The Economics of Welfare

By Arthur C. Pigou

WHEN a man sets out upon any course of inquiry, the object of his search may be either light or fruit—either knowledge for its own sake or knowledge for the sake of good things to which it leads. In various fields of study these two ideals play parts of varying importance. In the appeal made to our interest by nearly all the great modern sciences some stress is laid both upon the light-bearing and upon the fruit-bearing quality, but the proportions of the blend are different in different sciences. At one end of the scale stands the most general science of all, metaphysics, the science of reality. Of the student of that science it is, indeed, true that “he yet may bring some worthy thing for waiting souls to see”; but it must be light alone, it can hardly be fruit that he brings. Most nearly akin to the metaphysician is the student of the ultimate problems of physics. The corpuscular theory of matter is, hitherto, a bearer of light alone. Here, however, the other aspect is present in promise; for speculations about the structure of the atom may lead one day to the discovery of practical means for dissociating matter and for rendering available to human use the overwhelming resources of intra-atomic energy. In the science of biology the fruit-bearing aspect is more prominent. Recent studies upon heredity have, indeed, the highest theoretical interest; but no one can reflect upon that without at the same time reflecting upon the striking practical results to which they have already led in the culture of wheat, and upon the far-reaching, if hesitating, promise that they are beginning to offer for the better culture of mankind. In the sciences whose subject-matter is man as an individual there is the same variation of blending as in the natural sciences proper. In psychology the theoretic interest is dominant—particularly on that side of it which gives data to metaphysics; but psychology is also valued in some measure as a basis for the practical art of education. In human physiology, on the other hand, the theoretic interest, though present, is subordinate, and the science has long been valued mainly as a basis for the art of medicine. Last of all we come to those sciences that deal, not with individual men, but with groups of men; that body of infant sciences which some writers call sociology. Light on the laws that lie behind development in history, even light upon particular facts, has, in the opinion of many, high value for its own sake. But there will, I think, be general agreement that in the sciences of human society, be their appeal as bearers of light never so high, it is the promise of fruit and not of light that chiefly merits our regard. There is a celebrated, if somewhat too strenuous, passage in Macaulay’s Essay on History: “No past event has any intrinsic importance. The knowledge of it is valuable, only as it leads us to form just calculations with regard to the future. A history which does not serve this purpose, though it may be filled with battles, treaties and commotions, is as useless as the series of turnpike tickets collected by Sir Matthew Mite.” That paradox is partly true. If it were not for the hope that a scientific study of men’s social actions may lead, not necessarily directly or immediately, but at some time and in some way, to practical results in social improvement, not a few students of these actions would regard the time devoted to their study as time misspent. That is true of all social sciences, but especially true of economics. For economics “is a study of mankind in the ordinary business of life”; and it is not in the ordinary business of life that mankind is most interesting or inspiring. One who desired knowledge of man apart from the fruits of knowledge would seek it in the history of religious enthusiasm, of martyrdom, or of love; he would not seek it in the market-place. When we elect to watch the play of human motives that are ordinary—that are sometimes mean and dismal and ignoble—our impulse is not the philosopher’s impulse, knowledge for the sake of knowledge, but rather the physiologist’s, knowledge for the healing that knowledge may help to bring. Wonder, Carlyle declared, is the beginning of philosophy. It is not wonder, but rather the social enthusiasm which revolts from the sordidness of mean streets and the joylessness of withered lives, that is the beginning of economic science. Here, if in no other field, Comte’s great phrase holds good: “It is for the heart to suggest our problems; it is for the intellect to solve them…. The only position for which the intellect is primarily adapted is to be the servant of the social sympathies.”… [From the text]

Book Cover

First Pub. Date

1920

Publisher

London: Macmillan and Co.

Pub. Date

1932

Comments

4th edition.

Copyright

Part IV, Chapter IX

THE EFFECT ON THE NATIONAL DIVIDEND OF THE EXPECTATION OF TRANSFERENCES FROM THE RELATIVELY RICH

§ 1. THE expectation of levies from the relatively rich, as from any other class, acts upon the national dividend differently according as the levy is voluntary or coercive. The contribution of a voluntary levy implies that a new use has been found, into which people wish to put some resources more keenly than they wish to put them into other available uses. This means that their desire to possess resources is enhanced, and, therefore, that the provision they are willing to make of waiting and effort, in order to obtain resources, is also enhanced. Hence the expectation by the rich of voluntary transferences from the rich is likely to make for an increase in the size of the national dividend. “Though it would have disastrous effects if the State should attempt to enforce universal benevolence, yet only beneficial results would follow if all men were to become wisely benevolent.”
*62 It is, therefore, important to consider briefly what scope there is in the modern world for this type of transference.

