Robert Reich suggests a new tax policy for America:
What’s fair? I’d say a 50 percent marginal tax rate on the very rich (earning over $500,000 a year). Plus an annual wealth tax of one half of one percent on net worth of people holding more than $5 million in total assets....If the Democrats stand for anything, it’s a fair allocation of the responsibility for paying the costs of maintaining this nation.
But Greg Mankiw notes:
Realistic optimal tax problems don't usually yield solutions similar to Reich's proposal, even for a social planner who has strong preferences for equality. High tax rates at the top generate a lot of deadweight loss for each dollar of tax revenue. In most standard optimal tax models, a more redistributionist social planner would give more to the poor and higher marginal tax rates for everyone, but she would not focus disproportionately on the the very top of the income distribution. And she would not add an extra penalty to capital accumulation, as Reich is proposing.
This is particularly true because Robert Reich is forgetting about state and local taxes. It might be fair to have the rich pay half their income . . . but when you factor in other taxes, many of them do. My old colleagues moving to New York City from London were frequently heard to say "What is this rubbish we've been talking about America having low taxes? My taxes are higher here!" That's because New York State and New York City together levy an additional income tax of 10% once your income is over $100K, which pushed two-income families above Britain's 40% top tax bracket. A 50% tax rate on top incomes would result, for New Yorkers, in a 60% effective total income tax rate total, with their incomes further eroded by the city's 10% sales tax. Since pretty much the entire increase in inequality in the last few decades seems to have come from a few zip codes in the high tax zones around New York and San Francisco, this matters.
People talking about "fair shares" of tax income often forget to factor in state and local taxes, which, given the geographic income distribution in the country, often produces heavily skewed results.
Meanwhile, the wealth thing is ludicrous. $5 million is the value of a moderately successful family business that throws off a couple hundred grand in income a year. You're going to hand those people an extra $25,000 tax bill each year for the sin of being self-employed? This does not sound like a recipe for enhancing America's singularly dynamic economic performance.
With regards to taxes, here's a different proposal.
Why not follow the Pareto principle, ie the 80/20 rule.
The top 20% of income earners contributions should equal 80% of the Federal budget.
The bottom 80%, would contribute 20% of the Federal budget.
No deductions, no shelters, and always combined family income.
Have the Democrats game the rules for the bottom 80%, and have the Republicans game the rules for the top 20%.
"What’s fair?"
What's fairness got to do with it?
Taxes are determined by pragmatism, power and self-interest.
If state and local income taxes get little attention in most discussions of tax policy, property taxes fall completely down the Memory Hole even though they're often the most burdensome of all for many people.
And Reich's proposal presumably also doesn't account for payroll taxes. Granted, they don't apply as much for high earners, but they're not trivial.
I'm not ideologically opposed to taxing wealth, mainly because I know a lot of fat cats that aren't working. But it seems to me that there's no pragmatic way (or at least, not one we've discovered yet) to penalize them without also hitting a lot of people who are working.
Medical costs are another reason American taxes are higher than they seem. In Europe they are included in taxes; in the US you pay your taxes and then pay for medical care.
I also have an idea. Cut everything but direct taxation. Cut all incomes taxes and subsidies. Nothing is fairer and more efficient? Problems is that politics does not equal economics and that the journey is often mistakes for the destination (and vice versa)? Only those who eat shit pay the price for their private health care, only those who drive cars pay the price of streets, etc. fair!
E.g. It would be fairly easy to come up with a sustainability matrix which determines the ecological footprint of a product or service. Unless we can do that we have a much much bigger problem than economics!! A bit like the law that demands a list of ingredients on foods. That should determine the direct tax?
Give that market transparency - Brazil would immediately become the richest country in the world (bloody rain forest is like the Dow Jones, Nasdaq, LSE, etc. combined)! A single steak would cost $2000???? A shower would cost $5-20? But we would have good fiscal policy and fruits and vegetables would be virtually free? And we would have a future?
This does not sound like a recipe for enhancing America's singularly dynamic economic performance.
It doesn't. But that camel's nose under the tent is red meat to Krugman's claque of class warriors.
I'd have more sympathy for rich Americans and their local taxes if they didn't enrich themselves with the cheap labor of my countrymen. Third world workers in the manufacturing sector get paid pennies on the dollar, all so corporate Americans can save some $$$, and then these millionaires want tax relief????
Okay....then we want a raise!
I doubt that a family business that throws off only a couple of hundred grand of income a year would be worth $5MM. That's something like a 4% free cash flow yield on equity, which is only acceptable in startups and high-growth businesses. I'm not a family business owner, so I'm just making some assumptions from cost of capital, but factoring in risk associated with small size, private market discount, and opportunity cost of family labor, I'm guessing that a family business worth $5MM would be throwing off at least mid-six figures of cash flow annually.
