374. To complete the theory of monopoly, we should show, when competition is unlimited, how the owners of services or the entrepreneurs who produce products are led to combine with each other to profit from a monopoly. We should also, if we want to complete the subject of the effects of diverse modes of organization of production and of the circulation of wealth, analyze the effects of prohibitive and protective tariffs, and of paper money. But we will find all these questions more interesting when we treat, in the applied economics course, the exceptions to the principle of laissez faire, laisser passer, or its special applications: the question of combinations when we deal with the great economic monopolies such as those in mining and railways; with the question of prohibitive and protective tariffs when we deal with the freedom of foreign trade; with the question of paper money when we deal with the right to issue banknotes. At the present moment, we take up the subject of the effects of different systems of distribution of wealth.

375. In describing in the way that we have the mechanism of exchange, production, and capital formation, we have not only assumed complete freedom of competition in the markets for products, services, and capital goods; we have also abstracted from two things: first, the method of appropriation of services, whatever it may be, and, second, the role of the State, the services it provides and its needs. It is certain, however, that an economic society cannot function without the intervention of an authority charged with the duty of maintaining order and security, of rendering justice, of guaranteeing the national defense, and of performing many other services besides. The State, however, is not an entrepreneur; it does not sell its services in the market, nor according to the principle of free competition, that is, of the equality of price and average cost, nor according to the principle of monopoly, that is, of the maximization of net receipts; it often sells its services at a loss and sometimes gives them away. And we will see later that this is as it should be, for the reason that the services of the State are collectively and not individually consumed. There remain, then, two ways of providing for the needs of the State, that is, for public expenditures: the first is for the State as well as individuals to participate in the distribution of social wealth by owning property; the second is for it to use for its purposes a levy on the incomes of individuals taken by taxation. Which of these two systems is preferable? Can they not be fused into one? That is what we will examine in our course on social economics. We will see then how to work out simultaneously the theory of property and the theory of taxation. At present, we will inquire only into the natural and necessary effects of different kinds of taxes. Even if we assumed taxation to be abolished, it would still be useful, if only to know what is done and why it is done, to know the effects of taxation. And, furthermore, that is yet another of the questions that we have a right to study in the interests of science, independently of any reasons for making practical applications. All the economists who have contributed to economic theory, like Ricardo, James Mill, and Destutt de Tracy, have devoted important chapters to it.

376. Let us reconsider the hypothetical country to which our economic table (§ 268) refers, where there are 80 billion worth of land yielding annually 2 billion in rent, 50 billion worth of personal faculties yielding 5 billion in wages, and 60 billion worth of capital properly speaking yielding 3 billion in interest. And now let us assume that there is a question in this country of raising annually, for public expenditures or for expenditures in the common interest, a sum of 1 billion annually. This figure could be discussed and considered to be too large or too small in view of the needs of the State; but such considerations are not in the domain of economic theory. The essential thing here is to come to clear conclusions by simple calculations; I therefore take the figure of 1 billion for convenience and for clarity of the analysis.

377. Now, in order to pose properly the question of taxation properly, several observations are indispensable.

The first is that capital should never be used for consumption, neither public nor private. It may be that some individuals consume their capital; they are free to do so, and this regrettable fact is compensated for by the fortunate circumstance that other individuals save out of their incomes. But the State should not systematically destroy the source of national wealth. Land, personal faculties, and capital goods properly speaking form the resources available for production. Land services, labor services, and capital good services constitute the fund available for consumption, and it is only on that fund that taxes ought to be levied.

378. There are therefore three incomes in a society: the services of land, the labor of personal faculties, and the ‘profits’ of capital goods properly speaking, sometimes consumed directly in the form of consumable services, sometimes combined with one another in the form of productive services to make products, namely income goods and new capital goods properly speaking. The total value of consumption services and products is 10 billion, two-tenths of which, or 2 billion, are derived from land services, five-tenths or 5 billion from labor, and three-tenths or 3 billion from ‘profits’. We must not lose sight of the fact that, among consumable services, that is, among the items of income subject to taxation, we include in particular the income from the personal faculties of persons who do not work and who lead a life of leisure, as well as the income from the land of those landowners who do not rent their land, and the income from the movable capital goods of those capitalists who do not lend their capital goods to others. We levy taxes only on incomes, but we levy them on all incomes. That is not the way of proceeding of governments and theorists in general, for they, making their classifications purely empirically, are determined to tax workers, but never think of taxing idlers as owners of personal faculties.

At the same time as we have, in our society, three productive elements, we also have three classes of consumers: landowners, workers, and capitalists, corresponding to the three factors of production. The landowners receive as rent 2 billion in the form of services or products in return for 2 billion worth of land services; the workers receive as wages 5 billion in the form of services or products in return for 5 billion worth of labor; and the capitalists receive as interest 3 billion in the form of services or products in return for 3 billion worth of ‘profits’. Figures 2, 5 and 3 are the proportional amounts of consumption and of production. As for the entrepreneurs, they have no function here: no one earns his livelihood from being an entrepreneur, and it is immediately evident that the tax can only fall on them insofar as they are landowners, workers, or capitalists.