§ 2. The most obvious form which it can and does take is that of generous conduct towards their workpeople on the part of wealthy employers of labour. Since these workpeople spend a great part of their lives in buildings provided by their employers and in conditions largely under their control, the employers have the power to spend money in their interest with exceptional effect. Acting in careful collaboration with chosen representatives of the workpeople, they can contribute conveniences, opportunities for recreation and
opportunities for education, and can make it a condition of employment for their younger workers that these things shall be used. Thus Messrs. Cadbury at Bournville require all their employees under eighteen to take part in regular gymnastic classes and in regular and elaborate courses of education, in part provided by, and in part paid for by, the firm.
*63 The special opportunities which they enjoy for effective action may well create in wealthy employers a special sense of obligation. This sense was admirably expressed by the well-known Dutch employer Van Marken, when he declared: “It seems to me the duty of an employer to aid his subordinates by every means at his command—his heart, his intellect, his money—to attain that highest stage which alone makes life worth living. My own conviction is that in doing so the employer will make no sacrifices. But, if he needs must make them, be it from the material or the moral point of view, let him make them up to the limit of his capacity. It is his sacred duty.”
*64 With the education of opinion among well-to-do employers of labour we may look increasingly for a growth of this sense of patronal obligation. Furthermore, this sense may be fortified and extended by the egoistic consideration that generous treatment of workpeople is often a splendid advertisement, leading indirectly to large profits. On this point I cannot do better than adopt Ashley’s excellent words: “Instead of cynically pooh-poohing it [employers’ welfare work] for that reason, I think this is a particularly encouraging fact, and highly creditable to human nature. It shows that there is such a thing as a consumers’ conscience. The whole essence of the Consumers’ League work in America and of the White Lists of the Christian Social Union in this country is to make it ‘good business’ to be known to manufacture under satisfactory working conditions; and, with increasing publicity and an increasing fellow-feeling among all classes, I expect that this is going to be the case more and more.”
*65

§ 3. Voluntary transference of resources may also take
the form of generous conduct on the part of the wealthy to those poor persons who are united to them through common citizenship of the same town. Here, too, there is a special relation and, consequently, a special spur towards generous action: for the wealthy donor of such things as public parks and playgrounds has the satisfaction of choosing the form of his gift, of directing the use of it in some measure, and of seeing the fruits of it develop before his eyes. This localised generosity may easily expand into a wider patriotism, which interests itself, not merely in fellow-citizens of a common city, but in fellow-citizens of a common country. Pure public spirit often leads wealthy persons voluntarily to provide, partly in their lifetime and partly by legacies at death, large sums for the service of the poor. Often, too, public spirit is reinforced by the craving, strong in some men, for that sense of power which the fact of giving conveys.

§ 4. The normal motives prompting men to these and other forms of voluntary transference of resources to public ends are already of considerable force, and it is open to us to stimulate them still further. “No doubt,” Marshall writes, “men are capable of much more unselfish service than they generally render; and the supreme aim of the economist is to discover how this latent social asset can be developed more quickly and turned to account more wisely.”
*66 Not much has yet been accomplished in this direction. It is well understood, however, that Government, if it so chooses, has power to harness to the nobler motives for generosity others of a lower order. Much will be done for the sake of fame and praise, and fame of a sort may be offered as a reward for private munificence. Thus the transference of resources from the rich can be purchased, in a delicately veiled manner, by honours and decorations that cost nobody anything. These things are at once symbols and conveyers of reputation; for, when a worthless man is decorated, those who feel, or pretend to feel, respect for the decorator, offer a vicarious respect to the decorated also. No doubt, in some degree, the issue of fresh decorations may diminish the value to their possessors of those already issued. To confer the Order of Merit broadcast
among excellent bricklayers would annihilate its attractive power for the class in whose behoof it was originally designed. This difficulty can, however, be overcome to a great extent by the creation of new orders, instead of the extension of old ones. It is not impossible, therefore, that, along these lines, inducements might be provided adequate to secure the transference of a good deal of income from rich people, without the expectation of the transference involving any diminution, but, rather, some appreciable increase, in the waiting and effort furnished by them towards the upbuilding of the national dividend.

