This is a common argument against the administration proposal to let the tax cuts expire for those making over $250,00 per year, but does it hold water?
Here's a graph:
It's a little tough to read, but looking from 1988 to 2008 I pulled data on GDP (trillions chained to 2005 dollars), GDP percentage change (based on chained 2005 dollars), and overlay-ed the individual income tax rate for the top income tax bracket. I got the GDP numbers from the Bureau of Economic Analysis and the tax rate numbers from the National Taxpayers Union.
So what does the graph tell us? Honestly, not much. Seems like the 1990s were good times for US economic growth, despite and increase in taxes in 1991 and 1993. It also seems like the 2000s weren't some boon time spurred on the Bush tax cuts. These are incredibly strained causal arguments and I'm perfectly comfortable admitting that. At the same time, one can't make us fearful of a return to a tax rate we lived quite comfortably with during the 1990s.
You see, our colleague, to my mind, conflates several different economic topics in his examples. When looking at the bag tax, you're looking at substitution effect and some aspects of price-elasticity of demand. Turns out, people don't want to pay 5 cents for a plastic bag. In the example of Maryland and the cigarette tax, clearly the government overplayed its hand and came in excess of the elasticity of demand for cigarettes. They effectively priced the cigarettes beyond what people were willing to pay.
What does that tell us about letting the Bush tax rates expire for the top income bracket? Not much. The marginal utility of the first dollar earned beyond $250,000 (to use the administration's line) would be different from dollar $249,999, but the marginal utility of dollar $250,000 to $2 million is the same. If the marginal utility of each dollar earned is constant (at least as it relates to the tax paid on each dollar), then there is no evidence an individual would work less.
But wait, you say, look what happened to Maryland. They priced people out of buying cigarettes. You know, it sure looks like they did, but we aren't discussing a tax rate never considered before. We are talking about a tax rate that we lived just fine with for nearly a decade.
So beyond the sniff test, which makes it highly specious people would work less hard because the tax rate changes, this argument doesn't pass the economics test either. As an aside, not bad externalities to have people using fewer plastic bags and smoking less.