Much more so than any theoretical argument, it has been the disappointing experience with Russian-type socialism which has led to a constant decline in the popularity of orthodox Marxist socialism and has spurred the emergence and development of modern social-democratic socialism.
Both types of socialism, to be sure, derive from the same ideological sources. Both are egalitarian in motivation, at least in theory, and both have essentially the same ultimate goal: the abolishment of capitalism as a social system based on private ownership and the establishment of a new society, characterized by brotherly solidarity and the eradication of scarcity; a society in which everyone is paid “according to his needs.”
What are the central features of socialism social-democratic-style?
There are basically two characteristics. First, in positive contradistinction to the traditional Marxist-style socialism, social-democratic socialism does not outlaw private ownership in the means of production and it even accepts the idea of all means of production being privately owned — with the exception only of education, traffic and communication, central banking, and the police and courts. In principle, everyone has the right to privately appropriate and own means of production, to sell, buy, or newly produce them, to give them away as a present, or to rent them out to someone else under a contractual arrangement. But secondly, no owner of means of production rightfully owns all of the income that can be derived from the usage of his means of production and no owner is left to decide how much of the total income from production to allocate to consumption and investment. Instead, part of the income from production rightfully belongs to society, has to be handed over to it, and is then, according to ideas of egalitarianism or distributive justice, redistributed to its individual members. Furthermore, though the respective income-shares that go to the producer and to society might be fixed at any given point in time, the share that rightfully belongs to the producer is in principle flexible and the determination of its size, as well as that of society’s share, is not up to the producer, but rightfully belongs to society.8
It should be clear from this description that, contrary to the impression which socialism social-democratic style is intended to generate among the public, the difference between both types of socialism is not of a categorical nature. Rather, it is only a matter of degree. Certainly, the first mentioned rule seems to inaugurate a fundamental difference in that it allows private ownership. But then the second rule in principle allows the expropriation of all of the producer’s income from production and thus reduces his ownership right to a purely nominal one. Of course, social-democratic socialism does not have to go as far as reducing private ownership to one in name only. And admittedly, as the income-share that the producer is forced to hand over to society can in fact be quite moderate, this, in practice, can make a tremendous difference as regards economic performance. But still, it must be realized that from the standpoint of the nonproducing fellowmen, the degree of expropriation of private producers’ income is a matter of expediency, which suffices to reduce the difference between both types of socialism — Russian and social-democratic style — once and for all to a difference only of degree.
It should be apparent what this important fact implies for a producer. It means that however low the presently fixed degree of expropriation might be, his productive efforts take place under the ever-present threat that in the future the income-share which must be handed over to society will be raised unilaterally. It does not need much comment to see how this increases the risk, or the cost of producing, and hence lowers the rate of investment.
Maintenance of the Market System
What are the economic, in the colloquial sense of the term, consequences of adopting a system of social-democratic socialism? After what has just been said, it is probably no longer altogether surprising to hear that at least as regards the general direction of the effects, they are quite similar to those of traditional Marxist-type socialism. Still, to the extent that social-democratic socialism settles for partial expropriation and the redistribution of producer incomes, some of the impoverishment effects that result from a policy of fully socializing means of production can be circumvented.
Since these resources can still be bought and sold, the problem most typical of a caretaker economy — that no market prices for means of production exist and hence neither monetary calculation nor accounting are possible, with ensuing misallocations and the waste of scarce resources in usages that are at best of only secondary importance — is avoided. In addition, the problem of overutilization is at least reduced. Also, since private investment and capital formation is still possible to the extent that some portion of income from production is left with the producer to use at his discretion, under socialism social-democratic style there is a relatively higher incentive to work, to save, and to invest.
Nonetheless, by no means can all impoverishment effects be avoided. Socialism social-democratic style, however good it might look in comparison with Russian-type socialism, still necessarily leads to a reduction in investment and thus in future wealth as compared with that under capitalism.9 By taking part of the income from production away from the owner-producer, however small that part may be, and giving it to people who did not produce the income in question, the costs of production (which are never zero, as producing, appropriating, contracting always imply at least the use of time, which could be used otherwise, for leisure, consumption, or underground work, for instance) rise, and, mutatis mutandis, the costs of non-producing and/or underground production fall, however slightly.
