Time for Super Taxes for the Super Rich?

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The super-rich are very different than you and me, except that is when it comes to tax rates. Couples making $137,000 pay 25% of their income in federal taxes. But someone making 10 times that or $1.5 million a year, or for that matter $100 million, will pay 35%. Factor in the carried-interest break that some Wall Streeters still get, off-shore tax shelters and other tricks that the super rich use to avoid paying Uncle Sam and the effective tax rates of the middle class and the upper-upper class are probably pretty similar.

With the George Bush tax cuts about to expire, the issue of what tax rate the upper class should pay has been on a lot of peoples’ minds. The current issue of BusinessWeek looks at the widsom and folly of the Bush cuts. For a while it looked certain that tax breaks put in place for couples earning $250,000 or more under Bush would disappear. The Obama administration has said that it is for extending the tax cuts for those making less than that. But lately, more and more lawmakers are saying that even the richest Americans should get their tax breaks too.

That’s why I found James Surowiecki’s column in this week’s New Yorker timely and interesting. Surowiecki proposes not just reinstituting pre-Bush era tax rates on the rich, but going a step further and creating a super tax bracket for those making the mega bucks. Say 50% for those making $10 million or more. At a time when Washington and voters, if not the market, are growing increasingly worried about the deficit, I think the idea of a super tax rate for the super rich makes a lot of sense. Here’s why:

First of all, as Suroweicki points out, the rich have been getting richer. And income inequality when it gets to extremes can add to all types of social ills like reducing the quality of healthcare and education. From Suroweicki:

Between 2002 and 2007, for instance, the bottom ninety-nine per cent of incomes grew 1.3 per cent a year in real terms—while the incomes of the top one per cent grew ten per cent a year. That one per cent accounted for two-thirds of all income growth in those years. People in the ninety-fifth to the ninety-ninth percentiles of income have represented a fairly constant share of the national income for twenty-five years now. But in that period the top one per cent has seen its share of national income double; in 2007, it captured twenty-three per cent of the nation’s total income. Even within the top one per cent, income is getting more concentrated: the top 0.1 per cent of earners have seen their share of national income triple over the same period. All by themselves, they now earn as much as the bottom hundred and twenty million people. So at the same time that the rich have been pulling away from the middle class, the very rich have been pulling away from the pretty rich, and the very, very rich have been pulling away from the very rich.

While I know this is a little bit of a third rail, if taxes can redistribute some of that wealth at the very high end of the income ladder to social programs that end up improving education or paying for healthcare reform or creating jobs, that would be a good thing. Again, I know people hate this idea of redistributing wealth, but consider what that money is doing now. It is adding to our economic problems not helping. For the most part it is not money being spent and trickling down. Instead it just adds to that global pool of money that sloshes around our financial markets and creates all types of bubbles. So before that money was driving up the cost of houses. Now it is creating bubbles in gold and cotton and, if you believe it, Treasury bonds that could lead to other financial collapses. So not only does all that money concentrated with the rich not help us, it actually makes our economy prone to booms and busts, and less stable.

Second point, it seems clear that the tax rate for the super wealthy is too low. Dylan Matthews who posts on Ezra Klein’s blog recently went around and asked a number of economists and policy wonks what should be the top tax rate for the super rich. He found that even a number of conservatives though the highest tax rate was too low:

Bruce Bartlett, columnist, Forbes.com; former adviser to Reagan and Bush I: “I would hate to venture a specific number…. I would, however, say that I think the top rate could be quite a bit higher than it is without significantly impairing incentives or leading to excessive amounts of tax avoidance. I think 50 percent is an important threshold and I would be very reluctant to go higher even if it raised net revenue…. Anthony Atkinson, probably the leading public finance economist in England, estimates (PDF) that the top rate could go as high as 63% to 83% before it became counterproductive in terms of revenue…The European Central Bank…finds that only two European countries are on the wrong side of the Laffer Curve. All other countries could raise substantial additional revenue by raising tax rates.”
“Since our rates are much lower than those it Europe, it suggests that we have a very long way to go before the top rate became counterproductive.”

Arthur Laffer wrote an op-ed for the Wall Street Journal last week arguing that the tax burden of the rich has already risen dramatically in the past few decades, and as a result raising it further is unlikely to help our economic situation. Actually, Laffer thinks higher tax rates for the rich will create more poverty, though he doesn’t exactly say how. Laffer used a chart in the piece that showed the tax burden of the top 1% as a percentage of GDP was now roughly equal to that of the bottom 95%. That is a big change from the early 1980s when the bottom 95% contributed roughly four times as much to tax revenue as the the top 1% in terms of GDP.

So are the rich paying too much? Probably not. What Laffer doesn’t point out is that over that time there has been dramatic change in income distributions. The rich make increasingly more of the nation’s income. So shouldn’t they pay a larger percentage of the income tax. Isn’t that how it is supposed to work? As Suroweicki says, from 2002-2007 the income of the top 1% has roughly doubled. Yet on Laffer’s chart their tax burden has not risen nearly that much, just 40% over that time from about 2.25% of GDP to 3.25%. Based on their income growth alone the top 1% should be contributing 4.5% of GDP, or 1.25% points more than they do now.

Lastly, many people argue that there is no point in increasing the tax rate on the super wealthy because our deficit has grown so huge, the hit to the weathly won’t make that much of a dent in the national debt. From Business Insider:

For one thing, we’re not sure that hiking taxes on the LeBron Jameses of the world is going to move the needle much in terms of revenue, so if the point of this discussion is to hike taxes for deficit-lowering purposes, this might be fruitless.

Yes, but you have to start somewhere. I believe the estimate is that allowing the Bush era tax cuts on the wealthiest 3% of Americans to expire will generate $700 million billion in revenue over the next decade. Isn’t that the same $700 million billion that we thought was so unfair to hand out to Wall Street at the height of the financial crisis? It would also nearly pay the cost of the stimulus. During that debate, everyone thought those $700 million billion dollars were important. Why not now?

But even if tax hikes on the rich don’t generate that much revenue they are important symbolic gesture. Many people are worried that investors will soon run screaming from our bonds, and that today’s low interest rates are a temporary mirage covering our poor fiscal condition. But the debate that is going on is mostly a confidence debate. There no immediate fiscal crisis with our nation’s finances. The U.S. Treasuries market is telling us that. But there is a fear that down the road we won’t be able to raise taxes when we have to. Raising taxes on the super rich now would show the bond market that the US has the political will to raise revenues when we need to. That should continue to keep interest rates low for sometime, helping the rich and the poor alike. For that reason alone, raising taxes on the super rich is perhaps more important than we think.