We may now observe that whatever process the State adopts to collect taxes, the various possible ways of proceeding can be classified under four headings. In fact, the State can only intervene before or after the exchange of services for consumption goods and services, or for products. In the second case, the State deals directly either with the landowners to take a part of their rents, or with workers to take a part of their wages, or with the capitalists to take a part of their interest income. This makes in all three kinds of direct taxation. In the first case, the State takes its part from the social income viewed not as composed of 2 billion of rent, 5 billion of wages, and 3 billion of interest, but as composed of 10 billion of consumable services and products. We have consumption goods and services. It deals with the entrepreneurs who advance it the total tax amount, with the understanding that they will reimburse themselves by adding the amount of the tax to the prices of the products that they sell to landowners, workers, and capitalists. Thus, the rents, wages, and interest are indirectly reduced. That is indirect taxation. Direct taxes are levied on services, and indirect taxes are levied on products. We are speaking here only of property taxes and not of personal taxes, which have neither a basis for assessment nor a traceable incidence.

379. Finally, it should be noted that we are abstracting from the right that the State can have to impose one or another of these four taxes, as well as from its interest in doing so, and similarly from the ease or difficulties that it can encounter in that operation, just as we made abstraction from the ease or difficulties of establishing maximum or minimum tariffs. In fact, the direct tax on rents is easy to establish although not without much effort and great expense; the direct tax on wages, with the exception of the one that is levied on the salaries of government employees, and the direct tax on income from capital, with the exception of the one that is levied on house rentals and on the interest paid on the public debt, are on the contrary totally impossible to impose with any accuracy, no matter how much effort or money is spent for that purpose. An indirect tax is easy to impose on certain products and hard to impose on others. But these are practical considerations that must be put aside. If we assume that the State is invested with the power to collect the three kinds of direct taxes and the indirect taxes, and that it resorts successively to these four methods, what will happen? That is specifically the subject that concerns us.

380. In our hypothetical country, the total annual wage bill amounts to 5 billion. If we assume that it is desired to impose a proportional tax of 1 billion on the income from personal faculties only, the immediate effect of such a tax would be the allocation to the State of one-fifth of the wages of each worker. Now, the price of labor is determined, as we have seen, by the supply and demand that exists regarding services that are either consumable or productive. The imposition of the tax does not change these conditions in any way. The State acts simply as consumer of 1 billion worth of goods and services in place of the taxed workers. It is impossible to say which services or goods will be more in demand and which will be less in demand than before. It is equally impossible to say if the supply of labor will increase or decrease and even, if the supply increases or decreases, whether the total wage bill will increase or decrease. Consequently, it is necessary to abstract from these possibilities, or to assume that they compensate for one another and assume that the wage rate will be the same after the imposition of the tax as before. Thus, the workers will find it impossible to shift the tax to others by raising the price of their work. Each of them will be deprived of one-fifth of his income. Assume, for example, that a worker works 10 hours and earns 5 francs a day, it can be said of him either that the State takes from him 1 franc every day or that he works two hours every day for the benefit of the State. There is only one case in which the tax can have a different effect, and that is the case in which wages are just sufficient for the subsistence of the workers. Then the imposition of a tax has the inevitable consequence of a diminution of the working population, and the conditions of the effective supply of labor on the market for productive services will change. The supply decreases, wages rise, and the amount of the tax enters, in reality, into the cost of production of the products. Hence, it will be paid, in this case, by the consumers of the products; in all other cases, it will be paid by the workers.

381. A direct tax on rent would be a land tax, which, unlike the land taxes that have always existed and that still exist today, would fall exclusively on the income from land and not on the income from the capital goods properly speaking that are combined with land in agricultural industry. The same reasoning that has been made concerning the tax on wages would serve to establish the fact that the tax on rent would have the effect of allocating to the State a portion of the income of landowners, without their being able to find a way to pass the tax on to the consumers of products by raising the price of their land services. This was correctly stated, if not rigorously proved, by Ricardo in Chapter X of his Principles of Political Economy and Taxation. Taking that as his starting-point, Destutt de Tracy argued with no less reason, in Chapter XII of his Traité d’économie politique, that when land is taxed in perpetuity, it is equivalent in every respect to the confiscation of a part of the land corresponding to the rate of the tax. Here is what he says, in his own words, on that matter:

Destutt de Tracy erroneously extends his observation to a tax on the income from buildings, and erroneously up to a certain point, as we shall see, to a tax on government bonds; but in the respects that it deals with a tax on the income from land, his observation is perfectly well founded on reasoning and confirmed by history. It has always been known that taxes on land income, whether levied by the State, feudal lords, the Church, or any religious community, affect the value of the landed capital, and do so exactly by the ratio of the amount of the tax to the amount of the rent. It has happened that the tax has sometimes completely absorbed the rent, and then the value of the land to the owner has been reduced to zero. This leads us to another observation that has also not been made and that is no less important than the preceding one.

