Aggressive Tax Plan: The rise and fall (and rise again?) of America’s progressive tax system
By Jason Lakin, Head of Research, International Budget Partnership— Oct 16, 2019
The Triumph of Injustice: How the Rich Dodge Taxes and How to Make Them Pay
“Tolerating tax evasion is a choice we collectively make, and we can make other choices.”
Thus Emmanuel Saez and Gabriel Zucman throw down the gauntlet of tax justice to Americans in their new book, The Triumph of Injustice: How the Rich Dodge Taxes and How to Make Them Pay. This paean to collective choice sums up one of the principle messages of their book. The decisions we have made about tax policy have failed to curb inequality; Americans have had more progressive policies in the past, and we can have them again.
For a book by two economists, there is a remarkable mix of accessibility and urgency about The Triumph of Injustice, from its insistence on the moral theme of justice, to its sarcastic tone about the machinations of the rich, to its 101 dissection of the tax avoidance industry. The book is also clearly written with a set of digestible facts and charts that are intended to go viral (which to some extent it did before it was even published, with David Leonhardt’s review in The New York Times).
These kinds of facts (based on an analysis of all U.S. federal, state and local taxes) are not quite as eye-popping as they were before scholars like these (and Thomas Piketty) began generating them, but it’s worth mentioning a few here as motivation:
- The United States is the only country in which tax to GDP ratios have declined in the last two decades, by four percent of GDP, almost all of it due to lower capital taxation
- The average tax rate of the superrich in the 1950s (the top 0.1%) was 55 percent, over 20 percentage points more than what they pay today.
- In 2016, US firms booked 20% of non-US profits in shell companies that are not incorporated in any country at all and pay no tax anywhere, making “$100 billion in profits on what is essentially another planet.”
Why does this situation exist? Though they are not rigorously tested in the book, Saez and Zucman have some clear ideas about what does – and does not – cause these realities. One prevalent thesis, that Americans have a libertarian streak and hate taxes, is handily discarded as inconsistent with the historical evidence going back as far as the seventeenth century.
American policy has frequently (prior to the 1970s) involved a mix of much higher tax rates on the rich, and lower rates of evasion: top marginal rates averaged 81 percent between 1944 and 1981. It follows from this that the push against taxes since the late 1970s is not rooted in immutable facts about American culture, but in political and ideological shifts. On one level, this is fairly obvious: the 1970s marked the end of the great Keynesian consensus and the post-war boom in the United States (and elsewhere), and the rise of supply-side economics and the free market free-for-all gospel of Reagan. Government was no longer the solution, but the problem.
What Saez and Zucman add to this story is more detail on the explosion of the tax avoidance industry. They also provide evidence that enforcement can work, citing the emergence and eventual banning of various schemes, such as donations to charitable trusts that in turn granted back funds to their trustees. This practice was banned in 1969, leading to an immediate drop in the setting up of such foundations, and in charitable giving by the rich.
It seems likely that the wealthy engage in Whack-a-Mole with enforcement authorities, so the shutting down of any particular scheme is ultimately inadequate, except insofar as it sends a signal. On the other hand, enforcement does matter, and we are currently witnessing its collapse, which can be seen (for example) in the massive decline in the share of large estates audited by the IRS between 1975 and 2018. When enforcement goes out of favor, evasion accelerates.
So, what is to be done? It is fair to say that Saez and Zucman think solving our tax problems is relatively straightforward, and they are dismissive of claims that a race to the bottom is inevitable in the global taxation of high income and high wealth individuals. They put enhanced corporate income taxes (with a boost from enforcement by an independent “Public Protection Bureau”) at the heart of their progressive tax reform project.
They focus on corporate tax because the authors view it as the best way to tax the wealthy, whose incomes are tied more closely to capital than labor, and because it is the evisceration of the corporate income tax over time that has contributed most to the low rates the wealthy currently pay. It is worth noting that corporate tax is a vital revenue source in developing countries, too: while the rich in low- and middle-income countries may not hold all of their wealth in forms that are susceptible to corporate tax, the share of taxes that is raised from company tax is actually higher in Africa and Latin America than in the OECD.
The authors describe four strategies for taxing corporate income. The first is remedial taxation. Saez and Zucman want countries like the United States to make tax haven strategies redundant by forcing companies located within their borders to pay a fixed rate of tax on the entirety of their profits, regardless of where they are earned. Using data that has recently become available to tax authorities about profits and taxes paid in each country where they operate, the IRS can now see how little tax is paid by a U.S.-based company like Apple, and could basically charge the difference: if the U.S. imposes a 25 percent rate, and Apple pays 5 percent in the island of Jersey, the IRS can bill Apple for the difference. This remedial tax approach can happen without any further coordination beyond data sharing. The only thing Apple can do to avoid this situation is relocate entirely to Jersey (or some other tax haven). Since most of the services and labor that a company like Apple needs to operate are not located in tax havens, this is unlikely.
However, to rule out such strategic relocation (which does happen, albeit infrequently, through what are called “inversions,” where big companies merge with foreign partners to change their nationality), the second pillar in the Saez and Zucman plan is international coordination around a minimum corporate tax that will be imposed by all countries on multinationals. This is consistent with ongoing discussions within the OECD about establishing a minimum tax rate for multinational enterprises.
