to fall partly on the
occupier, partly on the ground-landlord, the builder
always in the long run receiving his normal profits.

The result of the inquiries on incidence in the Wealth of
Nations is a modification of the conomistes view. The
landlord is still the chief bearer of public charges which
are shifted on to him from various points, while his special
burdens are not transferable ; but he is not the sole bearer :
the capitalist has to contribute a share, and the vague class
of consumers has to pay on the taxed forms of expenditure,
and that expenditure may come from rent, profit, or even (in
the case of taxes on luxuries) wages. The landlord has
nevertheless, as Falck remarks, the 'lion's share of the
payment of taxes,' and therefore in part Adam Smith
occupies the physiocratic position 1 .

The title of Ricardo's treatise marks taxation as one of
its subjects, and it may be said that the space devoted to
that topic is altogether occupied with the question of
incidence. Adam Smith's positions are corrected in the
light of the newer theories of population and rent/ In fact
Ricardo's doctrine of taxation is a development of his
theory of distribution. Notwithstanding the generally
loose form of his writings, there is an amount of precision
about his statements as to the movement of taxes that has
made him the leading representative of economic orthodoxy
on these points. Reduced to a definite form his views are
represented in the following propositions, resting, it must be
noted, on the assumptions of (i) self-interest as the motive-
power of action, and (2) the universal mobility of labour
and capital.
landlord is still the chief bearer of public charges which
are shifted on to him from various points, while his special
burdens are not transferable ; but he is not the sole bearer :
the capitalist has to contribute a share, and the vague class
of consumers has to pay on the taxed forms of expenditure,
and that expenditure may come from rent, profit, or even (in
the case of taxes on luxuries) wages. The landlord has
nevertheless, as Falck remarks, the 'lion's share of the
payment of taxes,' and therefore in part Adam Smith
occupies the physiocratic position 1 .

The title of Ricardo's treatise marks taxation as one of
its subjects, and it may be said that the space devoted to
that topic is altogether occupied with the question of
incidence. Adam Smith's positions are corrected in the
light of the newer theories of population and rent/ In fact
Ricardo's doctrine of taxation is a development of his
theory of distribution. Notwithstanding the generally
loose form of his writings, there is an amount of precision
about his statements as to the movement of taxes that has
made him the leading representative of economic orthodoxy
on these points. Reduced to a definite form his views are
represented in the following propositions, resting, it must be
noted, on the assumptions of (i) self-interest as the motive-
power of action, and (2) the universal mobility of labour
and capital.

(i) A tax on economic rent is not transferable ; it remains
on the landlord. (2) A tax on ordinary labour is trans-
ferred to the employer, and is in reality a tax on profits.
(3) A tax on profits in general is not transferable, and
must remain on the capitalist ; but (4) a tax on the profits
of a particular employment will be transferred to the con-
sumers of its product. (5) Taxes on commodities paid by
the producer are passed on to the consumer, as in the case of
taxes on particular profits. (6) In the case of commodities
consumed by the labourers there is a further shifting from
the consuming labourers to the capitalists who employ
them l .

The main outlines of this theory of incidence reappear
in J. S. Mill's Principles, with some not unimportant amend-
ments. For example, the higher classes of wage-earners
are admitted as possible bearers of taxation. In their case
a tax on wages may or may not be shifted. The results as
to tithes and profits are somewhat altered, and greater
emphasis is laid on the tendency of profits to a minimum.
But these are special points : speaking broadly, there is no
part of Mill's work which so fully deserves the description
' a readable Ricardo ' as that which deals with taxation 2 .

3. The very general adoption of the Ricardian theory
in its developed form as the sole and exclusive scientific
doctrine makes it advisable to note some of the objections
that prevent us from accepting it as a complete interpreta-
tion of the phenomena of incidence. Some of these criticisms
have been forcibly urged by Cliffe Leslie and Held, but
they may be put in a more general form. The first weak
point in Ricardo's position is his ambiguous treatment of
consumption and consumers. In his general scheme of
distribution there is no place for the consumers as a class,
but we often find him asserting that a given tax does fall
on ' the consumer.' How are we to explain this apparent
discrepancy? The most natural answer is that land-
lords and capitalists make up this class, the labourers
being normally outside it, as their consumption is a part of
the expenses of production. This explanation is not com-
pletely satisfactory, for it is plain that all landlords and
capitalists are not affected by particular taxes falling on
consumers, and yet no criterion of separation is available.
The necessity for studying the forms of expenditure as a
department of Economics seems clear from tm\ considera-
tion. Besides the pressure that falls on the primary divisions
of income there is the additional one on the employment of
that income, and differences in employment produce differ-
ences in pressure. A doctrine of incidence that is confined
to the receipt of income without regard to its expenditure
; is so far defective. A second objection to the theory is its
I dependence on a few unduly simplified conditions. Social
forces are regarded as definite and precise in their action,
and very positive statements are made on the strength of this
insecure foundation. Thus taxes on wages and on labourers'
necessaries are regarded as being always transferred to the
capitalist, a proposition true only on the assumption that
wages are at the minimum, and that any change in them
will at once act and act proportionately on population. In
the same way the equality of profits and the complete
dependence of rent on the margin of cultivation are made
to support very sweeping propositions as to the incidence of
taxation. If we allow that the economic forces of popula-
tion and competition in regard to the employment of capital
and the movement of cultivation are not quite so regular in
their action the deductions made from them must be
qualified.

