axioms which are never quite true, and in many countries may be utterly untrue.

area.

THE DIFFUSION OR ABSORPTION THEORY

7. That very comfortable theory, the diffusion theory of taxation, has already been referred to in connection with the names of Mansfield and Avebury. This theory is in contrast to the theories which aim at investigating the complicated shiftings that settle the ultimate incidence. It denies the possibility of ascertaining these shiftings, or it assumes that these shiftings bring about a general diffusion of taxation over the whole of society, equitably or inequitably. In other words, the individuals from whom the tax is collected do not ultimately bear the burden but shift it on to other classes so that it is diffused over a broad The diffusion is effected by exchange, buyer and seller in each transaction dividing the amount of tax imposed, and at every fresh exchange a division of the part of taxation transferred takes place, until ultimately the charge is spread over the whole of the parties concerned. By far the best exponent of this theory is the author1 of An Enquiry into the Principles of Taxation, chiefly applicable to Articles of Immediate Consumption. It was published in London in 1790, and Seligman rightly holds that it is perhaps the most interesting and original exposition of the doctrine". The writer, although supporting this theory, has many very sound ideas as to the shortcomings of incidence as detailed by Adam Smith and his contemporaries. He points out that economic progress provides a fund for the payment of taxes, and it is from this surplus derived from the improvement of society that taxes are paid. In his own words, "it is rather the improvement and the thriving situation of the society at large that may be said to sustain the taxes than the individuals who merely pay

1 Seligman appears to be quite wrong in attributing the authorship of this work to Andrew Hamilton, a professor at Aberdeen. Seligman has evidently been misled by the Bibliotheca Britannica (1824), by Robert Watt and the Dictionary of Anonymous and Pseudonymous Literature of Great Britain (1882), by Samuel Halkett and John Laing. The ancient University of Aberdeen never had a professor of that name. The work appeared anonymously just about the time when Robert Hamilton (1743-1829), Professor at Aberdeen University (1799-1829), the author of the Enquiry concerning the Rise and Progress, Reduction and Present State, and the Management of the National Debt, 1813), was writing on such subjects.

them". He further holds that "taxes will become lighter in proportion to the number of hands through which they pass in a thriving society. . . . In order to show that improvements furnish funds for taxes it is not necessary that we should be able accurately to trace the manner in which improvements insinuate themselves through society; nor how a tax is diffused among the various classes of citizens." He concludes that "in stationary and declining societies, taxes on consumption fall universally on all ranks; and in thriving societies attach themselves to those citizens who are unprosperous at the time". Although the author limits the theory to taxes on consumable commodities, his reasoning, as Seligman points out, is equally applicable to other forms of taxes. Seligman rightly sums up the work as " a very remarkable contribution which ought not to have suffered oblivion". In the classification of all taxes he is also ahead of his time.

It is to Canard (1750-1833), whose book was published 1 in 1802, that the diffusion theory is in many ways best ascribed. He cannot, however, be called the founder of the theory any more than Hamilton. He held that the net product was applicable to labour, commerce, as well as land, and therefore taxation falls on all three, and he compares taxation of any one branch to the operation of cupping. After the taking of the blood from the vein it is not more bloodless than any of the other veins of the body, so he believes it is with profits which are not diminished by a tax. The profits of all other branches flow in at once until the equilibrium 2 is restored, and finally the tax is borne by all. He believes that every old tax is good; every new tax is bad, as it upsets or deranges the equilibrium, but the new tax becomes good in time provided it is continuous sufficiently long. His solution of the problem is to replace all existing taxes by a tax on salt.

To sum up, the diffusion or, as it is sometimes called, the absorption theory denies the possibility of ascertaining the shifting and incidence of taxation, and it assumes that this brings about a diffusion of the burden throughout the social whole. Few will agree with Stein that taxation is always part of the cost of production, and that it therefore enters into price with the

1 Principes d'économie politique.

2 Cf. also the remarks of Alexander Hamilton in the Federalist, where he compares taxes on consumable articles to a fluid which will in time find its level.

result that it is diffused throughout the community. Taxes on profits, interest, and wages are not always a part of production. It cannot be logically supported and it is also contrary to experience. The diffusion or absorption theory, however, although it is contrary to the world of actual fact, and although it attempts to prove more than it can, has been of considerable advantage, because it emphasises the fact that taxes do not rest where they are assessed. That is its one main redeeming feature. It rests, as Walker said, upon the assumption of perfect competition, but perfect competition cannot exist where there are ignorance, inertia, poverty, and fear in a community. The wealth of society from which taxes are paid cannot be compared to a fluid or to cupping, but should be compared, as Say rightly said, to a tree or the body, no part of which can be cut out without disfigurement. The theory presents a strong contrast to that of the classical school, which realised the importance of looking into and examining in detail the "seating seating" of taxation, with the object of effecting legislation on conclusions arrived at in regard to the equitable distribution of taxation. The "diffusion" or "absorption theory of incidence is a useless theory. Taxes indeed are often widely diffused. But it is nevertheless quite possible to reach definite results regarding their incidence.

