Why we need to increase taxes on the rich

September 15, 2011

“President Obama announced plans Monday to fund his $447 billion jobs bill largely by raising taxes on wealthier families.”

Washington Post lead article on 9/13/2011

Bravo! It’s about time a national leader had the courage to use the T word. There is no solution to the federal debt fiasco that does not involve raising taxes on the well-off. Washington’s decade-long allergy to the word tax – or its reliance on silly euphemisms like “surcharge” or “revenue enhancement” – must end. Barack Obama did the country a service by putting this on the table.

Here’s the part the left will not like. Assume the president’s jobs bill is enacted, and is funded not by yet more borrowing but by raising taxes on the well-off. That will pretty much tap out “tax the rich” as a political strategy and rally cry. Unless the economy really takes off, further progress against the debt will need to come from entitlement cuts and raising taxes on the middle class.

Internal Revenue Service data show that in 1992, the effective federal income tax rate on the well-off was 26 percent. Today, after two tax cuts under George W. Bush, the effective rate is about 17 percent.

Obama’s latest proposal would raise the effective income rate on the affluent by about 2 percent. Bear in mind the ObamaCare legislation, most of which does not take effect until 2013 – just after Obama stands for reelection – already is scheduled to raise the effective tax rate on the well-off by about 4 percent. (I’m simplifying rates and policies that are designed to be incomprehensible.)

So suppose ObamaCare goes into law as planned, and the president gets his wish on the jobs bill. The effective federal tax rate on the well-off will rise 6 percent, from the current 17 percent to 23 percent. That’s almost what it was under Bill Clinton, before Bush the Younger began cutting taxes. Not much room left for “tax the rich” as the solution to ever-worsening government red ink.

And this would be before the new supercommittee acts, assuming it ever does. Raising taxes on the affluent to pay for the latest stimulus plan would nearly preclude the supercommittee from using this tactic as a main aspect of deficit reduction. The supercommittee would be forced to concentrate on entitlement cuts and middle-class taxes.

Currently, according to IRS data, about $2 trillion is earned by those with incomes greater than $100,000. The current effective top-end tax rate of 17 percent yields about $340 billion. If that effective rate raises to 23 percent as Obama proposes, then the well-off would pay another $120 billion annually in federal taxes. That helps – and because everything helps, such tax increases must be done. But adding $120 billion a year to federal revenue is not going to solve a deficit projected to run above $1 trillion per annum indefinitely.

Suppose additional tax increases, such as the higher federal top rates President Obama has proposed, were enacted. Obama’s top-rate proposals would raise the effective rate on the affluent to around the 26 percent that Barack and Michelle Obama paid in 2010. That would add about $220 billion per year to federal revenue. Again a big help, but again not alone the solution to trillion-plus deficits.

Even a confiscatory Soak the Rich approach – raising the effect federal tax rate on the well-off to 50 percent – would max out at adding another $660 billion per year to federal revenue, against trillion-plus annual deficits projected out as far as anyone dares to think about this mess. And that’s assuming a Soak the Rich approach would not dampen the economy.

Requiring the well-off to pay more is a step that must be taken, and sooner the better. But unless the economy really booms, there is no scenario in which increased taxation on the affluent can, alone, fix the national debt. (This Tax Policy Center paper has details.) Entitlement cuts simply must happen, and higher taxes on the middle class may have to happen, too.

Bear in mind that while Bush the Younger’s two tax cuts were kind to millionaires, they also reduced income tax rates on the working class and middle class. Today, some 49 percent of Americans pay no federal income taxes at all. They benefit from the system, but pay in nothing. Small wonder that debt keeps getting worse.

Last December, the Deficit Commission found that higher taxes, entitlement cuts and economic growth are all required to deal with the national debt. There’s just no other way out.

So bravo for President Obama being honest about the need to raise taxes on the well-off. Let’s do this right away. And then let’s accept that entitlement cuts and other painful measures still will be needed. The politically palatable, relatively easy step of going after the affluent just doesn’t solve the problem.

 

22 comments

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Good for you Mr. Easterbrook!

