This essay first appeared on the digital edition of the Claremont Review of Books.
Folks on the left may get excited by whether we travel 60 mph in the wrong direction or 90 mph in the wrong direction, but this seems like a Hobson’s choice for those of us who would prefer that America become more like Hong Kong or Singapore.
Consider the issue of taxation. Clinton and Sanders both agree that they want to raise tax rates on investors, entrepreneurs, small business owners, and other “rich” taxpayers. The only difference is how high and how quickly.
Scott Winship of the Manhattan Institute has a must-read column on this topic in today’s Wall Street Journal.
Here is a question to ask Hillary Clinton and Bernie Sanders: What is the best tax rate to impose on high-income earners…? Perhaps they think it is 83%, a rate that economists Thomas Piketty and Emmanuel Saez hypothesized in 2014… Or maybe it is 90%, which Sen. Sanders told CNBC last May was not out of the question.
He then points out that there were very high tax rates in America between World War II and the Reagan era.
…the U.S. had such rates in the past. From 1936 to 1980, the highest federal income-tax rate was never below 70%, and the top rate exceeded 90% from 1951 to 1963. …The discussion of these rates can easily create the impression that the federal government collected far more money from “the rich” before the Reagan administration.
But rich people aren’t fatted calves awaiting slaughter. They generally are smart enough to figure out ways to avoid high tax rates. And if they’re not smart enough, they know to hire bright lawyers, lobbyists, and accountants who figure out ways to protect their income.
Which is exactly what happened.
The effective tax rates actually paid by the highest income earners during the 1950s and early ’60s were far lower than the highest marginal rates. …In the 1960s, for example, the average rate paid by the top 0.1% of tax filers—the top 10th of the top 1%—ranged from 26.5% to 29.5%, according to a 2007 study by Messrs. Piketty and Saez. Even during the 20 years after the Reagan tax cuts, the top 10th of the top 1% paid an average rate of 23.7% to 33%—essentially the same as in the 1960s.
Gee, sounds like Hauser’s Law – a limit on how much governments can tax – is true, at least for upper-income taxpayers.
And Winship provides some data showing that high tax rate are not the way to collect more revenue.
When average tax rates went up from 27.6% in 1965 to 34% in 1975, revenues went down, from 0.6% to 0.5% of the sum of GDP plus capital gains. When average tax rates declined to 23.7% over the second half of the 1970s and the ’80s, tax revenues from the top went up, reaching 0.8% of GDP plus capital gains in 1990. …in the early 1990s, Presidents George H.W. Bush and Bill Clinton raised average tax rates at the top, and revenue from the top 0.1% eventually skyrocketed. But the flood of revenue overwhelmingly reflected not the increase in rates but the stock market’s takeoff… Consider: If the higher top tax rates had caused the growth in revenue, then revenues should have fallen when Mr. Clinton cut the top tax rate on capital gains to 20% from 28% in 1997. But revenues from the top 0.1% kept pouring in.
And if you want more detail, check out the IRS data from the 1980s, which shows that rich taxpayers paid a lot more tax when the top rate was dropped from 70 percent to 28 percent.
That was a case of the Laffer Curve on steroids!
No wonder some leftists admit that spite is their real reason for supporting confiscatory tax rates on the rich, not revenue.
But what if the high tax rates are imposed on a much bigger share of the population, not just the traditional target of the “top 1 percent”?
Well, even hardcore statists who favor punitive tax policy admit that this would be a recipe for economic calamity.
Mr. Piketty said, “I firmly believe, that imposing a 70% or 80% marginal rate on large segments of the population (say, 25% of the population, or even 10%, or even a few percentage points) would lead to an economic disaster.” In other words, sayonara increased tax revenue.
Heck, even the European governments with the biggest welfare states rarely impose tax rates at those levels.
Which is why the real difference in taxation between the United States and Europe isn’t the way the rich are taxed. Government is bigger in Europe because of higher tax burdens on the poor and middle class, specifically onerous value-added taxes and top income tax rates that take effect at relatively modest levels of income.
