This is the second post in my series on the policies of the allegedly “radical” candidates for leadership of their respective countries, Bernie Sanders of the United States and Jeremy Corbyn of the United Kingdom. In this post, we discuss progressive tax reform. Progressive tax reform – a term I’m using to refer to the reform of taxes which tend to target the wealthy – has been targeted by both Sanders and Corbyn. Corbyn, being quite some time out from an election, has been thus far somewhat vague on the issue of taxes as such, but has indicated that a more progressive tax system is needed in the UK, and has targeted corporate taxes and tax avoidance as being of particular importance.[i] Sanders, being in the midst of a campaign for the Democratic presidential nomination, has given a more detailed view of his tax reform.[ii] This includes, among other measures, raising the top income tax rate, raising the corporate tax rate, reforms to capital gains tax, and the imposition of a tax on financial transactions. These kinds of measures have the potential benefit not only of reducing the exorbitant inequality which has emerged over the past four decades in particular, but of making the government more able to do its work in a sustainable manner without crimping anyone’s lifestyle too much.
Senator Sanders’ plan ceases the favorable treatment given to capital gains tax for households with annual incomes over $250,000, which, according to Sanders, applies to only around 2 percent of households. This may have benefits beyond making the budget more sustainable through progressive taxation. Because capital gains tax does not apply to operational “profits” as such but to asset price appreciation and the buying and selling of shares, ending the favorable treatment given to capital gains is also likely to play some role in curbing the kind of speculation on stock prices which can be destabilizing to capitalism and leads to economic crises such as the one which began around 2008,[xii] without directly impinging on the actual profitability and viability of companies.
This notion of curbing excessive speculation is also embodied in a tax on financial transactions, also known as a “Tobin tax” or “Robin Hood tax”.[xiii] This is a very small tax on transactions involving the trading of securities such as stocks and bonds. According to Sanders:
“This proposal would not tax investors, retirees, or parents saving to send their kids to college. Instead, it would impose a tax on Wall Street investment houses, hedge funds, and other speculators. If those Wall Street investment houses chose to pass the tax along to investors, this plan would provide a tax credit to individuals making under $50,000 and couples making under $75,000 to ensure that they would not be impacted.
Under this proposal, trades would be taxed at a rate of 0.5 percent for stocks, 0.1 percent for bonds, and 0.005 percent for derivatives. This means, for example, that a trade of $1,000 in stocks would be subject to a tax of $5. A trade of $1,000 in swaps or other derivatives would be subject to a tax of five cents.”[xiv]
Obviously the tax is tiny, but Wall Street won’t be happy. Right now, Wall Street makes a substantial amount of money from high-frequency trading; essentially making money from very small changes in stock prices over short periods of time. It is essentially trumped-up gambling, and it does little to support actual investment in organizations. The famous economist, John Major Keynes, once remarked, “When the capital development of a country becomes a by-product of the activities of a casino, the job is likely to be ill-done.” This tax not only raises revenue, but also limits the profits to be made from such small changes in the market.
Senator Sanders’ changes to the top income tax rates are extraordinarily well-targeted, not only at the top 1 percent of income earners, but at that smaller 0.1 percent which reaps disproportionate gains even among top income earners. As quoted on his website, the changes to the income tax rate would involve:
- 37% on income between $250,000 and $500,000.
- 43% on income between $500,000 and $2 million.
- 48% on income between $2 million and $10 million. (In 2013, only 113,000 households, just 0.08 percent of all taxpayers, had income between $2 million and $10 million.)
- 52% on income of $10 million and above. (In 2013, only 13,000 households, just 0.01 percent of taxpayers, had income exceeding $10 million.)
There is also a 10 percent “surtax” on a mere 530 billionaires. When we look at all of the factors, including those historical rates, these increases are extraordinarily modest. As I’ll discuss below, they would not bring the top rates anywhere near what they were up until the 1980s.
These kinds of progressive tax changes have particular relevance to the UK and particularly the US, due to the huge growth in inequality in these countries over the past 40 years or so. That this growth is happening is largely undisputed, but it is worth delving into just how much inequality has increased, and how disproportionately a small proportion of people have benefited from economic growth over this time. For instance, the income share of the top 10 percent and infamous top 1 percent of income earners has risen to levels not seen since the Great Depression. In the US, for instance, the share held by the top 10 percent of income earners rose from 32.6 percent in 1970 to 49.7 percent in 2007.
Interestingly, inequality within the top 10 percent has grown. In 1975-76, the top 1 percent’s share of the income of the top 10 percent was 26.5 percent; in 2007 the top 1 percent held 47.2 percent of the income of the top 10 percent. In relation to the rest of the population this means the top 1 percent’s share grew from a low of 8.9 percent in 1975-76 to peak at 23.5 percent in 2007.