As stated, I'm not a family business owner, so if I'm wrong, I'd really be interested to hear in more detail.
And yes, I know this is a quibble, aside from the main thrust of the post.
A good liberal like Reich presumably regards payroll taxes as bond purchases, not taxes.
Megan hits it squarely on the head. This is the number one complaint of my European friends living in NY. Their question to me is always: "35%? I was told it was only 35%!!! So whey are they taking 50% from my paycheck?!?!?"
Uh, yeah, that's why the boss lives in NJ, but ask him about his property taxes.
I was startled, yes startled, to find that in tax-happy France property taxes are a fraction of what I pay on the upstate NY house.
And for that 40% in the UK, you actually get healthcare which is a highly visible and substantive (regardless of what you might think of the quality) benefit.
We do send $400 billion to the Pentagon to ensure that world stability...oh wait that doesn't include the extra $$ for the current adventures.
Being a global hegemon does have it's advantages, but it also has its costs and some of those are the opportunity costs of forgoing good things within our own country, like having a bridge from north Manhattan to Yonkers that doesn't seem like an advertisement for shock absorbers, or merit pay for teachers.
First, what Rover said.
Second,
"In most standard optimal tax models, a more redistributionist social planner would give more to the poor and higher marginal tax rates for everyone, but she would not focus disproportionately on the the very top of the income distribution. And she would not add an extra penalty to capital accumulation, as Reich is proposing."
But, but...laffer curve! I guess the poor are just SOL.
Why not follow the Pareto principle, ie the 80/20 rule.
The top 20% of income earners contributions should equal 80% of the Federal budget.
The bottom 80%, would contribute 20% of the Federal budget.
Isn't that pretty much where we are now? I believe the top 20% currently pay about 80% of all personal Federal income tax.
Wong Fei Hung,
Third world workers in the manufacturing sector get paid pennies
on the dollar, all so corporate Americans can save some $$$, and
then these millionaires want tax relief????
Okay....then we want a raise!
The irony of Mr. Hung's statement is that most americans would love
to give workers in China a raise. In fact we've been trying hard
to do so. If you listen to the U.S. government this is a more or
less a constant theme. They constantly urge the government of China
to let the RMB appreciate with respect to the dollar.
If the government of china let the RMB double versus the dollar that
would amount to an average doubling of chinese real income with respect
to the U.S. If they let it quadruple, it be a 400% raise. Both
of these scenarios are supported by the economic fundamentals.
The only thing preventing this from happening is the chinese
government.
The american private sector sends the same message. Private individuals
would love to buy stocks in chinese companies. The government of
china puts up some pretty significant obstacles to this sort of thing.
Private individuals would love to buy the RMB. Again the government
of china blocks. Carried through, either one of these natural economic
motions would have the side effect of pushing real chinese wages up.
The government of china spends an incredible amount of money
each year to keep chinese incomes low.
Nor is the government of china the only government in the world
to be artifically suppressing real incomes like this.
Your confusion is understandable. The reality seems bizzare.
But truth is stranger than fiction.
"The irony of Mr. Hung's statement is that most americans would love to give workers in China a raise."
Hmmmmm... Sounds like you're saying "workers of the world unite".
For Megan even to be debating about "fairness" within the liberal context (i.e., successful people should be penalized for their success) throws into question her libertarian bona fides.
Mark Amerman,
"If the government of china let the RMB double versus the dollar that
would amount to an average doubling of chinese real income with respect
to the U.S."
How would this be true for the Chinese workers who get canned from their factories because American demand for Chinese exports suddenly drops as they double in price?
The only truly "fair" tax system is the one in The Cayman Islands, where the costs of necessary government services are simply divided by the number of residents and each pays his share.
Juan,
You make a good point. The chinese government's strategy is not as
mad as it appears from some angles. The flip side of the staggering
amount of money that the chinese government has spent these last few years
to keep the chinese consumer poor, is that these low wages together
with high productivity pull factories, businesses, technology, and
jobs from the U.S., europe, and other nations to China.
If they let wages double, triple, quadruple, or who knows how high
they would go if the currency was allowed to find it's natural
level, it would greatly slow that movement of businesses and private
sector jobs to China. There might even be some swash back.
In a sense China is paying for the expansion of the american government
sector, with many of those jobs being in the form of corporations whose
only customer is the U.S. government, while at the same time pulling
private sector jobs to China.
Having previously had an economy where everyone, in the cities anyway,
had a government job, the chinese government perhaps has some insight
into which situation they want.
But in all fairness it isn't a zero-sum game. It doesn't have to be
anyway. The U.S. may have lost quite a bit, perhaps more than people
realise, but taking the world as a whole there's more wealth being
generated now than ever before. The U.S. has been hurt but we are
still pretty productive. Economically speaking China was a hole in
the ground thirty years ago; now it's a world powerhouse: spewing
wealth.
