Obama says it’s only ‘fair’ to raise taxes on the rich. He’s wrong.

By Arthur C. Brooks, Published: April 22 at The Washington Post

President Obama’s criticisms of the Republican budget proposal put forward by Rep. Paul Ryan of Wisconsin center on one main objection: It is unfair.

The Ryan plan is based on three premises. First, our economy is headed for a predictable disaster because of the ruinous levels of government spending. (Standard & Poors’ decision this week to downgrade its outlook for U.S. debt only confirms this worry.) Second, we already have one of the highest corporate tax rates in the world, and we can’t load more income taxes onto entrepreneurs without expecting collateral harm to jobs and economic growth. Third, therefore, we must cut spending and reform entitlements, and this would necessarily affect the nearly 70 percent of Americans who take more from the government than they pay in taxes.

The president isn’t buying it. “There’s nothing serious about a plan that claims to reduce the deficit by spending a trillion dollars on tax cuts for millionaires and billionaires,” he said in a speech on April 13. Knowing that some polls show support for tax increases, he also complained that, over the past decade, “the top 1 percent saw their income rise by an average of more than a quarter of a million dollars each. And that’s who needs to pay less taxes?” And in his town hall meeting Wednesday, he called for a tax code that is “fair and simple,” proposed spending cuts that are “fair” and ask for shared responsibility, and concluded that he wants to “live in a society that’s fair.”

While conservatives have criticized the economic principles and class-baiting cadences of Obama’s budget rhetoric, no one has answered his fundamental charge that the Ryan plan is unfair. Conservatives have long stayed away from fairness debates, preferring to build unemotional arguments on the right angles of economic efficiency. This is a lost opportunity. Advocates for limited government can win the fairness argument in a walk.

For years, economists have conducted experiments to study attitudes about economic fairness. One such experiment is the “ultimatum game.” Two strangers are asked to split $10. One is given the $10 and instructed to choose how much to offer the other. Say you and I are the players, and I offer you $3, meaning I would keep $7 for myself. If you accept my offer, we both keep the respective amounts. If you reject it, we both leave empty-handed.

Economic theory predicts that you should accept any positive offer — even one penny — because it’s better than nothing. But, of course, that’s wrong. If the offer seems too unfair, you’ll walk away out of spite and punish me for my selfishness. In the United States, games like this have an average offer of about $4, and offers are accepted about 85 percent of the time.

Note that merit is not part of the experiment; nobody earned the $10. When we bring merit into the mix, the results change. Another experiment shows this by asking subjects to imagine they are lying on a hot beach, craving a cold beer. Would they be willing to pay more, less or the same for their favorite beer if it were purchased from an upscale resort hotel versus from a run-down grocery store?

It turns out that people are willing to pay up to 77 percent more to buy the beer from the fine hotel. A reasonable interpretation is that if you have high prices because you run a nicer business with higher costs, people believe it is fair for you to charge them more than if you have low costs and worse service. An additional inference is that it would seem unfair to force the hotel to lower its prices just because the grocery store charges less.

In general, when resources are perceived as unearned, people think it fair that they be split up somewhat evenly. But when merit is involved, people believe it is fair to reward it with more money. This exemplifies the two most common definitions of economic “fairness” in public policy. The $10 game involves redistributive fairness; the beach-beer experiment reveals meritocratic fairness.

Public opinion studies show that Americans tend to prefer beer on the beach. In 2006, the World Values Survey asked a large sample of Americans to imagine two secretaries with the same job but one earning considerably more. However, the higher-paid secretary is “quicker, more efficient and more reliable.” The survey asked whether a pay difference between the two was fair. About 89 percent said the gap was fair, while about 11 percent said it was unfair.

Of course, for this example to translate into a fair economic system, both secretaries must have the opportunity to develop their skills. It’s not fair at all if the less-effective secretary couldn’t go to school and doesn’t know how to read.

And so it is in our country. If opportunity in America is a sham — if the system is rigged and some people get the breaks only for reasons of luck, birth, or discrimination — then merit is fictitious and redistribution brings greater fairness. But if America is an opportunity society — if you have the chance to work harder, get more education and innovate — then rewarding merit is fair, and it is fair for some to make more money than others.

