Taxes: how we got here

Look up at an old Georgian townhouse in Bath and count the bricked-up windows. Each one is a receipt: three hundred years ago, England taxed windows, so people got rid of windows. That's the whole history of taxation in one building. Governments need money, so they tax whatever they can see and count - and taxpayers, reliably and ingeniously, change their behavior to pay less. Everything else is detail. But the detail is a five-thousand-year story running through pharaohs, revolutions, world wars, and a napkin in a Washington restaurant, and it explains most of what comes out of your paycheck.

Tribute and tithes: tax what you can see

The first taxes were levied on the first thing worth taxing: the harvest. In ancient Egypt, scribes measured fields, recorded grain, and collected the state's share - some of the oldest writing we have is, deflatingly, tax records. The tax collector's eternal problem explains why: you can only tax what you can find, and land can't be hidden, moved, or argued with. For most of human history, land was wealth, so land was the tax base.

Rome added a wrinkle. The tributum was a levy on citizens' assessed wealth - land, cash, property - raised to pay for war, and framed, rather sweetly, as a compulsory loan that might someday be repaid. It worked well enough that after Rome conquered Macedon in 167 BC, the plunder was so vast that citizens in Italy simply stopped paying it for about a century. Conquest as tax relief: not a policy your finance ministry currently offers.

Religion built its own systems. Medieval Christians owed the tithe - a tenth of produce to the Church. Islam made almsgiving one of its Five Pillars: zakat, customarily 2.5% of accumulated wealth each year, owed to the poor and needy. Notice what zakat is, structurally - a wealth tax with a moral purpose, fourteen centuries before economists started arguing about wealth taxes on television.

Feudal Europe, meanwhile, barely distinguished tax from rent from servitude. Peasants owed their lord days of labor, shares of crops, fees to grind grain at his mill; the line between "the government" and "the landlord" hadn't been invented yet. What all these systems shared was visibility: grain, acres, livestock. Taxing something as invisible as income - money that flows rather than sits - was still centuries away, waiting for the paperwork to catch up.

The window tax: taxes change behavior

By the 1600s, European states were getting expensive - standing armies, navies, palaces - and getting creative. The workhorses were customs duties (a tariff collected at the port) and excises on goods like beer and salt. And in 1696, under William III, England produced the most instructive tax ever invented: the window tax. Houses paid a flat charge, plus more if they had ten windows or more. Windows were the point: easy to count from the street, and roughly a proxy for wealth - big house, many windows.

You can guess what happened. People bricked up windows. New houses were designed with fewer of them. (Historians caution that not every blocked-up Georgian window is a tax dodge - some were just fashion - but plenty were, and the tax wasn't abolished until 1851, after campaigners attacked it as a tax on light and air.) The window tax is the cleanest demonstration of the first law of tax policy: whatever you tax, you get less of. A tax is an incentive wearing a uniform.

It was exactly this kind of muddle that Adam Smith took aim at in 1776. Buried in The Wealth of Nations are his four maxims of taxation, which remain the sanest paragraph ever written on the subject: taxes should be proportionate to ability to pay; certain rather than arbitrary, so the collector can't shake you down; convenient to pay; and cheap to collect, wasting as little as possible between your pocket and the treasury. Smith was writing against the mercantilist tangle of his day - tariffs and monopolies that mostly enriched well-connected merchants, an early masterclass in rent-seeking. Nearly 250 years later, his four maxims still read like a checklist your tax code fails.

Smith's century also delivered the two great warnings about getting taxes wrong. In 1765, Britain's Stamp Act taxed the American colonies' newspapers and legal documents - taxation imposed by a Parliament in which no colonist sat. The cry of "no taxation without representation" turned tax collectors into effigies and, within a decade, colonies into a country. France did worse. Its salt tax, the gabelle, forced households in some regions to buy a quota of salt at prices up to twenty times higher than in luckier provinces - while nobles and clergy were largely exempt. By the late 1700s roughly three thousand people a year were being imprisoned, sent to the galleys, or executed over salt. The Revolution's National Assembly abolished the gabelle in 1790 and freed its prisoners. The lesson kings kept failing to learn: people will tolerate paying, but not paying unfairly.

