I’m not happy with either the left or right’s conventional arguments about top marginal taxes.
Let’s take the right’s first. They claim that high taxes disincentivize the work of the highly-skilled and in doing so reduce GDP and tax revenue. I’m not happy with this because the evidence is weak (pdf). As Thomas Piketty and colleagues have shown, the feasible top tax rate could be very high indeed.
In this context, I’m baffled by Greg Mankiw’s claim that more of the rich are like Taylor Swift than Henry Potter. Let’s say Alexandria Ocasio-Cortez gets her way and there is a 70% tax rate on high incomes. What would Ms Swift do? She might leave the US for a tax haven thus depriving the IRS of revenue. But she almost certainly won’t give up making music – any more than George Harrison did after writing Taxman. The positive externality of her efforts (consumer surplus) will thus continue – as will that of all those rich who have intrinsic motivations. By contrast, it’s quite possible as Simon says that higher taxes on men like Mr Potter will reduce negative externalities such as rent-seeking, financialization or cooking a firm’s books: such men are more likely to be money-motivated and so more amenable to extrinsic incentives.
Even if I’m wrong, however, those who support Brexit must invoke an additional argument if they are to object to high taxes. Imagine a dialogue between a right-wing Brexiter and advocate to higher taxes:
Brexiter: the case for Brexit is that GDP isn’t everything. It’s worth sacrificing some income for other goals such as a greater sense of sovereignty or community.
A of higher T: Exactly, If it’s worth paying for those, why shouldn’t it be worth paying to reduce inequality?
If you’re a Brexiter opposed to higher top taxes, you have to show that greater income equality is not something worth paying for. That’s an argument about values, not merely technocratic points about GDP.
Nor, however, am I happy about standard leftist arguments for higher top taxes.
One of these is the marginal utility argument – that a pound is worth less to a rich man than a poor one, and so transferring it from rich to poor raises welfare.
Diminishing marginal utility, however is a more plausible story about the same person than it is about different ones. It’s true that the fourth pint tastes less good than the first. But you can’t base a political philosophy upon what happens in the Wheatsheaf. People have different utility functions. Some of the rich are rich precisely because they value the extra pound highly. If I’d had a higher marginal utility of income, I’d be richer because I’d have chosen to do less pleasant but better-paid work. (This paper (pdf) by Richard Layard and colleagues does not refute my argument, as it excludes the very rich)
There are counter-arguments to this. One is that the rich value income not because it buys them goods but because it’s a way of keeping score: the hedge fund manager wants to be richer than the manager next door. If this is the case, higher taxes don’t hurt because they bear upon all the rich: the trader at J.P. Morgan might be unhappy at paying more tax, but he can console himself with the happy thought that that bastard at Goldman’s is paying even more.
I doubt, though, that this applies to all the rich: some, I know, love their yachts and fine wines. But there’s an objection here – that these are acquired tastes, endogenous preferences. I find this plausible. But it confirms my argument – that we should not base policy upon a conception of welfare based upon subjective preferences.
The second argument I’m unhappy with is Saez and Zucman’s – that the justification for higher top tax rates
is not about collecting revenue. It is about regulating inequality and the market economy. It is also about safeguarding democracy against oligarchy.
It is true that the rich have excessive political influence and that high taxes on them would reduce their ability to buy politicians. But it wouldn’t go anything like far enough to reduce their power. Even if we had high top taxes there’d still be, as Adam Smith said, a “disposition to admire, and almost to worship, the rich and the powerful, and to despise, or, at least, to neglect persons of poor and mean condition.” The press would still be owned by plutocrats. The BBC would still be biased. Millions of workers would face poor working conditions and petty tyrannies. Professionalism would still be under attack from managerialism. Nor would we necessarily have greater social solidarity: we might even have less if the rich resent higher taxes. Those who feel that politicians don’t listen to them might continue to feel excluded. And so on and so on.
What’s at stake here is in fact a decades-old dispute between social democrats and Marxists. Social democrats have tended to think that the unacceptable features of capitalism can be ameliorated or removed by technocratic state interventions such as appropriate tax rates. We Marxists, however, suspect that capitalism’s defects are not so easily cured.
Even-handed, and very reasonable even from across the aisle. One question (a question: not a provocation...) If the goal is containing the rich from having excessive political clout, are higher taxes the best available tool? What about constitutional/institutional rules (to borrow from public choice theory: certainly not friends of high taxes, but neither friends of unchecked concentrated power). From campaign finance to lobbying, to the revolving door between corporate boards and government, to bank bailouts, to politically-oriented subsidies, to tax loopholes. I may be wrong, but I suspect the public would be more accepting of Taylor Swift's riches even at low marginal tax levels, than of Henry Potter's, no matter how heavy his tax burdens.
Posted by: AdolfoLaurenti | January 24, 2019 at 03:05 PM
Sometimes I feel you raise a point just for the sake of being a contrarian. High marginal tax rates being beneficial both for the economy and the general well being of the society is one of the few clear cut issues in economics. Surely, capitalism's defects are not easily cured. But I wonder if you have any Marxist "cure" in mind.
Posted by: Tugrul Belli | January 24, 2019 at 03:51 PM
Chris, I think the broader problem is that the idea of a "good, normal lifetyle" has remained largely unchanged for decades, but the cost of it has risen sharply compared to average incomes.
You 'd like to own your own family home, have a couple of kids, holiday abroad once a year, run a modest car?
That's more expensive now.
And because of how income distribution skews, it's difficult to redistribute.
Those on lower incomes aren't bearing the burden of paying for public services. Taxing them more might suppress demand while raising relatively little.