Pointing out past tax rates is helpful insight, but going back to other periods when America has gone to war should be part of the lesson.

During WWII tax rates were quadruple the amount they are today for the wealthiest among us!

But no tax increase to pay for the wars begun in 2001 and 2003 were raised. $4,000,000,000,000 later, still no additional revenue raised to pay for the efforts. Shameful.

But you well know Republicans have a larger goal to ‘starve the beast’ they see in Social Security, Medicare and other social safety nets…and if things continue that it exactly what they will get. Shameful indeed.

Posted by NobleKin | Report as abusive

I have no problem with the govt raising taxes, however the constitution guarantees us equal treatment under the law. How is taking a greateer percentage of income from one group equal protection from the taking? Income taxes are not the only taxes paid in this country, and it is high time that we revise the tax code away from taxing productivity. Either abolish the income tax altogether and enact a sales tax, or have a flat tax with no graduation, no exemptions, deductions, or exceptions. It is the only fair way, and it would end the divisive class warfare that our current group of politicians are so adept at.

Posted by zotdoc | Report as abusive

I have a tough time finding where Mr. Easterbrook is getting his data.

Effective tax rates
http://www.taxpolicycenter.org/taxfacts/ displayafact.cfm?Docid=456

http://www.cbo.gov/publications/collecti ons/tax/2009/effective_rates.pdf

Those sites seem to disagree. With effective tax rates for the most well off being around 30% already with 25% being the rate for the top 20% of people.

In 2007 we had high enough tax revenue as a % of GDP to balance the budget if we had kept spending even with GDP growth since 2000. Not that we couldn’t use tax reform and eliminate many of the deductions while lowering the overall rate. Instead of that though the administration is proposing more gimics and credits for favored groups. We have a 60,000+ page tax code. What rational person thinks we need more gimics and not a simplification?

Posted by AustinG | Report as abusive

Mr. Easterbrook,

I LOVE your posts! Sorry for the gushy introduction but I keep citing your material (old and new) on my own blog, as I find your work to be accurate, relevant thoughtful and informative.

I did an in-depth study of certain aspects of American economics over the last 50 years (most particularly, overall tax rates vs. growth rates).
I was VERY surprised by what I found:
http://www.slyman.org/blog/2011/07/reaga nomics-and-prudent-taxation/

There’s a strong POSITIVE correlation between growth and tax rates!!! This directly contradicts all the Republican propaganda that Americans have been fed over the last 30 years. And my conclusions are formed from little more than raw data publicly available from widely respected American institutions.

If you examine the numbers in light of tax POLICY (such as Reagan’s and Bush’s decisions to reduce the effective tax rates on a given tax band), the correlations and apparent causalities still hold true and make sense. (I accept that in countries with progressive/redistributive tax regimes, an economic crisis can in itself reduce the overall tax rates, giving the opposite causality; but this is not the case in the USA as Gregg and others have explained; and I do not believe this explanation fits with an accurate understanding of historical tax policy.)
So paradoxically, at least at overall tax rates relevant to the modern USA; there seems to be a causal effect from higher taxation to higher growth.

Ever since I’ve discovered this relationship, I’ve been trying to work out the mechanism behind it (it does, after all, run totally counter to all the most popular right-wing ideology). I believe there are several mechanisms causing this effect, which work most potently during a debt crisis (I explain some of my ideas in my article).
Considering the particular case you’re examining in this article though, if we’re looking only at the richer folk; I would not be surprised to find that many wealthy people have been slacking off into partial retirement, living on interest from accumulated investments; encouraged into inactivity and apathy toward the plight of their countrymen partly by Bush’s generous tax cuts. Raising taxes on the wealthier might well push many of them back into productive labour & productive application of their talents, or otherwise force them to apply their investments more productively in “riskier” projects such as building a small business in order to maintain their lifestyle (remember, the wealthy do not work to survive, they only work for a more comfortable life for themselves and their families).

And this is not to mention the economic dividend from a re-equalisation of the competitive playing-field. It is not good for a man nor for his family or countrymen, if he does not work, and only lives on usury from the hard work of other people.