382. The value of land and of land services rises steadily in a progressive society; this fact results mathematically from our theory of social wealth. From this, it follows, first of all, that the harm done to the first generation of landowners, at the time of the establishment of the tax, diminished as time passes, while the later landowners, who have never lost anything, benefit fully from the increasing value of the landed capital and land income. It follows, also, that it is better for the State to establish the tax on the basis of a definite proportion of the rent rather than as a lump sum, because, in the former scheme, its proportional part will grow at the same time as that of the landowners. The establishment of that land tax will have thus had the definitive result of associating the State with the ownership of the land or of sharing the ownership of the soil between individuals and the State. It is clearly seen now how the two questions of property and taxation are intimately related to each other.

383. If we now assume, in our hypothetical country, there is levied entirely on rents not a fixed tax of 1 billion, but rather a tax raising one half of the total of the rents, this is what will happen:

1. 1° The landowners who own the land at the time of the establishment of the tax will, first of all, be deprived of half of their capital as well as half of their income. The State will become a co-proprietor, owning half of the land.

2. 2° When all the land has changed hands by sale, gift or inheritance, the tax will no longer be paid by anyone.

3. 3° As soon as economic progress has raised the total rent from 2 to 4 billion, the original owners who held on to their land will recuperate their losses completely and the new owners will see their income double.

4. 4° The revenue of the State will itself increase from 1 to 2 billion.

It is therefore certain that it is preferable for the State to become a co-proprietor of the land than to be entitled to a rent assessed on the land, if the society is a progressive society and on the condition of attentively overseeing the increases in the value of land and of land services. We will return to this question when we deal with the cadaster.

Those are the conclusions of a study of a tax on rents. The effects of that tax are the same at first as those of a tax on wages; but they soon become intermingled with other phenomena that result from two facts: 1^o that land can be bought and sold, which is not the case for personal faculties in countries that prohibit slavery, and 2^o that the value of land and of land services rise constantly in a progressive society, which is a characteristic peculiar to this type of wealth.

384. Now let us assume that a tax is imposed directly on the interest charges on capital properly speaking, and ask what will happen. I maintain in this case that if the tax is imposed on the interest charges on all kinds of capital goods without exception, all capitalists would be affected in proportion to their incomes, just as they would be by a fall in the rate of income. Moreover, a fall in the rate of income can lead either to an increase or to a decrease in savings (§ 238); therefore we cannot put aside this consequence and assume that the incidence stops there. But, that having been said, I will make an observation, applicable to a degree to taxes on land and personal faculties, but much more so to taxes on income from capital goods properly speaking, because: 1^o it is difficult, if not impossible, to reach all capital goods, and 2^o capital goods are products, the price of which, under normal conditions, must equal the average cost: the observation, namely, that if the tax is imposed on the interest income from only certain kinds of capital, the tax on interest would be, in part, a tax on consumption. To demonstrate this, I will show how we pass from the second situation to the first by extending the tax on a certain kind of capital good to all the kinds of capital goods successively.

Let us return to our hypothesis of a country in which there are 60 billion worth artificial capital, yielding annually 3 billion in interest, and in which it has been decided to impose exclusively the income from artificial capital by a proportional tax of 1 billion; but let us assume that we proceed by first establishing a tax of one-third of house rents. Let us single out, from all the owners, the owner of a house worth 60,000 francs yielding annually 3,000 francs in house rent. From these 3,000 francs, the tax takes 1,000 francs per annum; if this measure has only the simplest and most direct effect, the house in question would thereafter yield only 2,000 francs in income and would consequently not be worth more than 40,000 francs. But we know that the 60,000 francs correspond to the total cost of production of the house. Now, if houses cost 60,000 francs to construct but, upon completion, are not worth more than 40,000 francs, entrepreneurs will lose 20,000 francs on each house. Under these conditions, the building of houses stops at once; old houses deteriorate and fall into ruins, new ones are not built; thus, little by little, and as the effect of the laws of the market, house rents rise, and the value of houses rise in keeping with them; rents and houses recover their value; production is resumed and events resume their natural and normal course. The time will come, for our landowner, when his house will be worth 60,000 francs and will yield 4,000 francs in annual interest, from which the State will take 1,000 francs in taxes. Who then will pay the tax? The tenants. The tenants will be of two sorts. Some will rent the house in order to live in it; in technical terms, they will buy the capital service for use as a consumable service. Others will rent the house to install an industrial enterprise in it; they will buy the capital service for use as a productive service. In the first case, the tax will be paid immediately; in the second case, the tax will be included in the expenses of production of the industry and will be paid, in the final analysis, by the buyers of the products of that industry.