§ 5. Unfortunately it is quite certain that, in present conditions, voluntary transferences will fall very much below the aggregate of transferences from relatively well-to-do people which the general sense of the community demands. A considerable amount of coercive transference is, therefore, also necessary. This means, in one form or another, taxes, and probably, in the main, direct taxes graduated against the owners of large incomes and properties. The taxes, to which resort is in practice most likely to be had, are taxes on incomes and taxes on property passing at death. In what follows attention will be confined to these taxes. It is proposed to examine the kind of reactions on the national dividend to which the imposition of the one or the other kind is likely to lead.

§ 6. Let us consider first an income tax in which there is no differentiation against saving. As I have shown elsewhere, this means, broadly speaking, an income tax under which either savings themselves or the incomes subsequently yielded by these savings are exempted.
*67 When such an income tax is graduated so as to yield a substantial contribution from the relatively well-to-do, in what way will the expectation of the levies to be made under it react on the size of the national dividend? Three possible lines of reaction may be distinguished. First, the knowledge that this tax is there might drive men capable of earning large incomes by their work to live and work abroad rather than in the taxing country. Secondly, it might drive men with large powers of saving to make their
investments abroad rather than in the taxing country. Thirdly, it might cause men capable of earning large incomes by their work, while continuing to reside in England, to work less (or conceivably, as will be argued in a moment, to work more) than they would have done had there been no tax. These three lines of reaction will now be considered in turn.

§ 7. If one country has a much higher income tax on large incomes than others, this fact will certainly constitute some inducement to men capable of earning large incomes to go and live abroad. There is reason to believe, however, that residence in their native land means so much to many rich men—particularly since the advantage of wealth is largely social advantage—that it would need a very large excess of tax to affect many of them in this way. Moreover, the movement towards high income tax on large incomes has a wide sweep, and the man who contemplates leaving his home to escape taxes there must reflect that similar taxes may before long be imposed in the country to which he goes. Along these lines, therefore, the reaction on the national dividend is not likely to be very important.

§ 8. At first sight it might seem that the second line of reaction is, on the other hand, almost certain to be very important. For, whereas a rich man will dislike moving himself abroad, he will not, it would seem, as a rule object to sending his capital abroad. The fear, however, that high income taxes will, in this way, drive capital abroad in large quantities, arises, at all events so far as the United Kingdom is concerned, from an imperfect knowledge of the exact scope of the British income-tax law. It is, no doubt, true that a tax striking the fruits of capital, in so far as it impinges on the investments of foreigners in England, lessens the advantage to foreigners of investment here, and,
pro tanto, stimulates foreign individuals to withdraw their capital, and foreign corporations with plant abroad to withdraw their head offices. This, however, is a minor matter, for foreign investment here is admittedly small in amount. The substantial fear is that high income tax will drive British-owned capital to foreign fields. This fear is not well grounded. Since the English income tax, unlike the income taxes of the colonies, is levied
on incomes
received in England, and not merely upon those
earned or built up there, high income tax here, in general, constitutes no inducement to an Englishman resident in England to send his capital abroad for investment. He will have to pay income tax when he brings the income derived from it home from abroad; and, under an amendment of the income-tax law passed in 1914, he must even pay if he leaves it abroad for investment there. Nor is this all. As things are at present, the income from English capital invested abroad will often have to pay a foreign income or other tax as well as the British income tax; so that a man, by sending his capital abroad, so far from escaping taxation, would actually encounter more of it. Hence, apart from deliberate and purposed fraud, if English capital is to be driven abroad, English capitalists must be driven there also. Nor is it even true that the supposed indirect effect of high income tax, namely, the fear of “Socialism,” could rationally drive capital abroad without driving its owners abroad also; for, presumably, “Socialism” would not fasten on British factory-owners and leave British owners of foreign securities unscathed. Hence the same fact that limits the tendency of high income tax to drive able men to do their work abroad—namely, the desire to live in their native land—also limits the tendency to drive their capital abroad.