In other words, the rich already pay the lion’s share of tax in the United States. But not because we have 1970s-style tax rates, but because the tax burden is relatively modest for lower- and middle-income people.
Which brings us to Winship’s final point.
Proposals to soak the rich by raising their tax rates are unlikely to yield the revenue windfall that Mr. Sanders or Mrs. Clinton are dangling before voters. Leveling with the American people means…admitting that they will have to raise the money from tax hikes on middle-class voters.
Though he “buried the lede,” as they say in the journalism business. The most important takeaway from his column is that the redistribution agenda being advanced by Clinton and Sanders necessarily will require big tax hikes on the middle class.
Indeed, the “tax-the-rich” rhetoric they employ is simply a smokescreen to mask their real goals.
Which is why I included that argument in my video that provided five reasons why class-warfare taxation is a bad idea.
March 6, 2016 by Dan Mitchell
Of the 4,000-plus columns I’ve produced since starting International Liberty in 2009, two of the most popular posts involve semi-amusing stories that highlight the failure of socialism, redistributionism, and collectivism.
“The Tax System Explained in Beer” is the third-most-viewed post of all time, and “Does Socialism Work? A Classroom Experiment” is the fourth-most-viewed post. At the risk of oversimplifying, I think these columns are popular because they succinctly capture why it’s very shortsighted and misguided to have an economic system that punishes success and rewards sloth.
For those who want details, I have dozens of columns about real-world socialist failure, looking at both the totalitarian version in places like Cuba, China, Venezuela, and North Korea, as well as the majoritarian version in nations such as France, Italy, and Greece.
And for those that want to get technical, I even have several columns explaining that the pure version of socialism involves government ownership of the means of production (government factories, state farms, etc), whereas the “democratic socialism” in Europe is actually best viewed as extreme versions of redistributionism (while the pervasive interventionism favored by the left actually is a form of fascism).
Yet notwithstanding the horrible track record of every version of socialism, we actually have a presidential candidate in America who actually calls himself a socialist. Though, as pointed out by my colleague Marian Tupy in The Atlantic, he’s more of a redistributionist than a socialist.
Socialism was an economic system where the means of production (e.g., factories), capital (i.e., banks), and agricultural land (i.e., farms) were owned by the state. …Sanders is not a typical socialist. Sure, he believes in a highly regulated and heavily taxed private enterprise, but he does not seem to want the state to own banks and make cars. …Senator Sanders is not a proponent of socialism, and that is a good thing, for true socialism, whenever and wherever it has been tried, ended in disaster.
Here’s an article about real socialism by Mark Perry that’s more than 20 years old, but its analysis is just as accurate today as it was in 1995.
Socialism is the Big Lie of the twentieth century. While it promised prosperity, equality, and security, it delivered poverty, misery, and tyranny. Equality was achieved only in the sense that everyone was equal in his or her misery. …Socialism does not work because it is not consistent with fundamental principles of human behavior. …it is a system that ignores incentives. …A centrally planned economy without market prices or profits, where property is owned by the state, is a system without an effective incentive mechanism to direct economic activity. By failing to emphasize incentives, socialism is a theory inconsistent with human nature and is therefore doomed to fail.
Ben Domenech, writing for Commentary, analyzes the current version of socialism, which – particularly in the (feeble) minds of young people – is simply more middle-class entitlements financed by high tax rates on evil rich people.
Sanders holds massive events populated by kids who think what he is preaching is very cool. …When did it become acceptable for Americans to back an avowed socialist? …For Americans today, the visible and unmistakable connection between socialism and totalitarianism has faded dramatically. …For America’s young, socialism’s definition isn’t to be found in the desperate, sad reality of peoples held captive by regimes that proudly declare themselves socialist. It’s more of a vague ideal… This makes it easier for someone like Sanders to say that socialism just means middle-class entitlements… It is…Barack Obama…that we have to thank for socialism’s rise in 2016. Republicans…have been describing President Obama’s domestic program as socialist… The takeaway for today’s younger voters seems to be: If everything Obama is trying to do is socialism, …then perhaps we need to go full socialist to actually get things done.