The income tax arrives: an inquisition for an emergency

The income tax was born the way most big taxes are born: in a war. Facing Napoleon and running out of money, Britain's prime minister William Pitt the Younger announced it in his budget of December 1798, effective 1799 - a graduated levy starting on incomes over £60 and rising to 10% on incomes over £200. Critics called it inquisitorial, because it was: for the first time, the state demanded to know what you earned. It was repealed at the first peace in 1802, revived when war resumed, and scrapped again after Waterloo in 1816 - Parliament, in its relief, ordered the records destroyed. The tax crept back for good in 1842, when Robert Peel revived it (at about 3% on comfortable incomes) to plug a deficit while cutting hundreds of tariffs. The emergency measure was becoming furniture.

The idea that income tax should climb with income - a progressive tax - had radical fingerprints on it. When Karl Marx and Friedrich Engels listed their demands in the Communist Manifesto in 1848, item two was "a heavy progressive or graduated income tax." Classical economists were circling the same territory from another direction: David Ricardo's theory of rent - that landowners collect value they did nothing to create - later inspired the American journalist Henry George, whose Progress and Poverty (1879) proposed replacing every tax with a single tax on land values. George's book was a global sensation, and economists still have a soft spot for land taxes, for the window-tax reason in reverse: you can brick up a window, but you can't hide an acre.

America followed the same war-shaped path. The Union funded its side of the Civil War partly with an income tax on incomes above $600, starting in 1861; it was repealed in 1872 once the emergency passed. When Congress tried a peacetime income tax in the 1890s, the Supreme Court struck it down (Pollock, 1895). Fixing that took a constitutional amendment: the Sixteenth, ratified in February 1913, letting Congress tax incomes directly. The first modern American income tax followed within the year - a modest thing touching only a small, prosperous slice of the country. That would not last.

The mass tax: withholding, 94%, and the postwar settlement

Two world wars did to the income tax what they did to everything else: industrialized it. Before 1939, the American income tax was a class tax - the equivalent of about 1% of personal income, paid by a well-off few. To pay for the Second World War, it became a mass tax, paid by nearly everyone, and the take rose above 11% of personal income.

The machinery that made this possible was invented in 1943: withholding. The Current Tax Payment Act, signed that June, required employers to deduct tax from every paycheck and send it straight to Washington. No lump sum, no annual sticker shock - the money is gone before you ever hold it, which is precisely why it works. And here history hands us a delicious detail: one of the architects of American withholding was a young Treasury economist named Milton Friedman - yes, that one, the century's most famous advocate of smaller government. He defended it as a wartime necessity and lamented it ever after: "I have no apologies for it, but I really wish we hadn't found it necessary and I wish there were some way of abolishing withholding now." There wasn't. Withholding turned out to be the most durable piece of fiscal technology of the century.

Rates went to places that now sound like typos. The top U.S. marginal rate hit 94% in 1944–45 and stayed above 90% into the early 1960s; Britain's top rates later reached 83% on earnings and 98% on investment income. And yet the postwar decades were a boom - strong growth, rising wages, big public projects. This was the postwar settlement: governments, armed with the ideas of John Maynard Keynes, now saw taxing and spending - fiscal policy - not just as revenue-raising but as a steering wheel for the whole economy. High progressive taxes funded highways, universities, and welfare states, and for about twenty-five years the arrangement looked permanent. (Worth noting: almost nobody actually paid the headline 90%+ rates - the era's tax codes were Swiss cheese, a gap that would soon become a political weapon.)

VAT spreads: the quiet giant

While income tax hogged the headlines, the twentieth century's stealthiest tax was born in France. In 1954, a French tax official named Maurice Lauré rolled out his invention - first tested in France's colonial territories, then adopted nationwide - the taxe sur la valeur ajoutée: VAT, the value-added tax. The trick is in the plumbing. Instead of taxing a sale once at the till, VAT taxes the value added at every step of production, with each business deducting the tax already paid by its suppliers. That gives every firm in the chain a paper trail - and an incentive to keep its suppliers honest - which makes VAT remarkably hard to evade and remarkably good at raising money without anyone quite noticing.