§ 9. There remains the third line of reaction—that, namely, on the amount of work which those persons who are subjected to a high income tax will do. This is a more complicated matter. At first sight it might seem that the expectation of having to pay any tax upon the fruit of work
must in some degree discourage the performance of work. This, however, is not so, because, if a man’s income is reduced by taxation, the addition of a £ to his income will satisfy a more urgent want than it would have done had his income not been reduced, and, consequently, though extra work will yield a less net return of money, it may, under certain types of tax, yield a greater net return of satisfaction. Proceeding on this line, of thought, we observe that if an income-tax scale is so drawn as to impose equal sacrifice on all tax-payers (of similar temperament) whatever their incomes, the amount of work
which they elect to do will not be altered at all by the expectation of it. As Professor Carver writes: “The minimum of repression (on industry and enterprise) is secured by so distributing taxes that an equal sacrifice is required of all. No one is discouraged from the acquisition of wealth or a large income, or from entering this or that occupation, if there is equal sacrifice involved in either case.”
*68 Now, we do not know enough about the relation between differences in the sizes of incomes and differences in the amounts of satisfaction yielded by them to be able to say what scale of income-tax graduation would conform to the canon of equal sacrifice. It would, however, be generally agreed that a proportionate income tax would involve a heavier sacrifice to poor people than to rich people, and that
some degree of progression in the tax rate could be introduced without making the sacrifice imposed on the rich exceed that imposed on the poor. It is not an untenable view, therefore, that taxes on the better-to-do classes adequate to yield the revenue we require for transference to the poor could be contrived on equal sacrifice principles, and, therefore, in a way innocuous to the national dividend. In view of the fact that, when an able man is actually engaged in work, a large part of his aim is simply “success,” and that that is not interfered with by any tax that hits his rivals equally with himself, it may well be that, in the upper part of the tax scale, a fairly steep rate of progression might be adopted without the limits set by the principle of equal sacrifice being overstepped. It will be easily understood, however, that the scale of progression which conforms to the principle of
equal sacrifice is very much less steep than that required to bring about minimum aggregate sacrifice. Most people will agree, therefore, that a scale somewhat steeper than that yielding equal sacrifice is desirable. If such a scale is adopted,
some repressive influence on the amount of work done and, therefore, on the size of the national dividend must be exercised. It is important to realise, however, that, contrary to common opinion, the extent of this repressive influence upon any particular tax-payer depends, not on the absolute amount, or the absolute
percentage, of his income that he is required to pay in taxes, but on the relation between this amount or percentage and the amount or percentage which he would be required to pay if his income were a little more or a little less.

§ 10. When an income tax of a type that does not differentiate against savings cuts down the national dividend of the moment by checking work, it will also indirectly cut down the dividend of future years, because, with the smaller dividend of the moment, there will be less to invest as well as less to consume. An income tax, which is constructed on the same general plan and yields an equal revenue, but which
does differentiate against saving, may be expected to have a larger effect. We need not suppose that it will affect the amount of work done and, therefore, the size of the dividend of the moment otherwise than the non-differential tax would have done. The non-differential tax lessens in a given degree the advantage that work yields, whatever is done with the fruit of work; the differential tax lessens in a smaller degree the advantage which the part of it devoted to spending yields, and in a larger degree the advantage which the part devoted to saving yields. The net effect on the quantity of work done is likely to be much the same in either case.
*69 It may be expected, however, that the differential tax will discourage savings more seriously—in spite of the fact that it may cause the savings of certain persons to increase
*70—than the non-differential tax, and, therefore, to contract more seriously the dividend of future years. How far it will do this it is impossible, with our present knowledge, to determine. All that can be said is that, if we take the point of view of a fairly long period, the succession of national dividends spread
over a series of years is likely to be damaged somewhat more by the expectation of an income tax which differentiates against saving than it would be by that of a non-differential income tax yielding the same revenue.

