With a chronic budget deficit of around 6 percent of GDP, tax revenues will have to rise. It is high time that super-rich taxpayers picked up much of this cost. The top 1 percent of American households now collects around 21 percent of household income, which amounts to around 15 percent of GDP. These households pay roughly 31 percent of their income in federal taxes, so that their net-of-federal-tax income is around 10 percent of GDP. In 1970, the top 1 percent collected around 9 percent of household income, or 6 percent of GDP, and paid roughly 47 percent of that in federal taxes, for a net-of-federal-tax income of around 3.3 percent of GDP. The post-tax income of the richest 1 percent of the population has therefore increased by more than 6 percentage points of GDP since 1970.25 Most of the population has been squeezed, while the rich have enjoyed a bonanza. It’s time once again for those at the top to contribute more to solving the nation’s problems.
The first step of the solution would be to end the Bush tax cuts for households above $250,000. The top tax rate would rise from 35 to 39.6 percent. This would collect an additional 0.5 percent of GDP. That’s a necessary start but by far not sufficient to close the budget deficit. To collect even more revenue, the top rate could be lifted above 39.6 percent, as it is in many European countries.
Even without raising the top rate above 39.6 percent, however, another 0.5 percent of GDP or so could be collected by closing a series of tax loopholes that now benefit the rich. For example, capital gains are currently taxed far below regular income, and the deficit commission called for capital gains taxes to be raised to the level of regular income (albeit with a drop in the tax rate of regular income). Mortgage interest is tax-deductible even for mansions and second homes. This deduction could be restricted to a single residence, with a cap on the size of the tax-deductible mortgage. Expensive health care insurance purchased by the rich is now fully tax-deductible and should be subject to a ceiling on the tax deductibility. Hedge fund managers, some of the world’s richest people, are actually taxed at only 15 percent of their income through a loophole that is least justified of all. Congress and the president should gather the courage to tell their billionaire contributors that they too will have to pay income taxes at normal rates.
Another part of the solution might be to tax some of the massive accumulated wealth of the rich. The top 1 percent of wealth holders owns around 35 percent of the nation’s total wealth, which is roughly equal to the wealth of the bottom 90 percent of the population.26 According to the latest wealth data of the Federal Reserve Board in the Flow of Funds, the total net worth of households is around $56.8 trillion.27 The wealth of the top 1 percent is therefore around $20.6 trillion. With roughly 113 million households, the average wealth of the richest 1 percent is roughly $18.2 million per household. Suppose that we levy a tax on the net worth above $5 million per household, so that the average tax base would be roughly $13.2 million per household ($18.2 million minus $5 million), for a total tax base of $14.9 trillion. A tax of merely 1 percent on net worth above $5 million per household would therefore collect around $150 billion, or 1 percent of GDP.
The combination of higher income taxation and wealth taxation would thereby raise at least 2 percentage points of GDP from the very top earners. But even if they had to pay another 2 percent of GDP, there would certainly be no need to shed tears for the rich. Their net-of-tax income would remain around 10 percent of GDP, a share of national income two-thirds higher than the 6 percent of GDP in 1980.
There are still other approaches to raising taxes on top earners and those engaged in tax evasion. The corporate income tax is now a sieve, with so many loopholes and ways to shelter income in foreign tax havens that the tax collection has declined from around 3.5 percent of GDP in the 1960s to around 1.5 percent of GDP now. By tightening the rules on foreign income and other loopholes, it should be possible to raise another 1 percentage point of GDP. Such a tax would be borne largely by the top wealth holders, who are the predominant shareholders. Of course, the current global political dynamic is to cut corporate taxes rather than to raise them, as part of a race to the bottom being played by the leading economies, even though virtually all economies would benefit by collecting higher corporate tax payments. International coordination in corporate tax policies among the major economies (such as the G20) could therefore be a boon for all countries by enabling each country to hold the line against tax cuts made in competition with other governments.
Curbing tax evasion is another route to added revenues. In a very detailed study of 2001 tax returns, the IRS concluded that there was a “tax gap” of roughly $345 billion (implying a noncompliance rate of 16 percent of taxes owed).28 Around $55 billion of that nonpayment was clawed back by the IRS through enforcement processes, leaving a net underpayment of taxes of roughly $290 billion, equal to almost 3 percent of GDP in taxes not paid. The single greatest cause is the underreporting of personal income from business activities, especially from nonfarm proprietorships and various kinds of partnership income. Tightening tax compliance through a variety of means could likely reduce the underreporting by perhaps 0.5 to 1 percent of GDP (a not inconsiderable $75 billion to $150 billion per year).
Yet another way to raise revenues would be higher taxes on oil, gas, and coal, both to collect more revenues and to help shift energy demand to low-carbon sources for both climate and national security reasons. A rough calculation shows that a price of about $25 per ton of CO2 emitted, equivalent to roughly 2.5 cents per kilowatt-hour of electricity and 25 cents per gallon of gasoline, would collect around 1 percent of GDP in revenues per year. As I explained earlier, the fossil fuel tax could be phased in over several years, even decades, in line with the gradual transition to a low-carbon economy.
