How Inflation Raises Your Taxes

Dollars don't go as far as they used to, while the government takes more of them.

ByWilliam F. FordandDaniel J. Smith

March 29, 2022

When President Biden first proposed increasing federal spending by trillions, he promised not to raise taxes on anyone earning less than $400,000 a year. But the Federal Reserve's accommodation of his spendthrift policies is now creating inflation taxes that are hitting ordinary Americans in their pocketbooks. Inflation not only taxes away earnings and savings, it also amplifies a host of other taxes Americans pay.

Inflation is now reducing the real earnings of many Americans. As the purchasing power of a dollar falls, many Americans are taxed on the extent to which their paychecks aren't keeping up with inflation. But even Americans lucky enough to have their wages and salaries keep pace with inflation may find themselves paying additional federal, state and local taxes on their increased nominal incomes.

Other taxes are also affected by inflation. Take housing: While homeowners are likely happy to see the value of their homes rising, they won't be so excited when their property taxes go up at their next assessment. They can also expect to face higher insurance premiums on their inflated home values. The cost of utilities is rising. Renters aren't immune to these inflationary pressures, since landlords pass along their inflation-driven costs.

Another way inflation is raising taxes on ordinary Americans is through the taxes on the goods and services they consume. The costs of groceries and going out to eat are increasing. Largely unnoticed, higher grocery and restaurant bills also cause higher state and local sales-tax collections, since such taxes are levied as a percentage of what consumers pay.

Americans living off their life savings aren't immune from the costs of inflation taxation either. It will quickly eat away at the real rates of return on savings accounts, certificates of deposits and fixed-income securities. Americans with such savings are receiving negative rates of return after adjusting for inflation. And because taxes are levied on nominal, not inflation-adjusted, income, even those realizing such earnings will pay taxes on their higher nominal returns.

Retirees on pensions with little or no cost-of-living adjustments also will see a reduction in their standard of living. Even Social Security beneficiaries experience this to some degree when their adjustments lag behind inflation, as is now happening.

While the wealthy can hire experts to shelter their income and savings from inflation, lower-income Americans aren't so lucky. They also spend a much larger portion of their earnings on essentials such as groceries and rent. Mr. Biden's inflation taxation falls most heavily on the poorest Americans.

Mr. Ford was president of the Federal Reserve Bank of Atlanta, 1980-83. Mr. Smith is the director of the Political Economy Research Institute and a professor of economics at Middle Tennessee State University's Jones College of Business.

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