A wealth tax is not just infeasible; it also distracts from the causes of the rise in inequality, which is before-tax income, not declining tax rates.
April 9, 2020
With Responses From
Apr 9, 2020
6 Min read time
A wealth tax distracts from the causes of inequality: pre-tax income.
Emmanuel Saez and Gabriel Zucman are right to focus on soaring inequality as one of the major problems of our time. Unfortunately, their wealth tax is not an effective solution. Not only is it likely to prove infeasible, but it distracts from the causes of the rise in inequality, which is before-tax income, not declining tax rates.
As Saez documents on his website, the reduction in top tax rates is not the major factor in the rise of inequality. While there has been a reduction in top tax rates, it is not as large as Zucman and Saez indicate. The top federal income tax rate has indeed fallen from 70 percent in the 1970s to 37 percent today, but many states have substantially raised their income tax. Rich people living in California face a marginal tax rate of 13 percent, while those in New York City pay 11 percent. The Affordable Care Act also applied a 3.8 percent tax to both the labor and investment income of the rich. This means that many of the richest people in the country still face a marginal tax rate of more than 50 percent. Of course, we could make this rate higher, but the drop-off from the 1970s is not as large as it may appear.
The real story is before-tax income. The market is structured in ways that have caused an enormous share of national income to be diverted to those at the top.
The real story is how the market is structured to cause more before-tax income to go to the top. At the most basic level, we have made patent and copyright monopolies longer and stronger. The beneficiaries of these government-granted monopolies are overwhelmingly those at the top of the income distribution. We need look no further than Bill Gates, one of the richest people in the world, to see the importance of these monopolies for the distribution of income. Gates would likely still be working for a living if anyone could freely copy Microsoft’s software. There are plenty of other millionaires and billionaires who owe their fortunes to these monopolies.
The financial sector is another major source of the country’s rising income inequality. There would be far fewer millionaires and billionaires produced in finance if the industry were subject to the same sort of sales or value-added tax as most other sectors of the economy, a privileged position that has even drawn the attention of the International Monetary Fund.
Finance has been favored in many other ways—most visibly, by the bailout that saved it from the disaster it had created in building up the housing bubble. Had the market been allowed to work its magic in 2008–2009, almost all the country’s leading banks would have gone bankrupt. This would have allowed them to be reorganized and downsized as they were sold back to the private sector.
Outlandish CEO pay is another major source of rising inequality. Contrary to the claims of apologists for the superrich, CEO pay is not justified by the great returns to shareholders. It is possible to write contracts that don’t give disastrously failed CEOs, such as John Stump at Wells Fargo or Dennis Muilenberg at Boeing, tens of millions of dollars as they go out the door. The reason their contracts are not written this way is that the boards who write them owe their allegiance more to top management than to shareholders.
In a similar vein, there is no plausible reason that Facebook should not be subject to the same liability rules as major broadcast and print outlets. Would Mark Zuckerberg still be incredibly rich if Facebook could be sued for spreading libelous material in ads or on its users’ webpages?
The point is that the market is structured in ways that have caused an enormous share of national income to be diverted to those at the top. There was nothing about the intrinsic workings of the market that led to an increased share of income to the top one percent; it was the result of a set of deliberate policies.
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Can a wealth tax combat the effects of this policy-driven upward distribution? I would argue that it could not possibly succeed for very practical political reasons.
First, as many have pointed out, it would almost certainly be ruled unconstitutional. This is not an abstract question of constitutional law: it is a concrete question about how we would expect the current Supreme Court to rule on the issue. Given the composition of the court, there can be little doubt on this question. And even before a wealth tax gets to the court, it has to pass Congress.
The idea of a wealth tax has obstructed progressive steps to reverse the upward redistribution of income, in part by suggesting redistribution was the result of the natural workings of the market.
While Zucman and Saez are confident that the IRS can be more successful in preventing evasion and avoidance than other countries have been, there is one unstoppable form of tax avoidance: rich people can simply renounce their citizenship. In their proposal, they seek to check this escape route by imposing a 47 percent exit tax. That would be a strong disincentive, once the tax is in place. However, nothing would stop rich people from renouncing their citizenship as the tax is being debated by Congress.
Furthermore, they could use the threat of mass renunciation as a weapon against a Congress debating a wealth tax. Suppose that a thousand of the country’s richest people, controlling half or more of the wealth that was being targeted by a tax, signed onto a public letter threatening to renounce their citizenship if Congress were to move forward with a wealth tax proposal. Does anyone think that Congress would move ahead when faced with such a threat?
Is there any reason to believe that the country’s richest people would not be prepared to take such extreme measures to protect their wealth? They already spend huge amounts of money on tax lawyers and accountants to limit their tax liabilities, often employing tactics of questionable legality. These are people who love their money much more than their country. It would be absurd not to expect them to organize with all the power at their disposal to stop a measure that would deal a huge blow to their wealth and power. A newly elected progressive president would suffer a major political embarrassment running into this brick wall.
It would be absurd not to expect the very rich to organize with all the power at their disposal to stop a measure that would deal a huge blow to their wealth and power.
Stepping back from all the practical and political obstacles, the idea of a wealth tax has been an obstacle to progressive steps to reverse the upward redistribution of income. Apart from its effect of absorbing the energy of progressives, it also serves to legitimate the upward redistribution by implying that it was the result of the natural workings of the market, rather than the of a system that was deliberately rigged to shift income to the rich.
Market outcomes enjoy considerable legitimacy, especially in the United States. If the rich can maintain the illusion that their immense wealth is the result of their talents, hard work, and possibly good luck, this gives them an enormous and undeserved political edge in the public debate. The reality is they structured the system to generate extreme inequality.
It is far more difficult to justify extreme inequality when we show it was the result of policy choices, such as patent monopolies, that were designed for this purpose, often at an enormous efficiency cost to the economy. It is difficult to justify patent monopolies that make drugs unaffordable just so that a few well-placed people in drug companies can get immensely rich. Similarly, it is hard to justify eight- and nine-figure executive pay that comes at the expense of the companies for whom they work.
An attack on inequality must center on exposing the corruption that created it, not accepting this corruption and coming up with a tax fix of dubious effectiveness.
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April 09, 2020
6 Min read time