As a consequence there will be relatively less production and investment, even though, for reasons to be discussed shortly, the absolute level of production and wealth might still rise. There will be relatively more leisure, more consumption, and more moonlighting, and hence, all in all, relative impoverishment. And this tendency will be more pronounced the higher the income from production that is redistributed, and the more imminent the likelihood that it will be raised in the future by unilateral, noncontractual societal decision.
For a long time by far the most popular idea for implementing the general policy goal of social-democratic socialism was to redistribute monetary income by means of income taxation or a general sales tax levied on producers. A look at this particular technique shall further clarify our point and avoid some frequently encountered misunderstandings and misconceptions about the general effect of relative impoverishment.
Economic Consequences of Taxation
What is the economic effect of introducing income or sales taxation where there has been none before, or of raising an existing level of taxation to a new height? In answering this, I will further ignore the complications that result from the different possible ways of redistributing tax money to different individuals or groups of individuals — these shall be discussed later.
Here we will only take into account the general fact, true by definition for all redistributive systems, that any redistribution of tax money is a transfer from monetary income producers and contractual money recipients to people in their capacity as nonproducers and nonrecipients of contractual money incomes. Introducing or raising taxation thus implies that monetary income flowing from production is reduced for the producer and increased for people in their roles as nonproducers and noncontractors. This changes the relative costs of production for monetary return versus nonproduction and production for nonmonetary returns.
Accordingly, insofar as this change is perceived by people, they will increasingly resort to leisurely consumption and/or production for the purpose of barter, simultaneously reducing their productive efforts undertaken for monetary rewards. In any case, the output of goods to be purchased with money will fall, which is to say the purchasing power of money decreases, and hence the general standard of living will decline.
Against this reasoning it is sometimes argued that it has been frequently observed empirically that a rise in the level of taxation was actually accompanied by a rise (not a fall) in the gross national product (GNP), and that the above reasoning, however plausible, must thus be considered empirically invalid. This alleged counterargument exhibits a simple misunderstanding: a confusion between absolute and relative reduction.
In the above analysis the conclusion is reached that the effect of higher taxes is a relative reduction in production for monetary returns; a reduction, that is, as compared with the level of production that would have been attained had the degree of taxation not been altered. It does not say or imply anything with respect to the absolute level of output produced.
As a matter of fact, absolute growth of GNP is not only compatible with our analysis but can be seen as a perfectly normal phenomenon to the extent that advances in productivity are possible and actually take place. If it has become possible, through improvement in the technology of production, to produce a higher output with an identical input (in terms of costs), or a physically identical output with a reduced input, then the coincidence of increased taxation and increased output is anything but surprising. But, to be sure, this does not at all affect the validity of what has been stated about relative impoverishment resulting from taxation.
Another objection that enjoys some popularity is that raising taxes leads to a reduction in monetary income, and that this reduction raises the marginal utility of money as compared with other forms of income (like leisure) and thus, instead of lowering it, actually helps to increase the tendency to work for monetary return.
This observation, to be sure, is perfectly true. But it is a misconception to believe that it does anything to invalidate the relative impoverishment thesis. First of all, in order to get the full picture it should be noted that through taxation, not only the monetary income for some people (the producers) is reduced but simultaneously monetary income for other people (nonproducers) is increased, and for these people the marginal utility of money and hence their inclination to work for monetary return would be reduced. But this is by no means all that need be said, as this might still leave the impression that taxation simply does not affect the output of exchangeable goods at all — since it will reduce the marginal utility of money income for some and increase it for others, with both effects cancelling each other out. But this impression would be wrong.
As a matter of fact, this would be a denial of what has been assumed at the outset: that a tax hike, i.e., a higher monetary contribution forced upon disapproving income producers, has actually taken place and has been perceived as such — and would hence involve a logical contradiction. Intuitively, the flaw in the belief that taxation is “neutral” as regards output becomes apparent as soon as the argument is carried to its ultimate extreme.