GENERAL PRINCIPLES

8. The incidence then of the various kinds of taxation is clearly one of the most difficult problems in the science of finance. The argument, at first sight somewhat specious, that taxes are diffused or absorbed until the burden of the tax or taxes cannot be determined and that nobody's burden is probably heavier than any one else's, is far from sound. As has been emphasised, many taxes are, as a matter of fact, diffused, but it is certainly possible to reach definite conclusions as to their shifting and incidence and economic results. The view that taxes fall on everybody assumes that all taxes enter into the cost of production, an untrue assumption obvious to any one who considers that taxes are levied on persons in cases where there is no idea of the relation of producer and consumer. Earlier in this chapter we have distinguished between the impact of a tax and its incidence. The original persons who pay the tax feel the impact of that

tax; the persons who bear the direct money burden, or what may be said to be the equivalent of the yield of tax to the Treasury, are those on whom the incidence falls. The incidence may or may not be the same as the impact. It is, perhaps, unnecessary to repeat that taxes are paid by persons and not by goods or things. The amount of the tax is usually connected with goods or things and the relation of the person to these. In the case of houses, for example, the tax is fixed according to the capital or the annual value of the house. The property merely measures the amount of the tax which is levied on persons whose relation to the property is that of owner. A thermometer measures heat so with taxation-taxes are placed often on things, but that is merely for the sake of measurement. They are paid by persons, not by things. Some taxes are paid by those who feel the impact. They are direct taxes, e.g. on income, inheritances, and certain taxes on monopolies, while others are passed on to others indirectly, e.g. taxes on imports, excise duties, and the gross receipts of limited companies. In practice it is usually assumed that a tax on a commodity is always an indirect tax. If the tax, when levied, results in no rise in the price of the commodity if collected from the producers, it is in reality a direct tax. If collected from the consumers and the price is decreased to the full extent of the tax, it is also a direct tax. Similarly, an income tax may result in a rise in the rate of interest in the long run, because it produces a reduction in saving; those who are investing new savings in concerns at the higher rate have really shifted part of the incidence of the tax on to the shoulders of those who are demanding new concerns. A tax, it is often pointed out, which is proportionate to the output of a monopoly may be an indirect tax, while a tax independent of the output of the monopoly may be really direct.

THE USE OF STATISTICS IN INCIDENCE

9. A caveat is necessary here in regard to the use of statistics in dealing with questions of incidence. The effect of a tax on a commodity is often of small importance in its price as compared with changes in other factors. The tax may be, in short, only a small factor as compared with other factors determining the price. In March 1923 the salt duty in India was doubled, and

the actual increase in the duty was one rupee four annas per maund of 82 lb. In August 1923 the increase in the price of salt as compared with February 1923 was more than the extent of the tax in various centres, and as compared with August of the previous year was less than the extent of the tax except in Madras, Allahabad, and Lahore. There are, however, other factors to be considered in dealing with the rise of salt prices besides the increase in the duty. Prices rose as they ordinarily do during the monsoon. On an average of five years it is found that in Bombay the price of salt is higher during the period June to November than in other months, as the tendency is to take delivery of as little salt as possible during the monsoon period, when the salt deteriorates quickly through moisture. In many markets the retail prices of salt had not increased by the extent of the duty, and there were other factors at work. The incidence of a tax on a commodity cannot be determined merely by a comparison of the prices before and after the imposition of the tax either in the same country or between different countries. The greatest care is required in making deductions on incidence from price statistics, because the tax is only one factor, and often a small factor, which produces the change in prices. Incidence is, of course, a price question, and part of the wider theory of value.

1

THE INCIDENCE OF TAXES ON COMMODITIES

10. Where there is complete mobility of capital and labour and no economic friction, the taxation of commodities, other things being equal, will be shifted from producers to consumers. Checks on mobility impede the shifting of taxes. A modern writer 1 sums up the governing conditions as follows: "(1) the presence or absence of mobility in the former case the normal shifting to the consumer will take place, in the latter it is retarded; (2) the law of demand for the particular commodity : on this depends very much the extent to which there will be a reflection of the burden either back to the producer or to other industries; (3) the presence or absence of monopoly; (4) the method of taxation as affecting the preceding conditions; (5) the organisation of the industry and its division; and (6) the

1 Bastable, Book iii. chap. v. p. 376. Cf. Seligman, Shifting and Incidence of Taxation, Part ii. chap. i. p. 221.