Public Finance, 2nd Edition

roughly corresponds to the requirements of the interpersonal equity condi-

tions, and let citizens judge whether they are willing to accept the policy-

makers' social welfare function? What is gained by adding a completely

diVerent set of equity principles to the design of tax policy? These questions

are in the spirit of Musgrave's suggestion to worry much more about the tax

structure than the choice of an ideal tax base.

The practical answer appears to be that people are generally satisWed

with the ability-to-pay principles. The Bergson±Samuelson social welfare

function has had an enormous impact on the economic theory of the public

sector but almost no impact at all on the design of broad-based taxes so far as

equity itself is concerned. The only impact of social welfare analysis has been

on the level of the tax rates, and then only when eYciency considerations are

intermingled with equity considerations in a second-best environment. The

interaction of eYciency and equity principles in taxation will be discussed in

Chapters 14 and 15. The next step in this chapter is to consider the principle

of vertical equity.

VERTICAL EQUITY

Once the ideal tax base has been determined, the quest for vertical equity

centers on the design of the tax structure. Should the tax be levied at a single

rateÐa Xat taxÐor should the rates be graduated, rising with income?

Should some minimum amount of income be exempt from taxation (assum-

ing Haig±Simons income is the tax base)? Should taxpayers be allowed to

deduct certain items of income or expenditure in computing their taxable

income? The answers to these questions determine exactly how unequally

unequals are treated under the tax laws, which is the central issue of vertical

equity.

Progressive, Proportional, and Regressive Taxes

Actual policy discussions almost never get much further than the debate over

whether taxes should be progressive, proportional, or regressive, three very

broad indexes of vertical equity. Economists have devised various methods of

deWning these terms, but the most common deWnition is in terms of the

average tax burden across individuals. Let:

Y

i

 value of the ideal tax base for individual i

T

i

 burden of the ideal tax on individual i

The average tax burden on individual i is the ratio T

i

/Y

i

. Rank order individ-

uals on the basis of Y

i

and ask how the average tax burden varies as Y

i

increases:

352 VERTICAL EQUITY