It could be a another big step forward letting the RMB rise. Yes,
the rate at which jobs are being pulled from overseas will slow.
Maybe even stop. On the other hand think about the impact of that
new real income within China. Get the details right, and that will
produce more jobs internally than are lost externally.
Mark Amerman,
You should realize that we are deriving a lot of benefits from a weaker currency now ourselves. Only instead of this creating jobs in factories making Mardi Gras beads, it's creating higher wage jobs at companies like John Deere, United Technologies, GE, Boeing, etc. that our contributing to our record manufacturing exports this year. The weaker dollar will also lure more foreign auto companies to build factories here.
I cannot recommend too strongly the exercise of figuring and tracking your TOTAL GROSS DIRECT tax payments each year, as well as your marginal rate. That means *everything*, including gas taxes, airline ticket surcharges, SDI, UI, property taxes & fees, phone bill surcharges, etc. etc. ad infinitum.
Do that, *then* talk to me about raising taxes.
If you consider (as the writer of this blog wishes to do) state sales taxes (which are highly regressive), state income taxes (usually flat and therefore also regressive), sin taxes on cigarettes and liquor (regressive as well), and payroll taxes (regressive because they only hit the first $97K or so of income), then my argument is, I believe, even stronger.
Mankew, for his part, assumes deadweight losses that any tax system creates, and disregards not only the reality of new revenues -- deadweight notwithstanding -- but also considerations of simple fairness.
Just because all tax systems create deadweight loss, that doesn't mean they all create the same amount of it. Mankiw doesn't disregard the reality of new revenues but suggests an alternative way of getting them.
Deadweight loss is only 1/2 the story. The other is the market-distorting effects.
Let's face it. A patent attorney makes big bucks because there aren't that many folks that are very good electrical engineers or PhDs in chem/bio, plus have a law degree, but the market demand for good ones is very high. Supply is tight, demand is high. Same for other highly paid professionals.
Between the two of us (my partner and I), we make close to $500k/year. But we both came from lower middle class families (we both worked our way through school and had huge student loans...our families too poor to help), so it isn't like we're "fat cats."
You start banging us any harder in taxes, we'll quit working so hard. Might just say "f--- it" and retire. We won't be the only ones. That'll make our talents even more scarce and increase the wages of those that remain.
Moreover, what is the incentive for a young kid today to work like a dog, go into debt to learn the skills needed to provide what the economy needs so badly as shown by market wages.
And we'll sit here and wonder why China and India leap ahead of us and our economy/standard of living stagnates....
From Reich's article we can infer that his annual income runs about $250,000 and his net worth is about $2.5 million. About what we would expect for Harvard professor with some consulting business and some successful books of the policy wonk variety.
Studies have shown that most people support high levels of taxation starting at about twice their current level of income, because most people can't really imagine any need for income beyond twice where they are now, or that anyone could deserve more than twice their own income.
I pay about half my income in taxes. So my 100,000 a year is really worth only 50,000. Everything I buy is from someone who pays about half their income in taxes. So my 50,000 a year is only worth 25,000. Further, regulation makes production and distribution less efficient. So my 25,000 a year is only worth 12,500.
If you multiplied the income of most people by 8, few would need government intervention. If you reduced the amount of government "bite" to 1/8th, fewer would complain. With fewer government bureaucrats to feed, we could reduce laws to things that are truly offensive. The petty crimes that drive up the number of prisoners in the government "prison plantations", and justify more government paid Judges, Prosecutors, and Public Defenders.
Imagine if the best paid job was engineers who develop new products, rather than accountant/lawyers who come up with ever more clever ways to hide income from the government. Certainly that is a useful product for the wealthy individual, but it doesn't cure cancer, or improve the quality of life for the many.
The real problem is the basis for Reich's argument: that the government has the right to take people's property and wealth and redistribute it to others. No matter the tax code, as long as we "accept" that notion and quibble over details, the issue is moot. Taxation, especially when done in that manner, for those purposes, is nothing more than legalized extortion and robbery. Reich would have the government do what he would, presumably, wish to have an individual arrested for. That is has the aire of legitimacy via consensual government, is irrelevant.
Henry Hazlitt's economics in one lesson is apparently lost on Reich, as well as Kruggie, and all of their liberal ilk.
But let's stop calling them liberals, because they are anything but. They are statists. The tax code is simply a matter of means, not ends.
> I'd have more sympathy for rich Americans and their local taxes if they didn't enrich themselves with the cheap labor of my countrymen. Third world workers in the manufacturing sector get paid pennies on the dollar
Those nasty rich Americans are paying your countrymen more than anyone else will pay them.
If they feel that they're not getting a good deal, they're free to work elsewhere.
If you think that they're worth more, start a biz and pay them more. You'll do good and drive those nasty rich Americans out of biz.
