Why Taxing The Wealthy Is Not Enough

Even Autocratic Governments Support "Wealth for the Wealthy And Consumption For The Masses"

Investing and Consuming: Both Good if Done in Balance

In a recent paper, Akcan Balkir, Emmanuel Saez, Danny Yagan, and Gabriel Zucman estimate that the ultra-wealthy pay a lower effective tax rate than the overall population. Their findings align with research indicating a low rate of income realization on individual income tax returns. Generally, the wealthy recognize only about 2 percent of their wealth as income, despite earning high returns — often 10 percent or more — to grow their wealth. Their paper also aligns with what we would expect from past cuts in corporate and estate tax rates, as well as the increased organization of businesses through pass-through entities, such as partnerships, rather than corporations.

The paper strongly implies that the wealthy should pay at least as high a tax rate as less affluent people, and, for a variety of additional reasons, including our massive deficits and high rate of debt accumulation, I agree. However, it is risky to consider taxing the wealthy in isolation from how the government uses that money.

Essentially, government spending and tax policies in recent decades have combined to make the wealthy increasingly responsible for society’s savings and investments, one way of supporting a growing economy that can sustain higher levels of consumption for most people. Unless we shift back to a system that emphasizes wealth building and upward mobility for everyone—including human capital in the broadest sense of skills, education, and access—we will continue heavily relying on the wealthy to save, invest, and grow our stock of equipment, software, and other capital.

In Abandoned: How Republicans and Democrats Deserted the Working Class, the Young, and the American Dream, I attempt to outline this larger story. Generally, programs that promote upward mobility for most people have been in decline for nearly fifty years. These include broader access to subsidies for housing and retirement savings, as well as apprenticeships and other educational opportunities for those not pursuing college degrees. Additionally, there should be a much stronger set of work subsidies, since most learning occurs on the job.

Throughout most of the nation’s history, U.S. government efforts outside of defense primarily focused on roads, railroads, transportation, education, land ownership, and maintaining a rule of law—programs that supported wealth-building for the country and its people. It is only in our more affluent modern era that the government has increasingly focused on income and its distribution. Even Franklin Roosevelt devoted most of his reforms to work and rewards for workers rather than simply redistributing income to support consumption.

F. Scott Fitzgerald was right, “[T] very rich… are different from you and me,” or, as Ernest Hemingway allegedly responded, “Yes, they have more money.” The point here is that they typically save a large portion of the very high returns on their assets to attain and maintain their status. In contrast, most of the population immediately consumes most of its income. If the government taxes the wealthy to reduce their wealth but then merely spends that money to support higher consumption for everyone else, the nation’s rate of investment in and ownership of the capital stock decreases. That means lower growth.

In simple terms, increasing wealth inequality and a more dependent population are closely linked. Each one reinforces the other. Growing wealth inequality fosters dependence, and rising dependence in turn exacerbates wealth inequality.

Most of today’s federal government redistributive efforts focus on consumption in retirement and healthcare, rather than wealth building and upward mobility. In fact, its current budget has gone so far in this direction that all growth in real spending over the next decade is dedicated solely to higher payments for Social Security, Medicare, and interest on the debt, with interest costs rising because low taxes accompany fast spending growth. More specifically, in aggregate, Congress and the President have decided to devote none of the substantial increase in spending made possible by economic growth to anything else.

While I view Social Security and Medicare as largely successful programs—though many of their advocates overlook how poorly some of their resources are allocated—our elected officials have designed them in a way that is unsustainable, supporting rapidly rising levels of retirement spending for each new generation of retirees. For a typical couple retiring today, one or both are likely to receive Social Security benefits for nearly 30 years—that is, from age 62 to around age 90. No one claims that these benefits have made them more upwardly mobile compared to their parents, especially if their wages and other market incomes have stagnated. Upward mobility is achieved through higher market income from wages and other returns to human, financial, and other forms of capital or wealth ownership.

In Abandoned, I explain why even autocratic nations have shifted from socialism toward a strategy of wealth for the wealthy and consumption for the masses. I detail how society gains from both wealth creation and, through economies of scale, widespread consumption. However, none of this is adequate for a nation striving to be a thriving democracy if the wealth isn’t broadly shared.

So, yes, the wealthy should pay a fairer share of taxes—a message that the Republican Party refuses to accept. But actual wealth building for the nation requires more than just consumption—a message that the Democratic Party refuses to recognize. In this limbo, inclusive wealth building for large segments of the population has been stalled for decades, setting the stage for today’s threats to our economy and democracy.