Hence a tax on house rent would act like a tax on consumption, at least in part; because, if we look at the matter closely, we will see that the burden falls partly on the capitalist. In fact, the capital goods previously employed in the construction of houses being transferred to all sorts of other employments, a general decline in the rate of income would result, to the detriment of all capitalists including the owners of houses, and to the advantage of all consumers including the renters of houses. It would be possible to try to discover the extent to which the consumers would recover, through the decline in the prices of other services and products, what they lost by the rise in house rents.

Having taken note of these two phenomena, it is now easy to understand that if we pass from houses to railways and then, in turn, to capital goods of all kinds without exception, the original distribution of savings among the various types of capital goods will be restored; in such a way that, finally, the number of houses, railways, and all other capital goods will become what it was before, there would remain only the general and growing fall of the rate of income and that consequently the tax would cease to weigh upon the consumers and would weigh exclusively upon the capitalists.ⁱⁱ

385. The case of a direct tax levied in perpetuity on State bonds deserves special consideration. If, after the tax has once been introduced, the State does not borrow any more, the bonds will be like natural wealth, and the owners of the bonds will lose capital at the same time as they lose income. The quotation on the securities exchange of these bonds will fall the same day as the establishment of tax. If, on the contrary, the State borrows more, the bonds become like produced wealth, and the subscribers of the new bonds will take them only at a price corresponding to the current rate of interest. If they foresee that the State is going to impose a new tax, they will deduct another proportional amount from the subscription price; and, at the moment of the establishment of that tax, the fall in value having already been anticipated, the fall of the bond price will cease, or at least it will not be extreme.

386. Consideration of a tax on interest income leads us to a tax on products. Let us assume that, in our country, it has been decided to impose a proportional tax of 1 billion to be assessed on the 10 billion worth of products annually produced and no longer on any part of the 10 billion worth of services. The fiscal authority will then call upon the entrepreneurs and will collect the tax in proportion to the value of the products. It is evident that, in the state of general equilibrium of exchange and production, the entrepreneurs, being assumed to make neither profit nor loss, must consider the amount of the tax as an addition to their expenses of production and add it to the price of their products. If this cannot be done immediately, it will be done ultimately, by ceasing production, decreasing the quantity and raising the price of the products, as in the case of houses. Thus, sooner or later, the total amount of products will be sold to the consumers for 11 billion and the consumers will pay the tax. That is why the tax on products is also called an indirect tax on consumption. We count consumable services here among the products, considering them as products made with a single productive service, with the owner of the service being the entrepreneur.

387. But we have identified thus far only a part of the complete incidence of the consumption tax. It cannot be supposed that the price of all the services or products will rise proportionally by 10 per cent. There are, among these services or products, goods of prime necessity for which the effective demand will fall very little in consequence of such a rise in price; and there are luxury articles, for which the effective demand will fall considerably as the price increases. Hence the first effect of the tax, levied, as we have assumed, on all products in proportion to their value, would be, above all, to diminish the consumption and consequently the production of certain luxury articles. From this it results that the price of productive services that are used together in the production of those articles would fall in the market for those services. Therefore the consumption tax results also in a decrease in the value of certain productive services. We may note that the effects of a consumption tax being therefore to restrict the demand for services or products, the yield of 1 billion would not be obtained by a tax of 10 per cent, and that it would be necessary to impose a higher tax rate.

388. In general, a consumption tax is not imposed on all products any more than a direct tax is imposed on all categories of interest income. Certain products that are widely and dependably consumed are selected to bear the tax. It is thus that, in our hypothetical country, it is possible to raise 1 billion in taxes on salt, beverages, and tobacco. In this case, the effects of the tax are those we have just described, but restricted naturally to the products on which it is imposed; that is to say that it is paid partly by the consumers of these products, and partly by the owners of the productive services that enter into their production, these latter being more or less affected according to whether the product is more or less an article of prime necessity or a luxury, and also according to whether the productive service is more or less specialized. A tax on wheat would weigh more heavily on consumers of bread and not much on landowners because bread is an article of prime necessity; a tax on wine, on the contrary, would weigh much more heavily on landowners, first, because wine is, to a certain degree, a luxury, and, second, either because the land suited for vineyards cannot be used for any other kind of agriculture, or because there would not be any advantage in changing the purpose or the use of the land as a consequence of the tax. It can be seen how complex the incidence of consumptions taxes is and how much the effects of a tax on one or another product require separate study. This is what needs to be done when it is a question of taking practical decisions; but the general principles that we have considered amply suffice us for the development of the theories of social economics and applied economics that we have in mind.