Why do we give tax breaks to income from capital gains and dividends but not interest on savings?

Question

I want to know if there is an theoretical economic rational, not about the effects of big money on out politics.

Answer 1

Capital gains are gotten by investment?

If I am a company, and need raise money, so I sell some stock to you, and I take that money and buy a plant or hire some people, then yes, you will have helped invest in the economy. But now you just own some of the company and you are a leech, just getting paid for a previous investment. If someone else buys the stock from you, and you get a return, that return is no longer related to new investment and adds nothing to GDP. Most stock in the stock market and hence most gains, have nothing to do with real investment.

So, I don't think there is a good theoretical economic rational. If you wanted to stimulate investment, you could have an investment tax credit, or even an employment tax credit. Or, perhaps you could have tax breaks for new stock issues.

Answer 2

Well, here is the theoretical economic rationale:
Investment creates not only wealth for the investor, but wealth and jobs for people. This is due to the multiplier effect.
An investment of 100 dollars creates 100 dollars of new business spending (200 total increase in GDP). That new spending creates 3 new jobs and wages of $75 (275). Those 3 people now spend $50 their new income (325). Etc. etc.

Each part of GDP has a multiplier associated with it, and they are not the same. Investment has the strongest multiplier effect and thus has the largest influence on growing the overall economy. Thus, this is something the government wants to encourage with tax breaks on dividends and capital gains.

On the other hand, saving takes money out of circulation and actually SLOWS the overall economy. Thus, while saving should not be discouraged, it is not something the government necessarily wants to encourage either. So, no tax breaks for interest on savings.

Hope this helps,
Good luck!

Answer 3

Well basically it is to reward investment (risk taking)...if you invest in savings you are not really taking any risk (though there is always a default risk ie the bank fails...but you have federal deposit insurance in that eventuality). The view is that you should be rewarded for your risk taking as it is thought of as productive in the capitalist context. In fact, when you deposit money in a savings account - the bank will actually lend the money out - thereby taking on board the risk of any deliquency or default. Arguably, at the margins, the differential tax treatment on investments, has in part led to more risk-seeking activity on the part of consumers, conversely it has penalised more conservative approaches to wealth generation - such as simple saving accounts - which senior citizens and the like rely on. One problem Ben Bernake has highlighted recently is the need to raise the savings rate in the US...one possible policy tool would be to narrow these tax differentials...but then that would be bad for the stockmarket...and nobody wants that do they?

Answer 4

Capital gains are gotten by investment. With any investment, there is risk. The theory is that if you given investors a tax break, it encourages longer term investments, which helps the economy. Long term capital gains are taxed at a lower rate than short term gains.

Answer 5

It has to do with the idea that Capital is what funds manufacturing, businesses, transportation, all that sort of thing. Capital is what makes it possible for people to have a job.
Interest, on the other hand, provides few jobs.
Personally, I think that interest should have the same tax treatment.