Tag: capital gains

Memo to Robert Reich: Rewrite Your Brief

Robert Reich posted a letter in June 20 Wall Street Journal responding to my article of June 16, “Why 70% Tax Rates Won’t Work.”

He argues that I distort his proposal (though I wasn’t talking about his proposal) and ignore his argument that, “Giving the middle class more purchasing power by lowering its rates while raising the rates at the top will help spur [economic] growth.”

This strikes me as a futile effort to change the subject.  Since I proved that past tax rates of 50-70% on relatively modest incomes raised less revenue than a top tax rate of 28%, how could Reich’s proposal of 50-70% rates at incomes above $500,000 raise more revenue?   And if 50-70% tax rates would not raise more revenue, then how could he possibly promise “substantial rate reductions [actually a refundable tax credit] for people with incomes under $100,000”?  

The original draft of my article was not focused on Reich, but included others − including two of his Berkeley colleagues (Brad DeLong and Emmanuel Saez) who recently suggested a tax rate of 70% would be “revenue-maximizing.”  The details of Reich’s proposal were not in the blog I quoted, but such details have no relevance to any points I made.

Only after top tax rates came down, I noted, were we able to afford very substantial reductions in taxes for people with incomes under $100,000.  Since President Reagan took office the average income tax rates have become negative for the bottom 40% and were cut in half for the “middle class.”   In 1980, when top tax rates were 70% and nearly 40% on capital gains, such rates brought in so little revenue that the Feds were compelled to tax low and middle-income families quite heavily to bring revenues up to the normal 8% of GDP.

At his blog, Reich argues that, “Reynolds bends the facts to make his case. The most important variable explaining the rise and fall of tax revenues as a percent of GDP has been the business cycle, not the effective tax rate. In periods when the economy is growing briskly, tax revenues have risen as a percent of GDP, regardless of effective rates; in downturns, revenues have fallen.”

For that to work as an explanation of why individual tax revenues were higher when the top tax rate was 28% than when it was 70-91%, Reich is logically obligated to argue that the economy was growing more briskly when the top tax rate was 28% than when the top tax rate was 70-91%.  Contradicting his own logic, however, Reich instead claims that “Giving the middle class more purchasing power by lowering its rates while raising the rates at the top will help spur growth.”

Reich is not proposing to add new tax rates to 50-70% on salaries, dividends and capital gains because he believes it will raise more revenue (my data show otherwise), but because he believes it will raise the growth of real GDP.   This is breathtaking. Reich should be glad that I ignored his “central argument” about super-high tax rates boosting economic growth by taking income from those who earned and giving it to those more likely to squander it.   I was just being too polite.

Within his hyper-Keynesian lawyer’s brief, Reich is logically required to argue that top tax rates of 70-91% (1) raised revenue, and that (2) this imaginary added revenue allowed imaginary tax reductions on poorer people with a lower propensity to save.  He must then arrive at the logical conclusion, which is that (3) the average savings rate must have been much lower when top tax rates were 70-91% than since 1988 when to tax rates have frequently been 28-35% and as low as 15% on capital gains and dividends. A low savings rate, in Reichian theory, is what makes the economy grow.

My article proved the first two premises are false.  High statutory tax rates on the rich generated less revenue, and the poor and middle classes paid much higher taxes as a result.

The third premise of Reich’s brief is key to the Keynesian fable about growth depending to incentives to consume rather than incentives to produce.  Once again, the facts are the exact opposite of what Reich imagines. The personal savings rate was 9% from 1959 to 1981 when top tax rates were 70-91%, and 4.5% from 1988 to 2007 when top tax rates were 28-39.6%.

Reich’s comment that “the richest 1% of Americans got 10% of total [pretax, pretransfer] income in 1980, and get more than 20% now” refers to income reported on individual tax returns, assembled by Thomas Piketty and Emmanuel Saez.   When top tax rates went way down, particularly in 1988, 1997 and 2003, the amount of reported income and capital gains went way up.  As Saez explained in the 2004 issue of Tax Policy and The Economy (MIT Press, p.120): “Top income shares … show striking evidence of large and immediate responses to the tax cuts of 1980s, and the size of those responses is largest for the topmost income groups.”   That is why revenues from high-income households went way up rather than down, and why it then became feasible to hand out refundable credits to the bottom 40% and cut tax bills in half for those earning less than $100,000.

Reich would apply his 50-70 % tax rates to reported capital gains and dividends, which is a surefire way to make taxable capital gains and dividends vanish from tax returns.  No high-income taxpayer can be compelled to sell property or financial assets for the sheer joy of paying 50-70 % of the gain to the IRS.  No investor can be compelled to hold dividend-paying stock rather than tax-free bonds.  

With the enormous amount of revenues lost under the Reich tax proposal, we would have no choice but to revert to the pre-1986 stingy personal exemptions and standard deductions while also repealing the Bush child credit and the vastly expanded earned income tax credit.

A Clever British Campaign against Higher Capital Gains Tax Rates

Here are a handful of the posters being used in the United Kingdom to fight the perversely-destructive proposal to increase tax rates on capital gains. (for an explanation of why the tax should be abolished, see here)

Which one is your favorite? I’m partial to the last one because of my interest in tax competition.