It would then amount to the statement that even complete expropriation of all of the producers’ monetary income and the transfer of it to a group of nonproducers would not make any difference, since the increased laziness of the nonproducers resulting from this redistribution would be fully compensated by an increased workaholism on the part of the producers (which is certainly absurd).
What is overlooked in this sort of reasoning is that the introduction of taxation or the rise in any given level of taxation does not only imply favoring nonproducers at the expense of producers, it also simultaneously changes, for producers and nonproducers of monetary income alike, the cost attached to different methods of achieving an (increasing) monetary income. For it is now relatively less costly to attain additional monetary income through nonproductive means, i.e., not through actually producing more goods but by participating in the process of non contractual acquisitions of goods already produced. Even if producers are indeed more intent upon attaining additional money as a consequence of a higher tax, they will increasingly do so not by intensifying their productive efforts but rather through exploitative methods.
This explains why taxation is not, and never can be, neutral.
With (increased) taxation a different legal incentive structure is institutionalized: one that changes the relative costs of production for monetary income versus nonproduction, including nonproduction for leisurely purposes and nonproduction for monetary return, and also versus production for nonmonetary return (barter). And if such a different incentive structure is applied to one and the same population, then, and necessarily so, a decrease in the output of goods produced for monetary return must result.11 While income and sales taxation are the most common techniques, they do not exhaust social-democratic socialism’s repertoire of redistributive methods.
No matter how the taxes are redistributed to the individuals composing a given society, no matter, for instance, to what extent monetary income is equalized, since these individuals can and do lead different lifestyles and since they allocate different portions of the monetary income assigned to them to consumption or to the formation of nonproductively used private wealth, sooner or later significant differences between people will again emerge, if not with respect to their monetary income, then with respect to private wealth. And not surprisingly, these differences will steadily become more pronounced if a purely contractual inheritance law exists. Hence, social-democratic socialism, motivated as it is by egalitarian zeal, includes private wealth in its policy schemes and imposes a tax on it, too, and in particular imposes an inheritance tax in order to satisfy the popular outcry over “unearned riches” falling upon heirs.
Economically, these measures immediately reduce the amount of private wealth formation. As the enjoyment of private wealth is made relatively more costly by the tax, less wealth will be newly created, increased consumption will ensue — including that of existing stocks of nonproductively used riches — and the overall standard of living, which of course also depends on the comforts derived from private wealth, will sink.
Similar conclusions about impoverishment effects are reached when the third major field of tax policies — that of “natural assets” — is analyzed. For reasons to be discussed below, this field, next to the two traditional fields of monetary income and private wealth taxation, has gained more prominence over time under the heading of opportunity equalization. It did not take much to discover that a person’s position in life does not depend exclusively on monetary income or the wealth of nonproductively used goods. There are other things that are important in life and which bring additional income, even though it may not be in the form of money or other exchange goods: a nice family, an education, health, good looks, etc. I will call these nonexchangeable goods from which (psychic) income can be derived “natural assets.”
Redistributive socialism, led by egalitarian ideals, is also irritated by existing differences in such assets, and tries, if not to eradicate, then at least to moderate them. But these assets, being nonexchangeable goods, cannot be easily expropriated and the proceeds then redistributed. It is also not very practical, to say the least, to achieve this goal by directly reducing the nonmonetary income from natural assets of higher income people to the level of lower income people by, for instance, ruining the health of the healthy and so making them equal to the sick, or by smashing the good-looking people’s faces to make them look like their less fortunate bad-looking fellows.
Thus, the common method social-democratic socialism advocates in order to create “equality of opportunity” is taxation of natural assets. Those people who are thought to receive a relatively higher nonmonetary income from some asset, like health, are subject to an additional tax, to be paid in money. This tax is then redistributed to those people whose respective income is relatively low to help compensate them for this fact.
An additional tax, for instance, is levied on the healthy to help the unhealthy pay their doctor bills, or on the good looking to help the ugly pay for plastic surgery or to buy themselves a drink so that they can forget about their lot.
The economic consequences of such redistributive schemes should be clear.