The United States is absolutely ripe for a rise in gasoline taxes. The nominal gasoline excise tax rate has been fixed at 18.4 cents per gallon since 1994.29 Inflation alone has reduced the real value of that tax per gallon by around 30 percent. As with other federal tax rates, the U.S. excise tax rate on gasoline is extremely low by international comparison. We might conservatively assume that by 2015 an extra 0.5 percent of GDP could be collected by some combination of a higher gasoline excise tax and modest carbon levies on other fossil fuels (such as on coal at the utilities).
Other possibilities include a tax on bank balance sheets (proposed by Obama but not enacted) and a tax on financial transactions. Even a tiny levy on each stock trade or foreign exchange transaction could raise tens of billions of dollars, much of which currently shows up in the gargantuan bonuses on Wall Street. New York State, for example, levies a transfer tax on the sale of stock shares of a mere $0.01 to $0.05 per share, depending on the share price. This small tax collects around $15 billion per year.30 Under the pressure of the Wall Street lobby, however, the New York State government has, since 1981, been rebating the revenues right back to the brokerage firms.
A final option, one that will likely be adopted sometime in the coming decade, is to introduce a value-added tax. The United States is the last of the high-income countries to introduce such a tax, and the absence of the VAT is the main reason why U.S. tax collections as a share of GDP are much lower than in Europe. The VAT is relatively easy to collect, creates low distortions, and raises considerable revenues. The main problem is that it is mildly regressive, meaning that it tends to collect a higher proportion of incomes of low- and middle-income households than of rich households. Even that might be acceptable and fair, however, if the tax proceeds are used overwhelmingly for the poor. Then the overall combined effect of increased taxes and spending would still be progressive on balance, that is, helping the poorest disproportionately to their income.
The upshot is the following: Perhaps 4 percent of extra GDP could be collected as of 2015 mainly by taxing the rich (2 percent), tightening corporate taxation (1 percent), strengthening tax enforcement (0.5 to 1 percent), taxing financial transactions, and taxing carbon emissions (0.5 percent). Introducing a VAT would raise even more revenues and could
be phased in over several years. The point is that there are lots of options, and most of them could be concentrated near the top of the income distribution, where they belong.
How far should we go in raising tax revenues? To balance the budget entirely, we would have to raise 6 percent of GDP, identified earlier as the financing gap. To stabilize the ratio of debt to GDP, we can afford to aim a little bit lower. Suppose that we aim to stabilize the debt-to-GDP ratio at around 60 percent of GDP, a policy that would at least keep the U.S. budget out of long-term trouble. If the GDP is itself growing by around 3 percent per year, a year-in, year-out budget deficit of 1.8 percent of GDP is consistent with a stable debt-to-GDP ratio. In other words, closing 4 of the 6 percentage points of GDP of the structural deficit would be enough to stabilize the debt-to-GDP ratio at 60 percent.
My point is not to settle the precise issues on spending and taxes, as these should be left to a far more detailed analysis by budget experts and to vigorous public deliberation and decision making. My point here is to insist that the rich should pay their way, and that they can easily afford to do so. All of the angst of canceling vital government programs to close the deficit is a charade put on by the rich for the rich. With a fair tax structure and a just contribution of the rich to the rest of society, we can afford a truly civilized America.
Let me clarify a point about this argument. Opponents of tax increases on the rich claim that the rich already pay more than their fair share. They claim that as much as half of the working population pays no federal taxes at all and that the richest 1 percent already pays 40 percent of the federal income taxes, compared with just 21 percent of pretax household income they receive. More taxation of the rich, according to these numbers, looks punitive.
These claims are not correct, however. First, almost all workers pay federal taxes, in the form of payroll taxes for Social Security and Medicare if not as federal income taxes. It is simply not correct to claim that the poor and working class escape from federal taxation. Second, the issue is not really the share of taxes paid by the rich but the level of taxation relative to income. Suppose that taxes were eliminated for everybody except the top 1 percent of households, whose taxes are reduced to just $1 per year. In this extreme (and deliberately silly) example, the rich would pay all the taxes, but we would not call their tax burden high.
To assess the burden of taxation, we should compare the taxes levied relative to income. In this regard, the income tax rates paid by the richest 1 percent have declined markedly from 1980 till now, falling from around 34.5 percent of income in 1980 to around 23.3 percent of income in 2008.31 Yes, the poorer households also received tax cuts (the average tax rate on the bottom 50 percent declined from 6.1 percent in 1980 to 2.6 percent in 2008), but against meager and stagnant incomes; the rich, on the other hand, received tax cuts against soaring incomes and ended up with a historically unprecedented share of the nation’s post-tax income.
Let me close this discussion by repeating a point that I made at the start of the book. I am not in the slightest against the accumulation of wealth, even vast wealth. I am not recommending a “class war.” There is no case for equalizing incomes through massive redistribution, and there would be a lot of grief and economic chaos if we tried. My point isn’t to bleed the rich but to call upon them to pay a decent and responsible share of the national needs. If poverty were eliminated, if all who wanted to go to college could afford to do so, if the poor lived as long as the rich, we could worry less about the responsibilities of the rich to the rest of society. We are not far away from those hallowed goals—if we invest in them. That’s the rub. We need the rich today to do their modest part to enable all of society to share in prosperity. By passing that hurdle, we would reduce the need for long-term transfers from rich to poor in the future.