Therefore, I would suggest (based on hard U.S. economic data from the past 50 years) that raising taxes on the wealthy will not just raise revenues by $120bn or $220bn annually. The IRS and also Americans generally will benefit much more than that, especially over the longer term; as long as the new rates are not confiscatory and internationally uncompetitive.

It’s time to kick-start the American economy by RAISING TAXES!

Matthew

Posted by matthewslyman | Report as abusive

@zotdoc: “I have no problem with the govt raising taxes, however the constitution guarantees us equal treatment under the law. How is taking a greateer percentage of income from one group equal protection from the taking?” – Actually, as Warren Buffett has pointed out, in the strange world of American taxation, the super-rich currently pay LESS tax (percentage-wise) than virtually any other American wage-earners.

The problem is that wealth buys you OPTIONS. Wealthy people don’t need to spend all their money in the local economy just to survive. They can invest some of it and get more money overseas, choosing different tax regimes for different aspects of their financial affairs; and they can employ clever accountants to find legal ways of avoiding paying taxes that everyone is theoretically supposed to pay in equal measure. We all know that merit is not exactly proportional with economic success, in a free-market economy.

So the disproportionality between meritocratic hard work and economic success needs to be corrected, as far as possible.
If you had short sightedness, you could mostly correct it by wearing glasses.
Similarly, governments can correct most of the unfairness of the capitalist system (without unjustly confiscating wealth earned through legitimate work), by applying the corrective lens of progressive taxation.

Posted by matthewslyman | Report as abusive

The only households with an effective federal tax rate in the 17% range are those whose incomes are based around large portfolio positions who get substantial investment income subject to the much lower dividend and capital gain tax rates. Those are not households earning 100,000/yr, those are the households earning a million+/yr, the only ones warren buffet said should be taxed more.

This whole debate about “taxing the rich” has been purposefully made ambiguous in an effort to minimize the cuts to entitlements & the DoD. Even with eliminating loopholes, raising taxes on dividends/capital gains and increasing federal income tax rates on those making 1 mill/yr+ will only yield ~100 billion a year. A drop in the bucket next to white house projected deficit of $1.1 trillion in 2012.

At the very least we should be having an honest discussion about our country’s fiscal problems. And the reality is we spend too much.

If you want to raise taxes on the rich, then make an honest argument. Be specific. “The rich” according to warren buffet are those making a million+/yr. “The rich” according to obama are those with incomes of 250k+/yr. And now we have your article Mr. Easterbrook, targeting the “well-off” which attempts to tie in effective rates for the richest americans (17%) to those making 100k/yr? Thats middle class america sir, not “the rich” or “well-off”.

And its no wonder the ambiguity exists, as total household gross income for those making between 100k and 200k is roughly 1.8 trillion. For those making between 200k and 500k its 900 billion. And *all* incomes above 500k make roughly a trillion.

The more people you define as rich, the more taxes you will raise (in the short term). Unfortunetly we are in the midst of the worst recession in 80 years, which is exactly the wrong time to be taxing middle class america.

It is time we took a serious look at entitlements and the DoD.

Posted by common_sense | Report as abusive

@zotdoc: your argument makes no sense whatsoever. The equal rights spelled out in the Constitution apply to civil rights, not taxation. Anyone who thinks everyone should equally taxed is out of their mind. The rich should pay more taxes because they can afford the burden.

You have 2 people walking in the desert. 1 person is a 25 yr old football player and the other is a 80 yr old woman with a bad back. They have to carry 25 gallons of water with them to survive the heat. Using Zotdoc’s argument both people should shoulder the burden equally. Any person with an iota of common sense would realize the 25 yr old football player should carry most of the water because he can.

Posted by mahadragon | Report as abusive

@NobleKin — You are 100% on the mark. I recall a related white paper from the late 70′s. but darn if I cannot recollect the authors. Reagan adopted the strategy, and deficit spending has been on an upward trajectory since then. It was a devious albeit clever strategy where patience will be rewarded at great cost to America’s security.