The final part of the excerpt is very insightful.
Heck, they don’t even understand the modern-day failure of socialism in Venezuela or North Korea.
To them, socialism is simply bigger government.
Which is very offensive to people who actually have suffered under socialism. Garry Kasparov, the chess champion turned Russian dissident, doesn’t mince words in his response to the Sanders crowd.
Let’s close with something amusing. Or at least ironic.
It’s the socialism version of this communism image.
And it’s something young people should think about because socialism fails every place it is tried. As Mark Perry explained, it’s grossly inconsistent with human nature.
That’s true whether we’re looking at the totalitarian version of the majoritarian version.
The latter version is preferable, of course, though the end result is still economic misery.
P.S. Here’s a very clever video that asks college kids whether they would like a socialist grading system. Unsurprisingly, they say no. Though the video was put together before Bernie Sanders attracted a cult-like following, so perhaps today’s students would answer differently.
P.P.S. Speaking of videos, I’m guessing this bit of satire won’t be very popular with Bernie’s supporters.
P.P.P.P.S. You can also use two cows to teach about socialism, as well as other theories.
February 15, 2016 by Dan Mitchell
This is a very strange political season. Some of the Senators running for the Republican presidential nomination are among the most principled advocates of smaller government in Washington.
Yet all of them have proposed tax plans that, while theoretically far better than the current system, have features that I find troublesome. Marco Rubio, for instance, leaves the top tax rate at 35 percent, seven-percentage points higher than when Ronald Reagan left town.
This has caused a kerfuffle in Washington, particularly among folks who normally are allies. To find common ground, the Heritage Foundation set up a panel to discuss this VAT controversy.
You can watch the entire hour-long program here, or you can just watch my portion below and learn why I want Senator Cruz to fix that part of his plan.
Allow me to elaborate on a couple of the points from my speech.
First, a good tax system is impossible in a nation with a big welfare state. If the public sector consumes 50 percent of economic output, that necessarily means very high marginal tax rates.
Second, all pro-growth tax reform plans tax income only one time, either when earned or when spent, which means those plans all are consumption-base taxes in the jargon of public finance economists. Which is also just another way of saying that these tax plans get rid of double taxation.
On this basis, a VAT is fine in theory. Moreover, it could even be good in reality (or, to be technical, far less destructive than the current system in reality) if all income taxes were totally abolished.
Third, since Cruz’s plan leave other taxes in place, I’m worried that future politicians would do exactly what happened in Europe – use the new revenue source to finance an expansion of the welfare state.
Proponents of the Cruz VAT correctly point out that the plan simultaneously will abolish both the corporate income and the payroll tax, which sort of addresses my concern.
But keep in mind this is only an acceptable swap if you think, 1) the plan will survive intact as it move through the legislative process, and 2) the VAT won’t raise more money than the taxes that are abolished.
I’m not sure either assumption is valid.
Last but not least, proponents of the Cruz VAT plan keep denying that the plan includes a VAT. If you recall from my remarks, I think this is silly. It is a VAT.
To bolster my argument, here’s what Alan Viard wrote for the American Enterprise Institute.
Cruz’s proposed VAT would have a 16 percent tax-inclusive rate, and Paul’s proposed VAT would have a 14.5 percent tax-inclusive rate. Both VATs would be administered through the subtraction method rather than the credit invoice method used by most countries with VATs. The use of the subtraction method would not alter the fundamental economic properties of the VAT. A VAT is equivalent to an employer payroll tax plus a business cash flow tax.
Let’s close by citing some very wise words from Professor Jeffrey Dorfman of the University of Georgia (Go Dawgs!). Here are the key parts of his column for Forbes.