The Return to Civic Responsibility
For thirty years, tax increases have been vilified and rejected at the polls. That might continue, but if so, America’s days as global leader and prosperous economy are numbered. For thirty years, almost all proposals for initiatives to upgrade the infrastructure and improve education for the poor have been crippled by inadequate budgets. Let me suggest three reasons why a new political majority might mobilize around a program of reduced deficits and increased public investment.
First, and most important, a new fiscal framework is needed to lift the United States out of its current economic crisis and its dangerously large budget deficit. Second, political support for higher taxation on the rich is stronger than it appears. Recent opinion surveys suggest a readiness of the broad public to support a rise in the tax burden on high-income households. Third, the United States may be set for a fundamental realignment of the “governing majority” on fiscal issues as a younger and more progressive generation comes to the fore of politics and as minorities (especially African Americans and Hispanics) constitute a growing proportion of the voting population.
A new governing majority will depend on two breakthroughs. The first is that voters, not big money, once again determine election outcomes. We need to break out of the money-politics-media trap. The second is that government be able to translate increased revenues into effective public services and infrastructure. We need, in short, a return to civic virtue, in which Americans recommit to contributing to the common benefit and to cooperating for mutual gain. Yet we won’t even get started if the public’s confidence in Washington remains so dreadfully low. Reform of government is a vital component of any successful economic reform. The challenge of government reform is the topic of the next chapter.
CHAPTER 12.
The Seven Habits of Highly Effective Government
We have seen that winning campaigns and holding power require money and lots of it. Turning money into power and power back into money are Washington’s two main industries. The big corporations and the politicians play the leading roles. The corporations finance the campaigns and then lobby for corporate deregulation and the contracting out of core government functions. The politicians squeeze money from the corporations in return for political services.
In 2010, the conservative members of the Supreme Court “discovered” a new constitutional right of corporations to plow their shareholders’ money into political campaigns without legal limits, special internal controls, validation by shareholders, or any obligation of disclosure, in a decision called Citizens United v. Federal Election Commission. In his dissent, Justice John Paul Stevens harshly criticized the conservative majority for ignoring common sense as well as a hundred years of settled law:
Although they make enormous contributions to our society, corporations are not actually members of it … The financial resources, legal structure, and instrumental orientation of corporations raise legitimate concerns about their role in the electoral process.1
The role of big money in politics has completely sidelined competent public administration. Government has been outsourced to private contractors, the ones who pay the campaign bills for Congress and the White House, which sign the checks for the contracts. As a result of deregulation and outsourcing of federal functions, we live through one abject failure after the next.
The list of recent government failures is long and growing. The intelligence agencies failed to anticipate 9/11. The Bush administration launched a war over Iraqi weapons of mass destruction that did not exist. The Iraq and Afghanistan occupations were totally botched, brought down by ignorance, lack of planning, and corruption of U.S. contractors. Hurricane Katrina shattered our confidence in our emergency response system. The banking crisis shattered our confidence in financial regulation. The banking bailout destroyed any remaining sense of fairness between Wall Street and Main Street. And now we face budget deficits unprecedented since World War II, but continue to grant massive tax breaks to the richest Americans.
Can government do better? Of course it can, as it does in many other parts of the world. But to do better, Americans need to be crystal clear about what is going wrong so con
sistently. I propose that the federal government adopt Seven Habits of Highly Effective Government:
Set clear goals and benchmarks.
Mobilize expertise.
Make multiyear plans.
Be mindful of the far future.
End the corporatocracy.
Restore public management.
Decentralize.
Set Clear Goals and Benchmarks
There is a lot to be said for stating our goals clearly. John F. Kennedy, one of America’s most inspiring leaders, explained it this way:
By defining our goal more clearly, by making it seem more manageable and less remote, we can help all peoples to see it, to draw hope from it, and to move irresistibly toward it.2
Great leaders set great goals. When Kennedy called for America to send a man to the moon and back within the 1960s, he gave a remarkable explanation for why he called on America to make such an arduous and challenging effort:
[W]e choose to go to the moon in this decade and do the other things, not because they are easy, but because they are hard, because that goal will serve to organize and measure the best of our energies and skills.3
America should define its long-term economic goals similarly. There is, of course, no single moon shot, no variable such as gross domestic product or the unemployment rate, that can encapsulate all of our economic aspirations, but we can effectively define the major goals of a mindful economy as I did in chapter 10, with specific targets for the year 2020. In a mindful society, such goals will be widely known, and progress toward the goals will be systematically reviewed each year in the State of the Union address and the annual budget proposal. Specific objectives are frightening to make and even harder to achieve. Yet, as Kennedy said, the aspiration to accomplish great goals helps us organize the best of our energies and skills.
The Price of Civilization Page 22