Posted by SanPa | Report as abusive

please stop confusing the rich with the high income earners. the two are very different. the rich are not being asked to pay. it is the high income earners that are being asked to pay. individual A who has inherited $100 million will not be asked to pay a cent, while individual B who earns $200 thousand per year and can barely afford a 1-bedroom apartment in New York City will be asked to pay 50% on marginal income, including state and city tax. most of the super-rich people are not ordinary income earners, but (through various vehicles) capital gains tax earners.

Posted by iaw4 | Report as abusive

“The effective federal tax rate on the well-off will rise 6 percent, from the current 17 percent to 23 percent. That’s almost what it was under Bill Clinton… not much room left for “tax the rich”

So any time period before Bill Clinton doesn’t exist? Thanks for pointing that out Easterbrook, you Libertarian Hack. Now I shall point out that the top marginal tax rate in the 1950s and 1960s was always above 70%, and those two decades we had GDP growth of 4.1%. Which beats every other single decade for growth (and, obviously, every two-decade period of growth).

But since you’re a Libertarian Hack, you’re quite happy to pretend the 50s and 60s didn’t happen. Which leaves the rest of wondering how in the world you get paid to write about economic issues.

Posted by Sprizouse | Report as abusive

Matthew,

The obvious problem with your analysis is that due to things like tax credits and an increasing marginal rate as people make more income, the country has a higher overall rate of taxation during periods of growth than it does during lean years. In other words you aren’t proving what you think you are proving. In 2007 the tax rates were pretty much identical to today. In 2007 tax revenue to the federal government was 18.5% of GDP. Today it is around 15%. The difference isn’t due to the tax rate itself, but is instead due to a lower GDP and higher unemployment reducing tax revenue.

People who have money they don’t spend don’t simply sit on the money. They invest it. If you look at the components of GDP the area where we are weakest, compared to periods of higher growth, is private investment. Higher taxes on income or investments will only make that component weaker. We have regulatory problems. Since Sarbanes Oxley was implemented the growth of new businesses has slowed dramatically. That bill and others have helped large corporations by insulating them from competition.

Posted by AustinG | Report as abusive

@iaw

if you earn 200k a year you can easily afford a one bedroom apartment in New York. http://www.nyhabitat.com/new-york-price. html. If you can not find a way to live comfortably with 200k in New York then your salary does not correspond to your intelligence.

Posted by smarcus | Report as abusive

You’re correct in pointing out that 49% of taxpayers pay no FICA, however your readers should note that all of these taxpayers and their employers are responsible for payroll taxes that total 13% or higher. Warren Buffet is always careful to point this out as an unjust aspect of the tax system. The well off stop paying payroll taxes after a certain income and payroll taxes do not have to be paid on certain types of income. It would be interesting to compare the effect of applying payroll taxes at the same rate to all income versus raising the federal income tax rate. If the President proposed this, Republicans could argue that the had secured no increase in federal taxes and the poor and (most of) the middle class would see no overall tax increase.

Posted by tharmo | Report as abusive

Your previous post discussed all the waste and graft in government construction projects. How about we clean that wasteful spending up first, before we start raising taxes (on anyone) to pay for the waste?!?

Posted by GWolf | Report as abusive

Tharmo,

There is a limit on FICA taxes for Social Security because there is also a limit on the benefits that you receive. The program was not setup to be a welfare program, but instead a social insurance program. In theory you are supposed to get out of it what you put in. Though in practice there is no money saved for anyone. The only way that they can pay out benefits next month is to tax people.

Also while everyone pays FICA taxes in theory those with low incomes get money back on their income taxes to pay for it. The net income tax for the bottom 20% is -6.8%. Please check out the links in my above post to the effective tax rates that people pay. The top 5% pay a rate that is over twice as high as those in the middle.