But this isn’t just a popularity contest. With Obama pushing for higher capital gains rate in America, it’s important to find the most persuasive ways of educating people about the damage of class-warfare tax policy.

By the way, “CGT” is capital gains tax, and “Vince” and “Cable” refers to Vince Cable, one of the politicians pushing this punitive class-warfare scheme.

Obama’s Wants a 23.9% Capital Gains Tax, but the Rate Actually Will Be Much Higher Because of Inflation

Thanks to the Obamacare legislation, we already know there will be a new 3.9 percent payroll tax on all investment income earned by so-called rich taxpayers beginning in 2013. And the capital gains tax rate will jump to 20 percent next year if the President gets his way. This sounds bad (and it is), but the news is even worse than you think. Here’s a new video from the Center for Freedom and Prosperity that exposes the atrociously unfair practice of imposing this levy on inflationary gains.

The mini-documentary uses a simple but powerful example of what happens to an investor who bought an asset 10 years ago for $5,000 and sold it this year for $6,000. The IRS will want 15 percent of the $1,000 gain (Obama wants the tax burden on capital gains to climb to 23.9 percent, but that’s a separate issue). Some people may think that a 15 percent tax is reasonable, but how many of those people understand that inflation during the past 10 years was more than 27 percent, and $6,000 today is actually worth only about $4,700 after adjusting for the falling value of the dollar? I’m not a math genius, but if the government imposes a $150 tax (15 percent of $1,000) on an investor who lost nearly $300 ($5,000 became $4,700), that translates into an infinite tax rate. And if Obama pushed the tax rate to almost 24 percent, that infinite tax rate gets…um…even more infinite.

The right capital gains tax, of course, is zero.

Russia Scraps Capital Gains Tax

The former communists running Russia apparently understand tax policy better than the crowd in charge of U.S. tax policy. Not only does Russia have a 13 percent flat tax, but the government has just announced it will eliminate the capital gains tax (which shouldn’t exist in a pure flat tax anyhow).

Here’s a passage from the BBC report:

Russia will scrap capital gains tax on long-term direct investment from 2011, President Dmitry Medvedev has said. …Mr Medvedev told the St Petersburg International Economic Forum that long-term direct investment was “necessary for modernisation”. …Its oil revenues fund, which has been financing the deficit, is expected to end next year, and the government wants to attract more foreign investment to boost the economy.

Sounds like President Medvedev has watched my video explaining why there should be no capital gains tax. Now we just need to get American politicians to pay attention.

The Capital Gains Tax Rate Should Be Zero

Every economic theory – even socialism and Marxism – agrees that saving and investment (a.k.a., capital formation) are a key to long-run growth and higher living standards. Yet the tax code penalizes with double taxation those who are willing to forgo current consumption to finance future prosperity. This new video, narrated by yours truly, explains why the capital gains tax should be abolished.

Unfortunately, Obama wants to go in the wrong direction. He wants to boost the official capital gains tax rate from 15 percent to 20 percent - and that is after imposing a back-door 3.8 percentage point increase in the tax rate as part of his government-run healthcare scheme.

The video concludes with six reasons why the tax should be abolished, including its negative impact on both jobs and competitiveness.

For Financial Stability, Fix the Tax Code

There seems to be near universal agreement that the excessive use of debt among both corporations, particularly banks, and households contributed to the severity of the financial crisis.  However, other than the occasional refrain that banks should hold more capital, there has been little discussion over why corporations choose to be so highly leveraged in the first place.  But then such a discussion might lead us to the all too obvious answer – the federal government, via the tax code, encourages, even heavily subsidizes corporate leverage.

Cato scholar and banking analyst Bert Ely has estimated that the subsides for debt have historically resulted in an after tax cost of debt of 3 to 5 percent, compared to an after tax cost of equity of 12 to 15 percent.  With differences of this magnitude, it should not be surprising that financial companies and corporations in general become highly leveraged.

For corporations, this massive difference in cost between debt and equity financing results primary from the ability to deduct interest expenses on debt, while punishing equity due to the double-taxation of dividends along with taxing capital gains. 

If we are going to use the tax code to subsidize debt and tax equity, we shouldn’t act surprised when firms load up on the debt and reduce their use of equity – making financial crises all too frequent and severe.

Obama Adopts the Mikulski Principle

Economists have advanced many theories of taxation. But as usual, the one that seems to explain the policies of the Obama administration best is what I call the Mikulski Principle, the theory most clearly enunciated in 1990 by Sen. Barbara Mikulski (D, Md.):

Let’s go and get it from those who’ve got it.

Just take a look at the myriad taxes proposed or publicly floated by President Obama and his aides and allies:

As the links will indicate, not all of these taxes have been formally proposed, and some have already run into sufficient criticism to have become unlikely. But together they illustrate the mindset of an administration and a Congress determined to extract as much money as they can from Americans rather than cut back on expenditures, which have doubled in about eight-and-a-half years.

Indeed, the administration’s programs remind us that today is July 2, the 233rd anniversary of the day on which the Continental Congress voted for American independence, issuing a document that declared, among other things,

He has erected a multitude of New Offices, and sent hither swarms of Officers to harrass our people, and eat out their substance.