The tax reform debate today is dominated by the right-wing. The gist of the debate for the last 35 years generally start and stops with: "we need to lower taxes".
The implication is that lowering taxes is good for the economy, while progressive ideas for taxation are bad for the economy.
The only real answer of progressives these days is a weak defense of progressive income taxes.
What is left out of this debate is the lessons from the great economists of history concerning what is good for the economy. And not surprisingly, the progressive ideas for taxation are better for the economy than current conservative ideas.
Morality and taxation
One of the favorite ideas of conservatives for tax reform is a flat tax. It treats all people and all income the same.
But is that type of thinking good for society?
Consider sin taxes. Specifically taxes on cigarettes.
Sin taxes are very popular because society has decided that it doesn't want to encourage this behavior. It's a moral choice.
This is especially true for cigarettes because the smoker will ultimately develop health problems that will be a burden on society, thus they must pay for those burdens up front.
Even conservatives have no real problem with this logic. Not only is this a matter of fairness, its also a matter of morality. Sin taxes are both good politics and good economics.
But for some reason this idea of linking morality and economics never gets further than sin taxes in the current debate of tax reforms. When in fact the entire reason for the creation of the study of economics was for improving society.
Earned and Unearned Income
It isn't a controversial statement to say that our tax code should encourage productive activities that benefit both the individual and society in general, while punishing activities that have no useful value for society (just like we do with taxing cigarettes).
Given that statement, consider Adam Smith's statement about landlords:
As soon as the land of any country has all become private property, the landlords, like all other men, love to reap where they never sowed, and demand a rent even for its natural produce. The wood of the forest, the grass of the field, and all the natural fruits of the earth, which, when land was in common, cost the labourer only the trouble of gathering them, come, even to him, to have an additional price fixed upon them. He must then pay for the licence to gather them; and must give up to the landlord a portion of what his labour either collects or produces.The big landlord of Adam Smith's time was a parasite on the economy. Often he never bought the land himself, and instead inherited it from ancestors that acquired it through corruption or murder.
Now he collects unearned rents by sucking off the surplus of productive members of the economy.
Adam Smith wasn't alone. David Ricardo, John Stuart Mills, and John Maynard Keynes (who famously predicted the "euthanasia of the rentier") all had great disdain for the big landlord.
The most famous enemy of the big landlord was economist Henry George.
I asked a passing teamster, for want of something better to say, what land was worth there. He pointed to some cows grazing so far off that they looked like mice, and said, 'I don't know exactly, but there is a man over there who will sell some land for a thousand dollars an acre.' Like a flash it came over me that there was the reason of advancing poverty with advancing wealth. With the growth of population, land grows in value, and the men who work it must pay more for the privilege.George proposed making all land public property, and having a single tax on land in place of all other taxes, thus making wages and investment completely untaxed.
All the great economists had similar disdain for monopolies.
To help make a growing economy, you need to discourage the unproductive forces in the economy and encourage the productive. The most direct way of doing that is with the tax code.
So what is productive? Building things, repairing things, growing things, providing needed services. In other words - actual work. The economy doesn't progress without actual work being done.
Normally work is compensated with wages. Thus the tax burden on wages should be light.
So what is unproductive? Collecting rents on things that didn't require work to produce, monopoly pricing, and speculation.
These are things that should have a punitive tax burden.
Unfortunately, the tax code today is the opposite of economic common sense.
A capital gains tax rate (making money off money) that is lower than the earned income rate (making money off work) is just not fair. Bestowing that rate on hedge-fund managers through a specially designed loophole is just not fair. Allowing the rich to take mortgage deductions for second and third homes, or for homes worth over $1 million, is just not fair. Allowing business owners like me to take myriad deductions that our employees cannot take is just not fair. But, most of all, allowing the wealthy to pay very low tax rates while interest on the war debt accumulates, deficits continue, and middle-class incomes deteriorate is just not fair.It's not just a matter of being unfair, it's also a matter of encouraging unproductive forces in the economy while punishing productive ones. Fairness and good economics are the same in this case.
The tax rate on capital gains and dividends was recently raised to 20% on the highest tax bracket, while remaining at 15% for the middle and lowest.
Yet that 20% tax rate for collecting money without producing any actual work is still lower than the income tax rate where people sweat for a living. And who benefits from this unfair and economically backwards tax policy?
A December 29, 2012, New York Times opinion article titled "Why the Economy Needs Tax Reform" states the opposite, noting that "research shows that the [preferential capital gains] tax breaks do not add to economic growth but do contribute to inequality." The top 1 percent of taxpayers receives more than 70 percent of all capital gains, according to the Times.Adam Smith could have told you the same thing. So could have Karl Marx, David Ricardo, and John Maynard Keynes.
In fact, they did. But modern neoclassical economists from the Chicago School are deaf to the most basic and logical facts of economics.
Conservatives like to argue that taxing capital gains at a lower tax encourages investment. For some reason no one has turned that argument on its head and asked the simple question, "Shouldn't we be encouraging people to work? If so, isn't this an argument for lower taxes on wages than on speculation?"
Of course the ultimate example of unproductive income is inheritance. Tax returns from Estate Taxes has never been lower. The gift tax exemption is now equal to $5,250,000.
Taking this home
An even more controversial aspect of the tax code involves the tax break for interest payments.
Strictly speaking, this is encouraging people to stay in debt.
You may not want to hear this, but that's insane.
Throughout history debt has always been associated with slavery. No sane society wants its people in debt.
People in debt are less likely to go on strike or quite their jobs. They are also less likely to move to another part of the country for work if they are tied to a heavy mortgage, which makes a labor force less dynamic.
This doesn't just stop at mortgages. The tax code is friendly to bonds and other debt instruments. These financial instruments aren't wealth, they are a claim on the economic surplus generated by the productive parts of the economy. By encouraging the proliferation of debt, we are encouraging future debt serfdom.
The only logical reason the tax code encourages debt is because the financial industry wants it that way.
Should America encourage businesses to ship well-paying jobs overseas to out economic competitors? Of course not. That would be insane.
Yet that is exactly what the tax code does.
“Firms can generally deduct business expenses,” said Kimberly Clausing, the Thormund A. Miller and Walter Mintz Professor of Economics at Reed College. “Thus, of course, if firms incurred expenses in moving abroad, they would be able to deduct those expenses.”And once companies move those jobs overseas, they can indefinitely defer paying taxes on the profits from that overseas venture.
Wrapping this up
There are more progressive ideas out there, but I wanted to focus on just those that are good for long-term economic growth beyond question. While hiking income taxes on the upper bracket would unquestionably address the inequality issue, it is debatable whether it would help economic growth.
OTOH, hiking capital gains and estate taxes would both discourage unproductive activities while also addressing the inequality issues.
Progressives have mostly lost the debate about tax reforms because they can't see beyond the "fairness" issue. What progressives need to do is reclaim the wording of Adam Smith and the other great economists and start using the term "unearned income".
Once progressives do that, conservatives will have nothing left to debate with.