Posted by AustinG | Report as abusive

If the Federal Govt has not PROVEN to be one of the most wasteful, inefficient, unaccountable, constantly expanding and sometimes corrupt entities in America, I might agree with Gregg. Until the Congress shows that they are good stewards with the current tax dollars they receive they deserve no more. Lets start with the idea of responsibility. How about Congress makes an actual effort to balance the budget? Why do they use the budgeting gimic of the Current Service Baseline when in actuality they should have to qualify each annual budget upon necessity and not simply an automatic 8% – 10% increase “just because”. Giving Congress more money, when they have demonstrated such irresponsibility, would be like having your children play tackle football without helmets.

Posted by CapnKirk77 | Report as abusive

Gregg, could you explain how someone very rich who is subject to Alternative Minimum Tax can pay less than 26-28% federal tax at the margin? All deductions are lost and the tax is on the gross including capital gains and dividends. Add 10% state tax and you have 36-38%.

Posted by JK22 | Report as abusive

“And that’s assuming a Soak the Rich approach would not dampen the economy.”

Since I’m more of a fan of your TMQ writing, here is the football analogy: “And that’s assuming cutting off Tom Brady’s arm to give it to Tavaris Jackson would not dampen the Patriots offense.”

The problem with the defecit is not undertaxation of the wealthy. The defecit can be reduced as the economy as a whole grows. The economy grows when producers/capitalists invest, not when their money is forcibly extracted and given to an inefficient federal bureaucracy to squander.

Posted by GMYS | Report as abusive

Why don’t we just switch to a flat tax, remove loopholes, drastically limit deductions & exemptions (goodbye mortgage credit :-( and make it so that *everyone* has some skin in the game?

We also, as a nation, need to discuss what is a reasonable portion of one’s earnings to pay for federal gov’t services. We talk about tax “increases” and “cuts” but these are all relative to a current number that has fluctuated greatly over the past decade and increased dramatically in the century or so since its inception.

Posted by Dan_S | Report as abusive

Getting the money out of elections; the revolving door to K Street slammed shut; the top five media corporations to stop dividing the country because it profits them…Wall Street and the big banks and the country’s budget problems would be solved. Housewives could solve the budget crises but Congress is too busy to even debate the problems our nation faces. Debating critical problems in sound bites is laughable.

Transferring the wealth of the average American that rested in homes and pension funds to big banks and Wall Street has enriched the wealthiest and put those who have lost their homes and jobs and are at the mercy of the government.

Congress is being paid for doing nothing and being paid well! Get the money out of elections; stop the revolving door from Congress to K Street; stop the profiteering of the five major media corporations whose bottom line depends on keeping the nation at odds rather than solving critical problems.

As a start, prosecute the CEOs of the big banks who if they were average Americans would be sitting in a prison today.

Then get the companies pushing their pills and the attorneys advertising bad drugs off the air!
Neither benefit the country as a whole and both encourage higher medical costs. Then bring back ethics to the medical field. Paying doctors to write 25 prescriptions monthly for senior citizens who are sicker from the meds prescribed than when they visited the doctor for the first time might explain the high cost of medicine. If hospitals cannot determine a common cold is not an emergency room matter and turn patients who simply don’t want to wait in line in the doctor’s office away, they don’t deserve to stay in business.

Posted by Inkwench22 | Report as abusive

A dollar should be taxed the same regardless what you make!

Make less pay less… make more pay more!

“KISS” Keep It Simple Stupid….

The object of tax is not to help create more comfort for those less fortunate nor decide if someone should pay more because they have more. Equal rights should be looked at in this case as well!

The only politician I’d believe is one that does it out of the goodness of his/her heart to help make our country a better place. Not career politicians that manage to talk a great game, yet fail to follow through while collecting a “comfortable” salary!

Posted by 19mach199 | Report as abusive

I would like to know why the “rich” get punished for becoming “Rich?” When I was growing up I was taught that hard work and a good education will make you “rich”. So why does the president want to punish those that got off thier lazy butts to make a life for themselves. And oh, you raise taxes on companies, they raise prices on thier products..so who buys the products? The middle & lower class. How about a flat tax? 10% flat. People need to quit thinking of the government as their “baby daddy” and get damn jobs.

Posted by hardworkingRN | Report as abusive