Conservatives are worried about national consumption taxes for several reasons, principally: these taxes’ ability to raise large sums of revenue and the ease with which politicians can raise the rates. Because national consumption taxes are efficient and can be applied to a larger base than is typical of state and local sales taxes they can raise large sums of money. While liberals think this is a plus, conservatives are rightly wary of taxes that could supply government with more money. More importantly, conservatives are suspicious of the semi-hidden nature of consumption taxes and the ability to raise them incrementally.
The bottom line is that even if we decide to call the VAT by another name, it won’t alter the fact that some of us think it’s too risky to give politicians an additional revenue source.
November 17, 2015 by Dan Mitchell
So how are our benevolent and kind overseers in Washington responding?
Are they cutting back on red tape? No, they’re moving in the other direction.
Are they lowering taxes? With Obama in the White House, that’s not even a serious question.
But that doesn’t mean all the people in Washington is sitting on their collective hands. The folks at the Federal Reserve have been trying to goose the economy with an easy-money policy.
Unfortunately, as I argue in this recent interview, that’s not a recipe for success.
At best, an easy-money policy is ineffective, akin to “pushing on a string.” At worst, it creates bubbles and does serious damage.
Yet if you don’t like the Fed trying to manipulate the economy, you’re often perceived as a crank. And if you’re an elected official who questions the Fed’s actions, you’re often portrayed as some sort of uninformed demagogue.
I explored this issue today in The Federalist. In my column, I defended Senators Rand Paul and Ted Cruz.
Rand Paul and Ted Cruz…deserve credit for criticizing the Federal Reserve. …This irks some folks, who seem to think Fed critics are knuckle-dragging rubes and yahoos with a superstitious fealty to the gold standard.
This isn’t a debate over the gold standard, per se, but instead of fight over monetary Keynesianism vs. monetary rules.
The dispute isn’t really about a gold standard, but whether the Federal Reserve should have lots of discretionary power. …On one side are the advocates of…the monetary component of Keynesian economics. Proponents explicitly want the Fed to fine-tune and micromanage the economy. …On the other side are folks who believe in rules to limit the Fed’s powers…because they believe discretionary power is more likely to give us bad results such as higher price inflation, volatility in output and employment, and financial instability.
And the Joint Economic Committee is on the side of rules. Here’s an excerpt from a JEC report that I cited in my article.
Well-reasoned, stable and predictable monetary policy reduces economic volatility and promotes long-term economic growth and job creation. Generally, ‘rules-based’ policies reduce uncertainties and facilitate long-term planning and investment. …Conversely, activist, interventionist, and discretionary monetary policies have been historically associated with increased economic volatility and subpar economic performance.
I then mention various rules-based methods of limiting the Fed’s discretion and conclude by commenting on the legitimacy of those who want to curtail the Federal Reserve.
Paul and Cruz may not be experts on monetary policy, just as left-wing senators doubtlessly have no understanding of the intricacies of discretionary monetary policy. But the two senators are on very solid ground, with an illustrious intellectual lineage, when they assert that it would be a good idea to constrain the Fed.
Now let’s expand on two issues. First, I mention in my article the gold standard as a potential rule to constrain the Fed. I’ve previously shared some analysis by George Selgin on this topic. He’s concluded that governments won’t ever allow its return and probably couldn’t be trusted with such a system anyway, but that doesn’t mean it doesn’t work.
Here are some excerpts from a recent article by George. Read the entire thing, but here’s the part that matters most for this discussion.
…the gold standard was hardly perfect, and gold bugs themselves sometimes make silly claims about their favorite former monetary standard. …the classical gold standard worked remarkably well (while it lasted). …it certainly did contribute both to the general abundance of goods of all sorts, to the ease with which goods and capital flowed from nation to nation, and, especially, to the sense of a state of affairs that was “normal, certain, and permanent.” The gold standard achieved these things mainly by securing a degree of price-level and exchange rate stability and predictability that has never been matched since.
And Norbert Michel of the Heritage Foundation touches on some of the same issues in a new column for Forbes.
Several candidates suggested the gold standard was a good system, and they’re all getting flak for talking about gold.