Most Americans believe we live in an opportunity society. The General Social Survey has asked Americans since 1973 to answer whether people get ahead because of “their own hard work” or because of “lucky breaks and help from other people.” For four decades, 60 to 70 percent of Americans have said “hard work,” while never more than 16 percent have said “lucky breaks.”

It’s hardly a shock that seven in 10 Americans believe in the American dream. If you descended from immigrants, ask yourself: Why did my ancestors come here? I suspect it wasn’t to find a fairer system of forced income redistribution. It was to find a place where they could get a fair shake, where they could start their own business, and where hard work and good ideas would be rewarded.

Politicians have denied the core American belief in opportunity at their peril. In 1972, Democratic presidential candidate George McGovern delivered a campaign speech to blue-collar workers at a rubber factory near Akron, Ohio. He announced his plan to raise estate taxes to dramatically reduce inheritances and to redistribute the money to people like those assembled. He felt sure his message would resonate with his working-class audience.

Instead, he was booed.

You may be thinking that, yes, opportunity is real in America, but it’s certainly not the only thing. Luck, discrimination and birth affect life outcomes, too. In my case, I was born into a family with little money but was lucky to have parents who valued honesty, thrift and education. Others weren’t so lucky.

Good parents are one kind of luck. Studies have emerged showing that life is easier for beautiful women and tall men who don’t lose their hair. And even if you’re short, bald and unattractive, you can still game the system. We have all had lazy colleagues who have brown-nosed their way to some success, with less merit than us.

Since equality of opportunity is not universal, doesn’t this invalidate — or at least weaken — the romantic notion of meritocratic fairness? Of course not. You’re living in a dream world (or you have tenure) if you really believe merit doesn’t matter. Everyone can think of times when things went well as a direct result of hard work. We can also come up with cases in which we were punished at work or in life for laziness, incompetence, free-riding or stupidity.

And even if only a portion of the outcomes in life were due to merit, we should still gear our system to the part that is under our control. Otherwise, we have no incentive to be industrious, honest, innovative and optimistic — and there’s no reason to teach these values to our kids, either.

Most important, if we reject the ideals of opportunity and meritocratic fairness, we will end up with a system where outcomes are simply based on luck or political power — it would become a self-fulfilling prophecy. In a 2005 study published in the American Economic Review, economists at Harvard University and the Massachusetts Institute of Technology studied 29 countries and showed that a belief in luck over merit was strongly linked to the level of taxation and spending on social programs. Furthermore, they showed that the more citizens believed in a merit-based system, the more their public policies produced such a system.

In contrast, when populations believed that outcomes are a product of luck, birth, connections, or corruption, the people demanded more distortions to the free-enterprise system and ended up with a system that only affirmed their anxieties.

When politicians argue that, for the sake of fairness, we must raise taxes on the entrepreneurial class — and make those “millionaires and billionaires” bring us a few state-subsidized beers on the beach — they are unwittingly undermining the possibility of achieving the opportunity society they regret not having.

We are not a perfect opportunity society in the United States. But if we want to approach that ideal, we must define fairness as meritocracy, embrace a system that rewards merit, and work tirelessly for true equal opportunity. The system that makes this possible, of course, is free enterprise. When I work harder or longer hours in the free-enterprise system, I am generally paid more than if I work less in the same job. Investments in my education translate into market rewards. Clever ideas usually garner more rewards than bad ones, as judged not by a politburo, but by citizens in the marketplace.

There is certainly a role for government in this system. Private markets can fail due to monopolies (which eliminate competition), externalities (such as pollution), the need for public goods (such as education, which is indispensable in an opportunity society), corruption and crime. Furthermore, most economists agree that some social safety net is appropriate in a civilized society. When the government focuses on these things, it assists the free-enterprise system.

But when a government that has overspent for years turns to tax increases instead of spending cuts simply for the sake of “fairness,” it weakens free enterprise, lowers opportunity and impoverishes us in many ways.

And that is simply unfair.