| Thirdly, the theory exaggerates the simplicity not merely
of economic forces but also of the forms of taxation. Taxes
on rent, on profits or on wages are not ail the same, and
the particular modes of imposition often affect the inci-
dence. There is need for much care and discrimination in
using those results of deduction that depend on the identi-
fication of so many different taxes.

] Finally, there is far too little notice taken of the actual
\ facts and of the unavoidable limitations in the application
of theoretical principles. The orthodox theory of incidence
professes to explain what will happen in the long run, * but
taxes/ as Leslie remarked, 'are paid immediately under
the real conditions of life and out of the actual wages and
profits or other funds of individuals, not out of hypotheses
or abstractions in the minds of economists V Knowledge
of what will happen when the limit is reached is desirable,
but what takes place during the process of adjustment is
also important.

The existence of these imperfections does not destroy
the great service of the doctrine as a preliminary or intro-
ductory inquiry ( Vorstndium). Without some such attempt
the intricacies of incidence could never be explained, and it
is by expansion and correction of the Ricardian procedure
that advance can best be made in the explanation of these
problems. As an intellectual exercise the abstract theory
of the shifting of taxation has a high disciplinary value.
The root-error of its followers lay in taking a part for the
whole.

4. The course of development in the preceding theories
is clear enough. From the first suggestion of Locke to the
compact exposition of J. S. Mill there can be traced a series
of connecting links and alterations in consequence of wider
knowledge. Adam Smith has the French theory constantly
in mind, as Ricardo in turn has the ideas of the Wealth of
Nations. All have in common the recognition of certain
points on which the pressure of taxation ultimately rests,
and all, it may be added, suggest the wisdom of adapting
legislation to the conditions of incidence in order to secure
a fair distribution, or at least to prevent unnecessary waste
through friction.

Another group of doctrines has a quite different tendency.
In place of investigating the complicated shiftings that
settle the ultimate incidence, it either denies the possibility
of ascertaining them or assumes that they bring about a
general diffusion of the burden over the whole society.
The natural conclusion is that the particular forms of taxa-
tion are altogether immaterial, as, whatever be the immediate
charges, the burden is finally distributed in an equitable
manner.

The first scientific statement of this view is ascribed to
N. F. Canard, whose essay, attacking the theory that all
taxation must fall on the owners of land, obtained a prize
from the French Academy. The gist of his argument is
that there is surplus product in labour and commerce as
well as land, and that taxation falls on all of these * net
products.' The process of diffusion is carried out by ex-
change, buyer and seller in each transaction dividing the-
amount of tax imposed, and at every fresh exchange a divi-
sion of the part of taxation transferred takes place until ulti-
mately the charge is spread over all the parties concerned.
Extending this conception to the whole society, taxation
comes to be regarded as after a time diffused equably
among all its members. The qualification of time is
important, as the process of diffusion is not complete at "
first, consequently old taxes are the best, and all new taxes,
or even changes in existing ones, are to be deprecated as
disturbing this beautiful and harmonious distribution, which
relieves the legislator of any trouble respecting the apparent
merits or demerits of existing taxes 1 .

The comfortable nature of this theory makes it a popular
one with statesmen. Without adopting Canard's peculiar
explanation of the mode of diffusion, Thiers asserts the
general diffusion of the public charges ; Stein, from a still
different point of view, reaches what is practically the same
result. In his opinion the whole theory of shifting is an
error arising from imperfect comprehension of the real
-> nature of the process, which in reality contains two different
* parts. For, first, a tax is a part of the cost of production S
similar to the expense of raw materials or labour, and like
other expenses must enter into price, and taxation is through
this medium diffused ' from one to another ' until it extends
to all. Again, from a higher point of view, the portion
of product paid in taxes is a surplus product, the result of
the services of the state administration, which pays back
at least what it receives. The conception of incidence of
taxation has to be replaced by that of the c production of
taxes 1 .'

Closely allied to the negative doctrine of incidence is the
disposition on the part of some writers to regard the
problem as insoluble, and at the same time to treat all
questions of taxation as if it were non-existent To deny
that the incidence of taxation is discoverable seems to be
the first step towards believing that it is unimportant 2 .