Governments noticed that. From one country in 1954, VAT has spread to roughly 175 of the world's 193 countries; the lone big holdout is the United States, the only OECD country without one. If you live almost anywhere else, VAT is buried in the price of nearly everything you bought this week. You've been paying Monsieur Lauré's tax your whole life; it just never introduces itself.

The supply-side turn: a napkin changes tax policy

The postwar settlement ran on growth, and in the 1970s the growth stopped. Oil shocks, rising prices, and rising unemployment at the same time - stagflation - broke the Keynesian consensus, because the standard playbook had no page for it. Into that vacuum walked ideas that had been waiting in the wings, including those of Friedrich Hayek, whose warnings about overreaching government found a devoted reader in Margaret Thatcher.

The era's most famous economic argument was allegedly drawn on a napkin. In 1974, at the Two Continents restaurant in Washington, the economist Arthur Laffer sketched a curve for two Ford administration officials, Dick Cheney and Donald Rumsfeld: tax revenue is zero at a 0% rate and zero again at 100% (why work?), so somewhere in between revenue peaks - and past that peak, cutting rates could raise revenue. Laffer cheerfully admitted the idea was ancient, crediting the fourteenth-century scholar Ibn Khaldun; Keynes had made a version of the argument too. The curve is true as logic. As policy, everything depends on where the peak is - and whether you're past it - which remains one of the most contested empirical questions in economics.

Contested or not, it had its decade. Thatcher cut Britain's top rate from 83% to 60% in 1979 and to 40% by 1988 (while, tellingly, raising VAT). Reagan's Economic Recovery Tax Act of 1981 cut the U.S. top rate from 70% to 50%; the Tax Reform Act of 1986 - a genuinely bipartisan deal, passed with the blessing of Democratic Speaker Tip O'Neill - took it to 28% while closing loopholes and dropping millions of low earners from the rolls entirely. In one generation, top rates across the rich world fell by half or more. The revenue debate never resolved - income tax receipts didn't collapse, but deficits grew - and the argument about whether tax cuts pay for themselves has been running on cable news ever since.

Today's debates: old arguments, new targets

Strip the jargon from today's tax fights and you'll find every episode of this story replaying at once.

The fairness argument - gabelle vintage - is now flat versus progressive. Advocates of a flat tax, one rate for everyone, channel Smith's maxims: simple, certain, cheap to collect; several post-Soviet countries adopted flat taxes in the 1990s as a fresh start. Defenders of progressive rates answer that a flat rate on unequal incomes lands unequally - an argument that got new fuel when the French economist Thomas Piketty's Capital in the Twenty-First Century (2014) contended that wealth left to itself grows faster than the economy (his famous r > g), concentrating fortunes across generations unless taxed. His proposed remedy, a global wealth tax, is zakat's old idea in modern dress, and it collides with the same old problem: unlike land, capital can move, and it does - quickly - when taxed.

The window-tax insight - taxes change behavior - has been turned from bug to feature. A carbon tax deliberately prices in the damage of an externality: the cost your emissions impose on everyone else, which no market price otherwise carries. The idea comes from the economist Arthur Pigou, who worked it out in the 1920s, and it's that rare tax with fans across the political spectrum - if you must tax something, tax what you want less of.

And the oldest problem of all - wealth that moves faster than the taxman - went global. Multinationals spent decades booking profits in whichever jurisdiction taxed them least, while countries raced each other's corporate rates to the bottom. In October 2021, some 137 countries agreed on the OECD's answer: Pillar Two, a global minimum corporate tax of 15% on multinationals with revenues above €750 million, taking effect in stages from 2024. If a company pays less than 15% somewhere, other countries can top up the bill - making the race to the bottom pointless. It is the first serious attempt to do to corporate tax havens what the Sixteenth Amendment did to untaxable incomes: close the exit.

Five thousand years in, the game hasn't changed - governments tax what they can see, taxpayers duck, and the tax base keeps chasing wealth into ever-stranger hiding places. What's changed is the scoreboard. To see how the game stands right now - who taxes income hardest, who leans on VAT, who taxes almost nothing at all - head over to how countries tax today.