The Doom Loop of Philanthropy

by Reihan Salam

Thomas Piketty’s new book on the concentration of wealth in advanced market democracies has prompted a good deal of discussion of dynastic wealth and its possible future. Earlier this month, Ezra Klein of Vox warned that we face a “doom loop of oligarchy,” and his Vox colleague Matt Yglesias recently elaborated on the same theme while making the case for confiscatory taxation. Much of the debate around the taxation of high-earners and the asset-rich revolves around whether high taxes have revenue-dampening effects. Yet Yglesias provocatively suggests that just as we don’t set “sin taxes,” like taxes on tobacco, at revenue-maximizing rates, we ought to consider approaching the taxation of high-earners and the asset-rich in the same way, as a kind of Pigovian tax designed to curb the negative externalities caused by the concentration of wealth:

With the growing concentration of wealth an increasing subject of public concern, it’s time to reconsider whether the application of Laffer-style reasoning to very prosperous individuals is appropriate.

Imposing a marginal tax rate of 90 percent on inheritances worth over $10 million, for example, would probably raise very little revenue. Rather than pay $90 to Uncle Sam for the chance to send $10 more to their kids, rich people would give the money to a tax-exempt charitable institution instead. That wouldn’t help balance the budget — in fact, it would hurt those efforts — but it would help break the doom loop of oligarachy whereby concentrated wealth breeds political power breeds greater concentration of wealth.

Briefly, I wonder if breaking the doom loop of oligarchy by encouraging rich people to give money to tax-exempt charitable institutions might yield another doom loop, namely a doom loop of philanthropy.

First, it is helpful to understand that the non-profit sector is quite large, as John DiIulio Jr. reminds us in “Facing Up to Big Government“:

In 2009, the organizations recognized as non-profits by the Internal Revenue Service reported nearly $1.9 trillion in spending while holding $4.3 trillion in total assets (for comparison, the total assets of state and local governments were about $4.6 trillion). In total, the non-profit sector employed about 13.5 million people (roughly a tenth of the American work force) and accounted for about 5.5% of GDP.

About three-quarters of non-profit organizations, including most faith-based ones, spend under a half a million dollars a year and receive little or no government grant or contract money. But the quarter of the sector’s organizations that boast its biggest annual budgets are highly dependent on direct government funding, meaning that one-third of all non-profit dollars are from government, paid through grants or contracts. For instance, in 2009, Catholic Charities USA alone spent $4.2 billion — and about two-thirds of those expenditures were funded by government grants and contracts.

Over the past quarter-century, government grants to non-profit organizations have nearly tripled (in inflation-adjusted dollars). And just as businesses lobby to keep government contracts flowing, non-profit organizations lobby to preserve government grants and to block measures to limit itemized deductions in the federal tax code. For instance, in November 2011, Independent Sector — an umbrella advocacy organization that represents hundreds of non-profit leaders — rallied members to send a message to Pennsylvania’s Republican senator Pat Toomey, who was then a member of the super committee and pushing for deep spending cuts. Their message: More than 650,000 Pennsylvanians are employed by non-profit organizations.

The large size of the non-profit sector isn’t a case against it, nor is the fact that the largest non-profit organizations essentially serve as “private administrative proxies” for government. Yet it is worth noting that many non-profits devote considerable time and resources to expanding the size and scope of government.

Many in the non-profit world see themselves as providing seed capital for social transformations that will ultimately have to be spearheaded by government. And many of the great foundations endowed by American industrialists, most notably the Ford Foundation, have evolved over time into bulwarks of American liberalism. The Ford Foundation, most notably, is known for funding a wide range of civil rights and social justice organizations that tend to favor a larger and more powerful government, but it is just one of many examples. Among conservatives, there is a widespread belief that the professionalization of non-profit management has tended to entrench a left-of-center worldview, and that the natural drift of philanthropic organizations is to move leftwards. In “Who Do Intellectuals Favor Government Solutions?,” Julian Sanchez offered a simple theory as to why this might be the case:

If the best solutions to social problems are generally governmental or political, then in a democratic society, doing the work of a wordsmith intellectual is a way of making an essential contribution to addressing those problems. If the best solutions are generally private, then this is true to a far lesser extent: The most important ways of doing one’s civic duty, in this case, are more likely to encompass more direct forms of participation, like donating money, volunteering, working on technological or medical innovations that improve quality of life, and various kinds of socially conscious entrepreneurial activity.

