Do We Really Want to Raise Taxes on Capital?

Here's what has been so great about having wealth over the past two decades: not only has it been easy to make lots of money from investing that wealth, but taxes have hovered near a historic low on capital gains and stock dividends. So those with assets to deploy have been getting a twofer: High returns, low taxes on those returns. Meanwhile, it's been a different story for those who make their money by working as opposed to investing: return on the value of people's labor has been stagnant or falling for many groups, while income from work has been taxed far more heavily than income from investing. 

 

So it's no wonder that low taxes on capital gains and dividends have been identified as a key culprit in the growth of inequality. And it's no wonder that calls have been rising to more heavily tax returns on wealth, on top of the tax hikes on capital gains and dividends enacted as part of the "fiscal cliff" deal. In fact, a wealth tax is the signature policy solution that Thomas Piketty proposes in his book. At a more pedestrian level, the Center for Tax Justice, the Congressional Progressive Caucus, and others on the left have called for taxing capital gains at the same rate as income, which would effectively double the levy on such gains for the very top earners. 

 

I've often called myself for taxing income and capital gains at the same rate. 

 

In fact, though, there are two separate questions here: First, should wealth and work be taxed at the same rate, to which the answer is definitely yes -- because the heir sitting by the pool managing his real estate investments shouldn't pay a lower tax rate than the guy cleaning his pool. But second is the question of whether we really want to tax capital gains at a higher rate, and I'd say the answer is no. 

 

This is a classic policy issue where it helps to pull back the lens and get beyond standard alternatives. The truth is this: working is a virtuous activity that propels prosperity, but so is risking your wealth on investments -- especially when you're backing new businesses that are creating jobs. We should do everything we can to encourage these activities. And just because taxation on work is high doesn't mean taxing capital at a high rate also makes sense. 

 

Actually, we should lower taxes on both work and wealth, and shift instead to taxing activities that we want to discourage, focusing on three in particular: pollution, overconsumption, and financial speculation. Well-developed policy proposals are sitting on the shelf for new taxes in each of these areas, along with detailed estimates of how much revenue they would raise. I'll spare you all the wonky details, but suffice it to say that a carbon tax, a progressive consumption tax, and taxes on financial transactions could together raise hundreds of billions of dollars year. A tax package like that could allow the U.S. to lower taxes on both work and wealth, while reducing the scope of planned budget cuts in the coming decade. 

 

Oh, and such new taxes could also help save the planet, redirect national resources away from luxury spending, and prevent another financial collapse. Sounds like a bargain to me. 

 

Now, this does leave the problem of today's gross wealth inequality, which Piketty rightly posits is likely to keep growing. But I'd argue that it's better to focus on reducing inequality on the market side of things -- by increasing labor standards, making it easier to form unions, downsizing the Wall Street middlemen through regulation, and otherwise preventing capital from getting such big returns to begin with. This approach also has the appeal of being far more popular with the American public, as Leslie McCall documents in her book, The Undeserving Rich. Americans would much prefer business to change it ways to address inequality, rather than to expand redistribution through the tax code.

 

Yet here, as elsewhere, political elites have done the opposite of what the public wants. They've used the EITC and other measures to deal with inequality while leaving business to do as it pleases. Case in point: President Obama pushed during his first term to raise taxes on high earners, while barely lifting a finger to pass legislation that would make it easier to former labor unions. That sort of thing has to change. We need to challenge the power of capital to score outsized gains through exploitation and other abuses, not just spread the money around after.