Taxation and individual welfare

Based on microeconomics theories, it is often to see direct taxation is more efficient than indirect taxation, this means through a direct taxation system, the government is able to receive more tax incomes. However, there are some macroeconomists that are arguing consumption tax is the best tax, and could potentially be the universal tax. The major difference between microeconomics and macroeconomics is that from the macroeconomics prospective, the policy maker focuses at the aggregate population welfare and does not care about particular individuals or groups’ welfare, on the other hand, from the microeconomics prospective, the welfare of individuals and individual groups is recognised and studied.

In reality, a universal taxation system is not desirable that if imposing direct taxes on incomes, the government cannot effectively reduce the consumption with negative externalities, also if imposing indirect taxes on consumption, the government cannot effectively control the wealth gap existing in the society, this could be a serious issue. Therefore, it is impossible to merely choose one or the other from direct and indirect taxations.

Usually we can suppose the aggregate loss of individuals’ welfare from paying taxes should be equal to the aggregate gain of social welfare provided by government expenditure. However, since governments nowadays generally borrow more than they earns to spend, the aggregate gain of social welfare could be greater than the aggregate loss of individuals’ welfare.