Middle income earners pay the bulk of taxes but are also most sensitive to tax rises. That lifestyle they were promised becomes more unaffordable with every tax rise.
The top 20% of earners already make an outsized contribution to the Exchequer - but because there's not many of them, tax rises need to be substantial to raise anything worthwhile. A couple of percent won't cut it; you need 10%, 20% rises. And that's swinging enough to make some people relocate and plenty of others seek avoidance measures.
Public spending and redistribution efforts both require a large, well-oof middle income group to fund them. When the middle feels squeezed, the poor and the rich aren't useful alternative funding sources.
So I'm not sure the rationale for taxing the rich is really the issue. The real challenge is maintaining a middle class that's big enough and comfortable enough to fund a more equitable society.
Posted by: staberinde | January 24, 2019 at 04:52 PM
It's interesting to consider how a high tax rate on high incomes would affect top level club football. English clubs couldn't raise wages enough to compensate players for the tax rise and many would doubtless leave to play in other European leagues. Effectively it would cap wages in the Premier League. English clubs would be less competitive in the Champions league, but could perhaps afford to slash ticket prices. But then ... would TV revenues also dive as people stopped paying for Sky Sports to effectively watch The Championship? Either way, I think football fans would be paying less to support their club though they might not be contenders for Champions League any more. Anecdotally, I've heard that some supporters of teams that have been relegated to The Championship say it's more competitive and fun to watch so maybe overall the effect of getting rid of the superstars on 250K a week would be positive for many fans.
Posted by: ted | January 24, 2019 at 06:06 PM
So what exactly do you see as a good enough cure? Specifically.
Posted by: Robin Hanson | January 24, 2019 at 09:08 PM
Musicians most certainly do not need yachts and premium Bordeauxer. The greatest of all just had a church salary. He was not even worried about royalties (as even Paul McCartney is). After writing a cantata and having it performed he wasn't bothered if it was used as wrapping paper. Yet he basically gave us the tonal system that even Swift uses (but probably doesn't understand). Not to mention the Passion of St Matthew.
I'm talking about JS Bach of course.
If we are going to get decent music again, I'd say the first step would be to reduce superstar wealth, by about 99 per cent.
Posted by: Nanikore | January 25, 2019 at 07:40 AM
With government revenue, incentives matter. For instance, a government that’s heavily dependent on oil revenue pretty much has to pursue pro-oil-business policies. It’s that simple.
In the post-WW2 era (let’s say up to 1973), governments were far more dependent on taxes paid by the median worker. Back then, their best strategy to raise revenue was to raise the earning capacity of that median worker; typically by Keynesian policies which boosted demand for labour and raised wages. The government decides to commission the M1 Motorway, firms hire workers to build it, wages go up, workers pay more tax. That sort of thing. It resulted in a society with historically all-time low levels of inequality.
Today, governments are far more dependent on taxes paid by the richest 1%, and far less on those paid by the median worker. They therefore favour policies which help the 1% accumulate the wealth they want to tax. Rather than increasing the earning capacity of the median worker, governments try and make him spend more money with easier credit. It’s lead to a reversal in the previous flattening of inequality.
Posted by: georgesdelatour | January 25, 2019 at 08:00 AM
“It is true that the rich have excessive political influence and that high taxes on them would reduce their ability to buy politicians.”
I think that’s EXACTLY wrong. Imagine if the US government decided to fund itself entirely through super high taxes on FANG (Facebook, Apple, Amazon, Netflix and Google). Suddenly Zuckerberg, Bezos and co are directly paying the salaries of every Senator and Congressman.
Jack Ma wants to bring Ali Baba into the US market to compete with Amazon (and therefore reduce Amazon’s profits). What are the chances Congress will allow it? Zero. Some riled American consumers want to bring an antitrust case against Google. What are the chances Congress will support them? Again, zero.
Many analysts have argued that both the UK and US economies have taken financialisation too far, and they need to rebalance. The biggest obstacle to change in both countries is that both the City and Wall Street pay a lot of taxes, and governments need the money.
Posted by: georgesdelatour | January 25, 2019 at 08:39 AM
If we’re trying to understand inequality, here’s another important consideration.
Gini statistics are given in two forms: before taxes and transfers (pre-T&T) and after taxes and transfers (post-T&T). Pretty much every Westernised government manages to get its post-T&T figure below 0.4, and some do much better. But here’s the interesting question. Why do some countries already start really low on their pre-T&T figure (e.g. South Korea, Iceland) while others don’t (e.g. France, the USA)?
From the figures it looks as if South Korea and Iceland would still wind up more equal than France, even if they went full Ayn Rand libertarian and abolished their governments altogether. This suggests that the level of economic inequality in a society has some highly significant non-economic causes; maybe cultural, related to the level of Asabiyyah.
Posted by: georgesdelatour | January 25, 2019 at 10:46 AM
Times sure have changed when this post is acompanied by a picture of Mr Potter rather than of Taylor Swift.
Posted by: Will | January 25, 2019 at 06:47 PM
@Robin Hanson. I like how you add "specifically" after your question.
Posted by: D | January 26, 2019 at 09:45 AM
"She might leave the US for a tax haven thus depriving the IRS of revenue"
So, in other words taxation is voluntary. Like condos and phone contacts. Could even have 'exit clauses.'
Posted by: Kester | January 26, 2019 at 09:35 PM
'She might leave the US for a tax haven thus depriving the IRS of revenue'
Read MMT too.
Posted by: Kester | January 26, 2019 at 09:35 PM