Politics & Policy

Tax the Rich More, Reduce Inequality?

It doesn't work like that.

David Wessel recently wrote in the Wall Street Journal of a new policy proposal from the “pro-globalization crowd” that is meant to soften the blow of globalization. The plan — backed by former Bush administration official Matthew Slaughter on the right, and former Clinton Treasury secretary Lawrence Summers on the left — is to raise taxes on the rich in order to “thwart an economically crippling political backlash against trade prompted by workers who see themselves — with some justification — as losers from globalization.”

Summers argues that “It is best not to address salient concerns about inequality by interfering with trade.” So his solution is to use the tax code to penalize high earners as a way of reducing some of the inequality allegedly wrought by free trade.  Specifically, he would return tax rates on incomes above $200,000 to the higher rates seen under President Clinton. Carried to its absurd extreme, Google — if its Internet search engine ultimately vanquishes those offered by Yahoo and Microsoft — would pay higher taxes to make the competitors it leaves behind feel better.

Despite the historical truth that income inequality is a major force behind innovative new ideas that regularly shift the mix and makeup of top earners, what Summers and Slaughter are proposing is at the core an attack on private property. The globalization they laud and decry at the same time represents progress. Income inequality is something separate, and barring inheritance it usually results from unequal levels of work, parsimony, perseverance, talent, and sometimes luck. To raise taxes for no other reason than to reduce inequality is to implicitly endorse expropriating the property of the rich just because they’re rich.

Slaughter and Summers might argue that the taxes raised in their scheme could fund education and training for displaced workers, but is there much evidence suggesting programs of that sort have had much success? And is it fair to penalize the most productive members of society in order to fund these utopian schemes?

Notably, Summers acknowledges that due to globalization, there’s a risk involved in taxing the highest earners, since they have the ability to “pick up their marbles and go somewhere else.” Indeed, as supply-siders have long noted, high incomes often disappear when the penalty for economic success rises. But rising tax rates also impact the willingness of the best and brightest to commit both work effort and capital. If the most productive among us do go elsewhere, or, cease working altogether, it would be quite a reach to assume that displaced workers will find their economic situations much improved.

Policymakers defy basic economics when they bemoan the plight of workers while at the same time advocating higher taxes on the rich. The two work at cross-purposes for the simple reason that job availability is a function of capital being available to fund the aforementioned jobs. High tax rates by definition erode the capital base, and in so doing, reduce the amount of capital that accrues to jobs and wages.

Summers and Slaughter make a good point that rising protectionism among the electorate is a major economic risk, since it may lead to contractionary protectionist legislation. But tax hikes on the rich will only serve to make workers even more uneasy when a smaller capital base negatively impacts both job availability and wages.

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