Inequality within the top 1 percent has also grown. In 1975, the share of the top 0.1 percent was 2.6 percent of all income; in 2007 this rose to 12.7 percent. In this year, the share of the top 1 percent of income held by the top 0.1 percent was a massive 52.3 percent, up from 28.9 percent in 1975.
Even among the very rich, a small proportion of super-rich disproportionately reap gains. The system is increasingly winner take all.
Figure 1: Income share of the top 10%, top 1% and top 0.1% of income earners, USA, 1945-2010 [iii]
This reverses a trend which prevailed for much of the 20th century. Prior to this, the story in the wake of the Great Depression had been one of rising equality, and a declining share for the 10 percent and 1 percent. The share of the top 10 percent declined from its high of 49.3 percent in 1928 (effectively the eve of the Great Depression) to stabilize at around 30-35 percent from the 1950s-1970s. The share of the top 1 percent declined from a high of 23.9 percent in 1928 to stabilize at around 10 percent from the 1950s-1970s. For the 0.1 percent, the decline was from 11.5 percent in 1928 to 2.6 percent in 1975. As Figure 2 shows, the distribution also became more equal within the top 10 percent. In 1928, the top 1 percent had 48.6 percent of the income of the top 10 percent, this reached a low of 26.5 percent in 1975-76.
Figure 2: Income share of the top 10% and top 1% of income earners, USA, 1910-1980 [iv]
Some would have us believe that the growth in inequality is justified because it is a result of the skill and entrepreneurship of the top earners and changes in skills, technology, and globalization over time. It is possible that that’s part of the picture, but it is far from complete. Executives, for instance, make up about 60 percent of 1 Percenters and their pay has grown much faster than average or median wages since the 1970s. Yet, there is limited evidence that executive pay rewards the best performance. In fact, some studies find the opposite: that executive pay may be negatively tied to performance.[v] Nor are wall street financiers somehow magically skilled. At least one study found that their performance and pay is essentially pot luck; while a range of studies have shown that active management of investment by Wall Street stock brokers doesn’t improve performance.[vi]
The “skills”, “technological change”, and “globalization” explanation suffers from another important limitation. It doesn’t explain, for instance, why the growth of inequality in the United States has been so much more pronounced than in other parts of the world. In Japan, for instance, the growth of the share of the 1 Percent has been more muted: the rate was 6.8 percent for 1976-77, and 9.7 percent in 2008. In Denmark, the share of the top 1 percent has stayed between 5 and 6.5 percent since the 80s; and Piketty’s data indicates that this is lower than in years prior. Even in the English speaking world, Australia’s growth in the 1 percent share has been much lower – from a low of 4.7 percent in 1982 to a high of 10.1 percent in 2006. The peak shares of the 1 percent in all of these countries were exceeded by the peak share of just the top 0.1 percent in the USA![vii] These rather different experiences would seem to indicate that institutions and policies – not just “skills” – matter for explaining inequality.
Figure 3: Shares of top 1% of income, Japan, Denmark, Australia, and USA; and top 0.1% in USA, 1974-2009
So what does explain the explosion of inequality in the USA especially? Well, there are a range of factors. Some studies link rising inequality to declines in the power of workers, including the decline in union power and membership[viii]; and there is some fairly some compelling data showing this correlation. The decline in union power has been especially acute in the US. Meanwhile, executives have increased their power to facilitate increased compensation. The increase in an emphasis on “incentive” pay has ironically been exploited by CEOs to reduce their downside risk. CEOs who perform poorly rarely experience severe negative consequences, particularly in the long term, a kind of “heads I win, tails you lose” situation. CEOs use their positions, connections, and control over resources to facilitate their own pay rises, while also lobbying for favorable changes to the regulatory environment.[ix]
The process of financialization and the neoliberal emphasis on intensified competition also played a role. Since the 1970s, the increased power of Wall Street squeezed profits and fostered short-termism among non-financial firms who provide the bulk of jobs. The latter in turn found themselves under pressure from Wall Street to shed jobs and squeeze wages, even as Wall Street financiers found their incomes sky rocketing. While the financial sector is essentially meant to be a support mechanism for the rest of the capitalist system, it has since come to cannibalize “main street”. Meanwhile, the pay of 1 Percenters has been closely tied to stock market buoyancy and capital gains facilitated by this process of financialization.[x] This process has of course been exacerbated by the retreat of the public sector and the traditionally high quality jobs provided by governments, partly in response to pressure well-funded corporate lobby groups to privatize, marketize, and deregulate.