What? You're not willing to risk your money on your idea?
I'd sell my business and retire (at 42) if such taxes were enacted. I'd forfeit my citizenship and move to Ireland or the Cayman Islands, too.
Juan: "For Megan even to be debating about 'fairness' within the liberal context (i.e., successful people should be penalized for their success) throws into question her libertarian bona fides."
What he said.
To people interested in freedom, this whole discussion is completely and outrageously impertinent.
Reich: you are summarily dismissed.
So, lets say Feds/State/Local, plus sales tax, phone, car all take a total of half.
That could be.
So, you got half your money. Now, when you buy something, say a desk. A wood desk. Say it cost $600. How much of that is the tax on the wood lot owner, the sawmill, the cabinet maker, all the truck companies to and fro, the distributor and the retail store?
I am guessing half. $300 bucks out of a $600 purchase.
So the true tax rate is actually around 75%. Of course if you live in Massachusetts, that desk will be taxed every year as 'furnishings'. So over your lifetime, the total tax cost of that desk might be much higher than 75%.
It's a racket. A scam. Hamsters in running wheels make better progress.
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"I'd have more sympathy for rich Americans and their local taxes if they didn't enrich themselves with the cheap labor of my countrymen. Third world workers in the manufacturing sector get paid pennies on the dollar, all so corporate Americans can save some $$$, and then these millionaires want tax relief????"
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Well, if you'd prefer, we could *not* pay them pennies on the dollar, and pay someone else.
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"To people interested in freedom, this whole discussion is completely and outrageously impertinent.
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Double unscore bold italics. Some of the ideas being tossed around here with blase academic aplomb are grounds for armed revolt. At least, in nations that don't have authoritarian and collectivist fixations.
As for the economic impact of these wonderful theories: listen guys, it's not hard. The more you tax someone, the less they work. The more you give someone, the less they work. Both those statements, which deal with the basic human truth of incentive, also work in the inverse.
So raising taxes and putting people on the dole is a great way to bring your economy to a screeching halt.
Does that mean there's no room at all for compassion or public good? Of course not. But just because you break the rule doesn't mean you get to label it "an exception." Much like women who rationalizes cheating on her diet, you can convince yourself but you really can't "convince" cold numbers.
"Wealth Tax." I first heard this specious phrase come from Ralph Nader's mouth. The concept seems to be, "we'll tax your income, and then take what's left."
And once that door is open, you can bet that modest rate will be regularly raised, and the wealth threshold as regularly lowered. Remember, the income tax was instituted with meretricious promises that it would only apply to the rich, and would never claim more than 10%.
It is obvious the our governments' (plural intended) promises are worthless.
"mainly because I know a lot of fat cats that aren't working."
So what? It's still their money, as far as I'm concerned, and we have little right to any of it.
I'm all for taxing based on fairness.
I think it's unfair that someone who works hard and comes from nothing should have to pay the same taxes as a trust fund kid.
Your tax bracket should be based upon how much your parents made when you were growing up.
Bah, if you don't like taxes move to Texas.
Reich has already stated that he thinks net worth inequality is a bigger problem than poverty. For him, a system that raises all families' net worth but raises the richests' more so is not preferable to a system that decreased the gap at the expense of the poor.
Geez, total taxes on inhabitants of Cook County, IL are already high enough that I am discouraged from working.
Now Reich wants to go way higher and Cook County, the City of Chicago, and the State of Illinois are all trying to raise taxes simultaneously. Property taxes are already out of sight, almost $7000 on my slightly-above-median suburban house.
And public transportation is going up.
And we have to raise taxes for "free health care."
I've been watching this build for 20 years, but expected it would peak years from now. These Democrats are going to put us all into servitude.
You young folks are going to have to man the barricades, and soon, or 75% of your income will be gone before you even have a chance to see it.
"If the Democrats stand for anything, it’s a fair allocation of the responsibility for paying the costs of maintaining this nation."
Disregarding the various state and local income taxes, sales taxes, etc and just focusing on federal income tax, how fair is it that the bottom 50% of tax payers in 2005 paid only about 4% of the fed tax bill. The bottom 75% pays less than 15% of the total bill. Looks to me that we have a vast reservoir of tax consumers in this country, who don't really share in any of the responsibility of paying for maintaining this nation and a relatively small amount of tax payers who are. If you see it as fair for the top 20 to 25% to shoulder an increasing tax burden then something needs to be done to engender a sense of responsibility that goes beyond letting someone else pay for everything.
Readers ought to know that Reich wrongly quoted Mankiw totally out of context in his book.
"I'm not ideologically opposed to taxing wealth, mainly because I know a lot of fat cats that aren't working. But it seems to me that there's no pragmatic way (or at least, not one we've discovered yet) to penalize them without also hitting a lot of people who are working."
What crime have they committed that you wish to punish them for?