You might, therefore, expect a natural selection effect: Those who feel strongly morally motivated to contribute to the amelioration of social ills will naturally gravitate toward careers that reflect their view about how this is best achieved. The choice of a career as a wordsmith intellectual may, in itself, be the result of a prior belief that social problems are best addressed via mechanisms that are most dependent on public advocacy, argument and persuasion—which is to say, political mechanisms.

In fairness, non-profit organizations represent, in theory, a non-governmental approach to solving social problems. Yet in practice, the non-profit community, including the social enterprise community, has a strong bias towards government solutions, which will tend to deter aspiring problem-solvers who believe that, for example, government can inhibit the development of voluntary solutions to social problems. Moreover, the rules and regulations governing non-profit organizations severely limit the potential for creativity and business model innovation, as Dan Pallotta, author of Uncharitable, explained to Russ Roberts in an excellent interview.

And Yglesias has written intelligently and convincingly on the outsized wealth and influence of elite private research universities, which have become a magnet for contributions from wealthy dynasts. He has gone so far as to argue that we should not “give money to fancy colleges” on the grounds that they are highly inegalitarian. So which philanthropies would we like to see grow robustly? Miles Kimball has offered a quirky proposal for giving high-earners a strong tax incentive for contributions to civil society organizations that pass both a a substitute-for-government-spending test and a legitimate-activity-of-government test, which he explains as follows:

The substitute-for-government-spending test in the proposed law is not meant to prevent the total amount of public contributions for some things from going above what the government would do under the current system. Its purpose is simply to make it possible for the government to cut back on some types of spending to an important degree. Although religious congregations would not be directly eligible for public contributions because of the legitimate-activity-of-government test, many already have associated nonprofit organizations that could be eligible. And a large fraction of religious donations are from people who earn less than $75,000 per year. Support of arts enjoyed mainly by the rich, such as opera, might not meet the high-priority test, although the fine arts would still be eligible for the usual deduction for charitable donations. Setting the public contribution goal at 10% of annual income above $75,000 per person should be enough to ensure that nonprofit activities eligible for the public contribution credit are much better funded despite any crowding out or relabeling of existing contributions. There would probably be some reduction in funding for activities not considered important enough to qualify as public contributions—which would occasion much debate about exactly where to set the boundary between “public contributions” and regular charitable contributions—but setting priorities is not a bad thing. 

But now we’re getting awfully close to a situation in which the expansion of philanthropic activity is commensurate with the expansion of government power, as government defines what is and is not a high priority. To be sure, this may well be better than the more likely scenario, which is that in trying to avoid a doom loop of oligarchy we instead wind up with a doom loop of technocracy, in which elite research universities grow ever larger and more powerful and non-profit organizations press for the expansion of a government that operates largely through private administrative proxies. This doom loop might move at an even faster clip than the doom loop of oligarchy, as non-profit organizations are tax-exempt, a fact that has had significant consequences for jurisdictions like New York city, where non-profit medical providers have been growing robustly. Imagine “profitable non-profits” that offer their employees lavish salaries, thus drawing talented workers away from firms engaging in productivity-enhancing business-model innovation, and devoting just as much of their effort to preserving and extending their privileges as they do to their ostensible social missions.

I’m a fan of the non-profit sector, and I believe that philanthropy can do a great deal of good. That doesn’t mean that we don’t have to think rigorously about what supercharging the growth of the non-profit sector might mean.