In the US particularly, changes in tax rates have also played a significant role. The top tax rate in the US was 91 percent from the mid-1940s to the early 1960s, and was still at 70 percent as late as 1981. It has been less than 40 percent since 1987; and was at 35 percent from 2003-2011 before being increased back to 39.6 percent under the Obama administration. Capital gains taxes are also particularly important for top income earners, as they account for by far the majority of capital gains. The capital gains tax rate was as high as 39 percent from 1976-1978; but was at 15 percent 2003-2012; though it was increased to 20 percent for top income earners in 2013. These changes in the top tax rates not only affect after-tax income but before-tax income through capital wealth accumulation over time and what researchers Thomas W. Volscho and Nathan J. Kelly call “market conditioning”. Top income earners have, of course, played an important role in lobbying for reduced taxes on their incomes.[xi]
So, Sanders’ tax program has the potential to reduce excessive inequality, while raising revenue to spend on useful stuff like infrastructure, unemployment insurance, and health care. It has the added benefit of potentially making some contribution to reducing instability and “financialization” (the growth in the relative importance of finance and the financial sector). Meanwhile, there’s really no reason to believe that this is going to remove the impetus to perform or increase skills. As seen above, Senator Sanders’ changes are far from radical by historical standards –they don’t bring top tax rates to what they were even at the beginning of the Reagan era. Everybody wins, except for the very richest in America, who lose a little bit – but let’s face it, they can afford it.
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[i] Corbyn’s current positions are set out in ‘The Economy in 2020’, available from http://www.jeremyforlabour.com/investment_growth_and_tax_justice
See also Volscho, T. W., & Kelly, N. J. (2012). ‘The rise of the super-rich power resources, taxes, financial markets, and the dynamics of the top 1 percent, 1949 to 2008’ American Sociological Review, 77(5), 679-699. The article seems to be available for free download at web.utk.edu/~nkelly/papers/inequality/TopShares1.pdf See also Peetz, D. and Murray, G. (2014) ‘Plutonomy and the One Percent’, in S.K. Schroeder and L. Chester (eds.) Challenging the Orthodoxy: Reflections on Frank Stilwell’s Contribution to Political Economy, Springer-Verlag, Heidelberg: 129-148. Peetz and Murray give slightly lower estimates, of an increase from around 8 percent to around 18 percent for the 1 percent.
[iv] See note iii above.
[v] See for example Peetz and Murray above at iii, see also Bivens, J. and Mishel, L. (2013) ‘The Pay of Top Executives as Evidence of Rents in the Top 1 Percent Incomes’, Journal of Economic Perspectives, 27(3): 57-78; Fahlenbrach, R., & Stulz, R. M. (2011). Bank CEO incentives and the credit crisis. Journal of Financial Economics, 99(1), 11-26; Gregory-Smith, I. and Main, B.G. (2015) ‘Heads I win, tails you lose? A career analysis of executive pay and corporate performance’, Cambridge Journal of Economics, 39: 1373-1398; Peetz, D. (2015). An institutional analysis of the growth of executive remuneration. Journal of Industrial Relations, 57(5), 707-725.
[vi] See again Peetz and Murray for an overview of the evidence; see also Bakja, K., Cole, A. and Heim, B.T. (2010) ‘Jobs and Income Growth of Top Earners and the Causes of Changing Income Inequality: Evidence from U.S. Tax Return Data’, Unpublished manuscript, Williams College, available at http://piketty.pse.ens.fr/files/Bakijaetal2010.pdf This found that the performance of the stock market as a whole was a principle determinant of the earnings of top earners.
[vii] See Piketty data cited above at iii.
[viii] See Peetz and Murray at v above; Bivens and Mishel at v above; Van Arnum, B.M. and Naples, M.I. (2013) ‘Financialization and Income Inequality in the United States, 1967-2010’, American Journal of Economics and Sociology, 72(5): 1158-1182; Volscho and Kelly at iii above
[ix] See for example Gregory-Smith and Main at iii above; Peetz 2015 at v above; Volscho and Kelly at iii above
[x] Se Volscho and Kelly at iii above; Bivens and Mishel at v above; Van Arnum and Naples at viii above
[xi] See Volscho and Kelly at iii above; Bakja, Cole and Heim at vi above; Bivens and Misel at v above; for historical rates see https://en.wikipedia.org/wiki/Income_tax_in_the_United_States#History_of_top_rates and https://en.wikipedia.org/wiki/Capital_gains_tax_in_the_United_States
[xii] See Steve Keen (2011) Debunking Economics: The Naked Emperor Dethroned?, Zed Books, London for the word on the causes of crises through speculation. Keen draws heavily on the theories of Hyman Minsky and John Maynard Keynes.
[xiii] For overviews of the ideas behind the tax see http://www.nytimes.com/2015/07/22/opinion/the-case-for-a-tax-on-financial-transactions.html?_r=0 https://en.wikipedia.org/wiki/Tobin_tax http://www.robinhoodtax.org/how-it-works
[xiv] See note ii above