§ 11. The second fiscal instrument, distinguished in § 5, through which substantial levies on the relatively well-to-do can be made, is the system of graduated taxes upon property passing at death. These duties, which are actuarially equivalent to deferred income tax on income derived from property, plainly differentiate against savings. The expectation of them will, therefore, check savings and so contract the national dividend of future years. Since, however, they do not as a rule hit savings till some years after they are made, this repressive effect need not be very great. For let us suppose that twenty million £’s a year are to be raised. This can be done either by collecting, say, £100 every year from each of a group of 200,000 people (income tax), or by collecting £2000 from each of them at death, say, on the average, once in twenty years (death duties). The choice between the two methods is indifferent to the State. But it is not indifferent to the persons concerned. Since these persons discount future taxes precisely as they discount all future events, and since their concern in any event is largely diminished if the event is known to fall due when they themselves are no longer alive, the expectation of taxes levied after the second method will have the smaller restrictive influence upon the quantity of capital created by them. Moreover, there are additional reasons why death duties should impose a relatively small check upon the creation of capital. A part of the stimulus to accumulation consists in the power and prestige that riches confer. In persons of only moderate fortune, who have, or hope to have, children, this motive is not, indeed, likely to play a dominant part. A desire to provide for their children will be the main motive, and, if it were removed, many of them would elect to “retire” from work much earlier than they do now. But, as Professor Carver observes: “After one’s accumulation has increased beyond that which is necessary to safeguard one’s offspring and to provide for the genuine prosperity of one’s family, the motive to further accumulation changes. One then engages in business enterprises
because of a love of action and a love of power. Accumulated capital becomes then one of the instruments of the game. So long as the player is left in possession of this instrument while he is one of the players, he is not likely to be discouraged from accumulation merely by the fact that the State, rather than his heirs, gets it after he is through with it.”
*71 In a like spirit the late Mr. Carnegie wrote: “To the class whose ambition it is to leave great fortunes and to be talked about after death, it will be even more attractive, and, indeed, a somewhat nobler ambition, to have enormous sums paid over to the State from their fortunes.” We may add the similar saying of Walter Rathenau: “The object of the business man’s work, of his worries, his pride and his aspirations, is just his undertaking, be it a commercial company, factory, bank, shipping concern, theatre, or railway. The undertaking seems to take on form and substance, and to be ever with him, having as it were, by virtue of his book-keeping, his organisation, and his branches, an independent economic existence. The business man is wholly devoted to making his business a flourishing, healthy, living organism.”
*72 Hence very heavy death duties could probably be levied on large fortunes—particularly on such parts of them as are left out of the direct line—without the knowledge that these taxes exist and will have ultimately to be paid exercising any large influence in discouraging rich men from saving.

§ 12. The general result of this analysis is, unfortunately, very nebulous. It is probable on the whole that, unlike the expectation of voluntary transferences from the rich, the expectation of coercive transferences from them by taxation will do harm to the dividend, particularly if the taxation imposed is heavy or steeply graduated. But we cannot determine the size of the adverse influence, even when the quantity of revenue to be raised and the scheme of taxation to be enforced are exactly set out.
*73

62.

Carver,
Social Justice, p. 142.

63.

Cf. Cadbury,
Experiments in Industrial Organisation, p. 17.

64.

Meakin,
Model Factories and Villages, p. 27.

65.

Preface to Cadbury’s
Experiments in Industrial Organisation, p. xiii.

66.

Principles of Economics, p. 9.

67.

Cf.
A Study in Public Finance, Part II. chapter x.

68.

Annals of the American Academy, 1895, p. 95.

69.

If the desire for income to save is decidedly more elastic than the desire for income to spend, the differential tax can be shown to be more restrictive of work than the other; in the converse case it can be shown to be less restrictive. But we have no reason to suppose that the desire for one of these uses is, from a long-period standpoint, much more or much less elastic than that for the other.

70.

Cf.
ante, p. 666. The possibility that, for some people, a tax on savings might cause more savings to be made is parallel to the possibility that, for some people, a tax on work might cause more work to be done. The maximum amount that could in any circumstances be added to savings or to work is an amount sufficient to discharge the whole tax, in such wise that the taxed persons would be left with the same amount of available income as they would have had if there had been no tax.

71.

Essays in Social Justice, p. 323. Professor Fisher even writes: “The ordinary normal self-made American millionaire is rather disposed, I believe, to look on the inheritance of his millions by his children with some misgiving” (
Journal of Political Economy, vol. xxiv. p. 711).

72.

A. G. Sombart,
The Quintessence of Capitalism, p. 173.

73.

For a fuller discussion of the comparative effects of various forms of taxation, of.
A Study in Public Finance, Part II.

Part IV, Chapter X