Short and simple: What is the primary purpose of federal taxes?

This is an intentionally short and simple answer to one of the most important questions in economics: What is the primary purpose of federal taxes?

Few people can answer this question correctly. A common misconception is that federal taxes fund federal spending.

(If the question were about the purpose of state and local taxes, the correct answer would indeed be “to fund state and local government spending.” 

However, the financial operations of the federal government are significantly different from those of state and local governments. The federal government is uniquely Monetarily Sovereign; it is the creator of the U.S. dollar and can produce dollars at will. 

In fact, even if the federal government did not collect a single penny in taxes, it could continue to spend trillions indefinitely.

I decided to consult ChatGPT with that question. It said:

In a monetarily sovereign nation like the United States, federal taxes do not directly fund federal spending.

I should mention that federal taxes do not directly or indirectly fund anything. In fact, federal tax dollars are destroyed when they are received by the Treasury.

Tax dollars begin as part of the M2 money supply measure. When they reach the Treasury, they cease to be part of any money supply measure. They simply disappear into the infinite supply of dollars available to the Treasury.

Effectively, they are destroyed.

The federal government issues the U.S. dollar, which means it cannot run out of money any more than a football scoreboard can run out of points. 

Instead, federal taxes serve several important purposes:

1. Legitimize the Currency: Since taxes must be paid in U.S. dollars, they create a consistent demand for the currency.

2. Redistribute Wealth and Influence: Through progressive taxation, the government can help reduce inequality; however, in practice, the U.S. tax code often has the opposite effect. 

3. Shape Behavior: Tax policies encourage or discourage certain activities. For example, there are tax deductions for homeownership, taxes on tobacco products, and carbon taxes aimed at reducing carbon emissions, as well as tax rebates for solar panels.

4. Provide Political Optics: Politicians use tax structures—who gets taxed and how much—as a way to appeal to voters, foster a sense of shared responsibility, or justify spending decisions. 

The primary purposes of federal taxes are different from the primary effects of federal taxes.

1. Federal taxes reduce economic growth by removing dollars from the economy. Gross Domestic Product = Federal Spending + Non-federal Spending + Net Exports. Federal taxes reduce Non-federal Spending, and so, reduce GDP.

   (State and local taxes are deposited into private banks, so they do not remove growth dollars from the economy.)

2. While tax rates increase for higher incomes, the overall tax code does not redistribute wealth; instead, it tends to enhance it. Wealthy individuals often derive more income from sources that are subject to lower taxes, and various tax loopholes are typically accessible primarily to the affluent.
3. While taxes are often utilized to manage the economy, many tax exemptions are established to serve the interests of major campaign contributors.
4. Because federal taxes are not necessary for federal spending, virtually everything about the tax code has to do with political optics.

SIMMARY

Unlike you, me, businesses, and state and local governments, the federal government neither needs nor uses tax dollars to fund its spending. The misnamed “federal debt” and deficits (i.e., “deposits”) are neither financial threats nor burdens on the federal government or on taxpayers.

In fact, the larger the federal deficit, the healthier the economy.

For a Monetarily Sovereign government, the infamous debt/GDP ratio holds no significance, while it can be crucial for monetarily non-sovereign state and local governments.

The debt/GDP ratio does not measure the federal government’s ability to pay its financial obligations, an ability that is infinite.

I asked ChatGPT to comment on the bolded statement about deficits and economic health, and it said: 

• • During recessions, larger deficits are almost always beneficial.

  • During wars, pandemics, or crises, they’re vital to sustain demand.

  • During full employment booms, excessively large deficits may overheat the economy.

In short:
A more accurate version would be:
“A sufficiently large federal deficit is necessary for a healthy economy. Too small a deficit hurts growth, and too large a deficit risks inflation.”

I responded: “In what years did this occur: “too large a deficit risks inflation.”

ChatCPT said:

Good question. If we look at U.S. history, we actually don’t find any clear examples where a too-large federal deficit directly caused inflation. What we see instead is that inflation has almost always been driven by real resource shortages (food, oil, supply shocks, wars), not by “too much money.”

Let’s check the main high-inflation episodes:

1. World War II (1941–1945)

• • Deficits were massive — up to 25% of GDP.

  • Inflation did rise (peaking ~12% in 1942–43), but it was due to wartime shortages and rationing, not because the government “printed too much.” When resources are diverted to war, civilian supply shrinks, so prices go up.

2. The 1970s (oil shocks 1973–74, 1979)

• • Deficits were modest, not historically large.

  • Inflation shot up into double digits, almost entirely due to OPEC oil embargoes and food/energy scarcity. Deficits weren’t the driver.

3. COVID-19 Pandemic (2020–2021)

• • Deficits exploded (15% of GDP in 2020).

  • Inflation surged a year later — but again, the main causes were supply chain breakdowns, energy shortages, food disruptions, and corporate pricing power, not simply the size of the deficit.

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Conclusion:
The U.S. has never had a proven case where a “too large” deficit alone created damaging inflation. Every major inflationary period traces back to shortages of goods, food, or energy, often triggered by war, embargo, or pandemic.

Deficits can risk inflation if they push demand past real capacity, but in practice, that situation is rare. The economy usually has slack (unemployment, unused capacity), so deficits tend to raise output rather than prices.

In short, ChatGPT said what I have been telling you repeatedly: Inflation is a supply problem, rarely if ever a demand problem.

Federal deficit spending is beneficial for the economy; it almost never is detrimental. Federal “debt (i.e., “deposit) growth grows the economy and doesn’t have adverse effects.

Ironically, federal taxation often is considered “prudent.” But, because federal taxation is the opposite of federal deficit spending, taxation has few economic benefits.

To paraphrase a familiar mantra: The motto for our Monetarily Sovereign government should be: “Spend, baby, spend.”

Rodger Malcolm Mitchell

Monetary Sovereignty

Twitter: @rodgermitchell

Search #monetarysovereignty

Facebook: Rodger Malcolm Mitchell;

MUCK RACK: https://muckrack.com/rodger-malcolm-mitchell;

https://www.academia.edu/

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A Government’s Sole Purpose is to Improve and Protect The People’s Lives.

MONETARY SOVEREIGNTY

Source: https://mythfighter.com/2025/10/04/short-and-simple-what-is-the-primary-purpose-of-federal-taxes/