The third strategy is what they call defensive taxation, but I prefer their other moniker: tax collector of last resort. In this strategy, which again requires no more coordination than already exists through country-by-country reporting, governments can charge corporations located elsewhere a minimum tax at the government’s preferred corporate rate, using the share of sales that take place in their country. Suppose Nestle, based in Switzerland, sells 20 percent of its goods in the U.S. and pays only 5 percent tax globally. And suppose that the U.S. had set a 25 percent tax on all corporate profits. It is now easy to calculate the gap between what Nestle pays and what it would pay at a 25 percent rate, and to charge Nestle 20 percent of that gap (being the amount of tax it should pay for U.S.-based sales at the U.S. rate). One attraction of this strategy is that it addresses the possibility of firms relocating outside of a country’s borders; as long as they want to sell in your country, they have to pay. Unless they can relocate their consumers, of course.
Finally, the authors want sanctions against tax havens. Sanctions on financial transactions involving tax havens have been effective in getting us to country-by-country reporting, and, the authors believe, can be used to pressure tax havens to join a global tax regime.
Taxing the income of the rich is not enough, though, because the ultra-rich do not live off income, but assets. Saez and Zucman thus also want to tax wealth. They argue that a modest wealth tax (2 percent per year on assets above $50 million, and 3 percent above $1 billion) would generate about 1 percent of U.S. GDP per year and ensure fair contribution to public coffers from the superrich.
The genius of this book is to make all of what might appear pie in the sky seem like our daily bread. The authors are economists and they are trying to push us to rethink public policy. They have chosen the right blend of data, anecdote and morality tale to make this all seem eminently reasonable and achievable.
Less clear are the politics of change. There is a lot of resort in this book to the notion that where there is a will, there is a way. This is connected to the central theme of choice, and to the various implorations that we can choose how we want to live. It is not surprising to see choice feature prominently in a book by economists, but the pride of place given to collective (political) choice and the importance of norms in this book is striking.
Much is made of the ideological shifts in the 1970s and changing beliefs about the role of corporations and the responsibilities of the rich. Like much of the book’s argument, this hinges on a division of the post-war period into two parts: the immediate post-war era (1940s to 1970s) versus that of the last thirty years. This periodization of the data then allows for a tidy comparison of tax policy and ideas before and after the post-war economic boom.
This is certainly part of the story. However, the authors’ own data seems to indicate a more complex narrative. For example, if the main driver of declining taxes on the wealthy is the ideological reversal in the 1970s, what explains the fact that taxes on capital have been declining (as their figures show) since just after the end of World War II? Their data on average taxes paid by the top 0.1% show something similar: a fairly steady decline from about 1950, with a small increase in the 1990s, punctuated by a continuing but less steep decline since then. These declines started long before the Reagan revolution, and include the so-called “trentes glorieuses,” the golden era between the mid-1940s and 1970s when the Keynesian pact was still alive and well.
I cannot explain these patterns, but they might suggest deeper structural factors at work that go beyond ideological shifts. For example, the entire post-war era, during which capital tax rates have fallen consistently, is also a period during which the share of employment in manufacturing has fallen. Perhaps the secular decline of organized labor is an important part of the story and may also relate to the way in which economic shocks in the 1970s facilitated the Reagan revolution.
Moreover, one might reasonably ask whether the authors are too sanguine about the degree to which recent global policy shifts that have yielded more tax information-sharing augur still further coordination. There seems little doubt that multinational corporations have been put on the backfoot by the financial crisis, or that states have moved to take advantage of this by pushing through tax reforms. However, power struggles between rich countries and emerging markets within the G20, populist exploitation of inequality to push still more regressive tax policies and drive wedge issues like immigration to the fore, and the seemingly ephemeral nature of citizen mobilization in the era of social media do raise questions about where the political pressure needed to push and sustain aggressive reforms will come from.
Who will form the backbone of the reform coalition in the United States? One of the last proposals in the book hints at this challenge, by suggesting that the way to increase progressive taxation is to tackle the direct link for the employed middle class between their wages and their health insurance costs. Since, the authors argue, employer-based health care is equivalent to a regressive tax on labor, there is the potential to campaign for a redistributive income tax (on all income, including labor, business and interest) at a higher rate, while reducing workers’ individual health contributions, leaving the average worker with lower taxes overall and covering more of the uninsured. All of this, including the net gain in take home pay, would be visible to salaried Americans in their paychecks. This is not in and of itself a mobilization strategy, but it points in the direction of building support for tax reform around proposals that directly touch millions of workers.
Salaried workers of the world unite… to soak the rich and cut health insurance costs while expanding access? Perhaps. As the authors say, there is a world of possibility out there. Even if this all turns out to be a bit more complicated in practice, Saez and Zucman have given us a bevy of ideas. While not all of them will apply in other countries (for example, high levels of informality in low-income countries can render enforcement more difficult, and developing countries have less market power when negotiating with companies, which complicates defensive tax strategies), they still offer a starting point for generating reform ideas that is a boon to organizations like the International Budget Partnership, that are part of a growing global civic movement for tax equity. And they are ultimately right that we must find a way to make different collective choices if we want to tame inequality and save globalization.