No lengthy criticism of the negative theory of in-
cidence is needed. Facts speak for themselves : if the
incidence of the public burdens be really so settled that
, legislative action has no effect, how comes it to pass that
some forms of taxation are much more oppressive than
others? It is impossible to escape entirely the weight of a
load by judicious arrangement of it, but it is quite feasible
to diminish the fatigue it produces. Canard's doctrine is
contrary to experience, and is not established by abstract
reasoning. There can be no doubt that taxes are not
always a part of cost of production, but in any case the
real question is whether they can always be shifted by
the immediate payer, and to this the answer must be a
decided negative. The jesire to pass on the_burden may
be universal ? but the capacity to do so is limited. Even in
the special case of taxes on commodities it is not always
open to the producer to shift the duty to the consumer.
As regards other taxes, the very idea of cost of production
is quite inapplicable.

5. Proceeding to examine the conditions of incidence,
it is well to remember that the total denial of the existence
of shifting and the assertion of its universal existence are
both unfounded. That e.g. taxes on commodities are
sometimes transferred by the immediate payers is an
obvious fact. No one can believe that the distillers bear
the whole burden of the English spirit duties. On the
other hand, it is just as incredible that a landlord could
entirely shift a tax on rent to his tenant or any other
class, or that the payers of income-tax could completely
relieve themselves at the expense of others. The existence
and the extent of the process of transference must depend
largely on the conditions of the case, and it is these con-
ditions that a general theory of incidence has to consider
and explain.

The course of transference may be in different directions,
and according to its starting-point and direction it is neces-
sary to distinguish. Where the shifting is from the pro-
ducer to the consumer, or more generally from the seller
to the buyer, there is ' forw^roV incidence ' ; where th(f
movement is from the buyer to the seller, there is ' back-
ward incidence'; where the process of shifting affects more
than two parties, it may be called ' diffused incidence V

The simjpjest instance of shifting TsTas more than once
mentioned, that in which the producer of a commodity .
passes on the charge in increased price to the consumer.
A closer examination of this familiar case will suggest some
important conditions. Why does the buyer submit to this /
additional charge? An increase irt price tends to reduce^
demand, and will not the falling off bring about a re-
turn to the old level? The usual reply would be that
the dealer or producer had been obtaining normal profits
before the imposition of the tax, and that without an
increased return proportional to his new charge he would
not or could not continue in the business. The doctrine .
of average profits resulting from the perfect mobility of
capital is thus the foundation of the proposition that taxes
on commodities levied on the producer are shifted to the
consumer. The reason for the proposition also shows
its limitations ; wherever an industry is yielding such
exceptional gains that taxation will not reduce them below
the supposed normal level, the motive for abandoning the
employment not being present, the force that produces
shifting will not be in operation. It may therefore be
allowed, that so far as producers' gains are at all of the
nature of monoply, taxation will remain on them. But
here a further qualification is presented. Exceptional
gains may be made by some producers, but not by others ;
in fact in nearly every industry some of those engaged
in it can barely hold their ground. This- unfortunate class
must, on the increase of taxation, either raise their price
or leave their business ; if they can succeed in the former
attempt, their successful competitors will gain by it, and
shift their charge to the consumer ; if they fail, the margin
of pure profit is raised, and the burden will remain on the
producers. It is quite possible that the actual result may
be a compromise. Some of the weakest producers may be
driven out, but the price may also be somewhat raised, in
which case there will be division of the charge. Therefore
the true conclusion is, that with perfect mobility taxation
will be shifted from producer to consumer, with strict I
monopoly it will remain on the producer, and .that in the
various intermediate positions either result is possible, but
a compromise is most likely. Again, the possibility of
shifting taxation of the kind under notice does not depend
simply on the elasticity of supply, the effect of changes in
price on demand must be considered. If increased expen-
diture has to be devoted to taxed articles, there is less
to be applied in the purchase of others ; the consequent
reduction may lower prices in other industries from which
withdrawal is not economically expedient, and accordingly
diffuse the indirect incidence of the tax to a different set of
producers. Further, it must be remarked that as all in-
dustrial processes are really complex, it is quite possible
that a tax may not affect the holder of floating capital who
is ready to seek other investments, but may fall entirely on
the owners of land, or specialized capital suitable for the
production of the article. Both land and fixed capital are \/
indeed capable of different uses, but the alternative ones
are necessarily less profitable than that in which they are
actually engaged. Hindrances to mobility are hindrances
tp_ shifting of taxation. The very application of a tax of
itself produces disturbing effects. Additional capital has
to be employed, restrictions which mean the sacrifice of
time and money come into force, both tending to reduce
the number of producers and to concentrate industry.
The production approaches to a qualified monopoly, and ^
thus the weight of taxation falls so far as actual receipts
are concerned on the consumers, with a further loss to the
small producers excluded from the business.