The non luxury of the luxury tax

David Hogburg:

I've often wondered exactly how severe is Congress's case of historical amnesia. In late 2005 we found out that many members of Congress clearly couldn't remember anything previous to 1980, as witnessed by their call for 1970s-type price controls on oil. But last week we learned that Congress's historical amnesia is much worse than anyone feared. Clearly it extends back to as recently as the early 1990s.

Nineteen-ninety was the dreadful year in which President George H.W. Bush abandoned his "Read my lips, no new taxes" pledge to cut a deal with congressional Democrats to increase taxes. Among the new taxes created by that deal was an excise tax on "luxury items." This "luxury tax" was imposed on goods such as jewelry, furs and yachts. It was subsequently repealed in 1993 after proving to be nothing short of an economic and policy disaster.

Last week members of the Senate Finance Committee including chairman Max Baucus (D., Mont.), Jay Rockefeller (D., W.Va.), Chuck Grassley (R., Iowa), and Orrin Hatch (R., Utah) cut a deal to increase the funding for the State Children's Health Insurance Program to the tune of $35 billion over five years. To generate this money, the deal imposes a new luxury tax on cigars.

To understand why the luxury tax on cigars is a terrible idea, we need to revisit the history of the luxury tax of the early 1990s--a history that congressional members' severe amnesia is preventing them from remembering. Class-warfare thinking infected the luxury tax of 1990. Think of the multimillionaire whose wife was wearing a gold-and-diamond necklace and a fur coat. They were getting into their limousine to drive to their 100-foot yacht on which they would spend their weekend. How was it possibly fair that the rich spend so lavishly on such unnecessary items when Joe Six-Pack struggled just to put food on the table? Imposing a luxury tax on those items was a proper way to even things out, to make the rich pay their "fair share" to fund the government programs that helped Joe Six-Pack.

Unfortunately, Congress never bothered to consider that increasing the tax on these items, and thereby increasing the price of those items, might change the behavior of said rich people. (Indeed, many members of Congress stubbornly refuse ever to acknowledge that taxes ever affect behavior.) But said rich people had other ideas. If the price of jewelry, furs and yachts suddenly increased, then maybe purchasing a winter home in Florida seemed like a much better deal. Or maybe those rich people would take a shopping trip to other parts of the world, where the prices of jewelry, furs and yachts were now much more competitive thanks to the U.S. Congress.

And if members of Congress never considered that the luxury tax would discourage rich people from buying luxury items in the U.S., then they surely never considered that such an effect might not be so good for the Joe Six-Packs who worked in the industries producing luxury items. A Joint Economic Committee study later found that 330 jobs in the jewelry industry and 7,600 jobs in the yacht industry were lost thanks to the luxury tax. Perhaps the greatest irony was that in 1991 the federal government paid out over $7 million more in unemployment benefits to those workers than it collected in luxury tax revenues.

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The luxury tax is just one example of how the liberal hatred of the rich depress business for those who market to the rich. When taxes are raised on the rich it reduces what they can or will spend on goods and services provided by others. It is not just yachts and cigars that is effected. For example, the custom furniture market is generally limited to those who cannot find what they want at furniture stores and are willing to pay more to get it. They usually use decorators to help them find those pieces. Raising taxes on "the rich" gives them less disposable income to spend on the services of decorators and those who supply the items they are looking for.

The luxury tax on yachts put several boat builders out of business most of who worked in blue states. It was one of the dumbest taxes ever devised before someone thought of the cigar tax. My guess is that the proponents thought most of the smokers are Republicans, but never considered that most of the workers in that business are probably Democrats.