But here’s the most fascinating revelation from Norbert’s column. It turns out that even Ben Bernanke agrees with George Selgin that the classical gold standard worked very well. Norbert quotes this passage from Bernanke.
The gold standard appeared to be highly successful from about 1870 to the beginning of World War I in 1914. During the so-called “classical” gold standard period, international trade and capital flows expanded markedly, and central banks experienced relatively few problems ensuring that their currencies retained their legal value.
Both Norbert’s article and George’s article have lots of good (but depressing) analysis of how governments went off the gold standard because of World War I and then put in place a hopelessly weak and impractical version of a gold standard after the war (the politicians didn’t want to be constrained by an effective system).
So here’s Norbert’s bottom line, which is very similar to the conclusion in my column for The Federalist.
Many who favor the gold standard recognize that it provided a nominal anchor as opposed to the discretionary fiat system we have now. Maybe the gold standard isn’t the best way to achieve that nominal anchor, but we shouldn’t just dismiss the whole notion.
The second issue worth mentioning is that the best way to deal with bad monetary policy may be to have no monetary policy.
At least not a monetary policy from government. This video explains the merits of this approach.
Gee, maybe Friedrich Hayek was right and private markets produce better results than government monopolies.
I was in Montreal last week for a conference on tax competition, where I participated in a debate about whether the corporate income tax should be abolished with my crazy left-wing friend Richard Murphy.
But I don’t want to write about that debate, both because I was asked to take a position I don’t really support (I actually think corporate income should be taxed, but in a far less destructive fashion than the current system) and because the audience voted in favor of Richard’s position (the attendees were so statist that I felt like a civil rights protester before an all-white Alabama jury in 1965).
Instead, I want to highlight some of material presented by Kansas Governor Sam Brownback, who also ventured into hostile territory to give a presentation on the reforms that have been implemented in his state.
Here are some slides from his presentation, starting with this summary of the main changes that have taken place. As you can see, personal income tax rates are being reduced and income taxes on small businesses have been abolished.
By the way, I don’t fully agree with these changes since I think all income should be taxed the same way. In other words, if there’s going to be a state income tax, then the guy who runs the local pet store should pay the same rate as the guy who works at the assembly plant.
But since the Governor said he ultimately wants Kansas to be part of the no-income-tax club, I think he agrees with that principle. When you’re enacting laws, though, you have to judge the results by whether policy is moving in the right direction, not by whether you’ve reached policy nirvana.
And there’ no doubt that the tax code in Kansas is becoming less onerous. Indeed, the only state in recent years that may have taken bigger positive steps is North Carolina.
In any event, what can we say about Brownback’s tax cuts? Have they worked? We’re still early in the process, but there are some very encouraging signs. Here’s a chart the Governor shared comparing job numbers in Kansas and neighboring states.
These are positive results, but not overwhelmingly persuasive since we don’t know why there are also improving numbers in Missouri and Colorado (though I suspect TABOR is one of the reasons Colorado is doing especially well).
But this next chart from Governor Brownback is quite compelling. It looks at migration patters between Kansas and Missouri. Traditionally, there wasn’t any discernible pattern, at least with regard to the income of migrants.
But once the Governor reduced tax rates and eliminated income taxes on small business, there’s been a spike in favor of Kansas. Which is particularly impressive considering that Kansas suffered a loss of taxable income to other states last decade.
But here’s the chart that is most illuminating. In addition to being home to the team that won the World Series, Kansas City is interesting because the metropolitan area encompasses both parts of Missouri and parts of Kansas.
So you can learn a lot by comparing not only migration patters between the two states, but also wage trends in the shared metropolitan area.
And if this chart is any indication, workers on the Kansas side are enjoying a growing wage differential.
So what’s the bottom line?
Like with all issues, it would be wrong to make sweeping claims. There are many issues beyond tax that impact competitiveness. Moreover, we’ll know more when there is 20 years of data rather than a few years of data.
Indeed, if Kansas can augment good tax policies with a Colorado-style spending cap, the state will be in a very strong position.
P.S. This joke also helps explain the difference between California and Texas.