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Addicted to the Devil

from Thomas Donlan at Barron’s, What Went Wrong in Kansas

Americans want government like they want services generally: “faster, better, and cheaper.” But economists know there’s a problem: The optimistic ones say, “Pick any two”; the pessimists say, “Choose one.”

Too many Democrats, however, pick all three and say they will squeeze more taxes out of the rich to pay for it. Sorry, even in this new gilded age, there aren’t enough rich people to pay for national health care, let alone the rest of the party’s wish list—bridges, roads, rail lines, broad band internet, and most recently, a national drive to cure opioid drug addiction.

Meanwhile, too many Republicans pick all three and say they will pay for it with economic growth. Sorry, Americans have enjoyed more economic growth in the past 228 years than any other big nation on Earth; there’s little that any government can do to push it along against the power of the law of diminishing returns. The results of even the best imaginable policies will come too slowly to satisfy most Americans.

Tax cuts can work to stimulate growth, but not everywhere, not every time. Kansas had and has a lot more problems than its tax cuts.

Letters to the editor on that article the following week:

Growing up in the 1980s, I felt that President Ronald Reagan’s policies were the great impetus for the ensuing growth. I still feel that freedom and low taxes are the root of growth, especially when that growth has been fettered by regulation and discouraged by high taxes for a long period. But I now think that the great growth we saw was as much a result of the baby boomers working through the system as the policies and tax cuts.

The baby boomers were starting to come into their own in the ’80s and making their mark on the economy, creating that tremendous growth. And I think that easily carried into the 1990s. Now, as time marches on and we’re nearing eight years of slower growth, I partially attribute that to slower population growth, as much as to the stifling effects of higher taxes and greater regulation.

So can we count on growth to save us? I don’t think so, and that means we have to do the hard work of cutting government expenses, because the money simply won’t be there to pay for larger and larger government in the future. The rich don’t have enough money to pay the bill, even if you taxed them at 100%, so either you start taxing the poor more or cut expenses.

HKO

The left is in a quandary.  Without generating growth the welfare state must shrink.  This growth may come from a business friendly environment or population growth, both of which are contrary to the policies of the left.  They have demonized the main source of support for the welfare state and now they are addicted to the devil.

Tax Psychotherapy

Another gem  from Kevin Williamson at National Review, Bad Medicine on ‘Carried Interest’

Nobody in Washington wants to face that particular angry mob of IRA investors with torches and pitchforks. What we are talking about is singling out a particular class of businessmen for punitive tax treatment because we resent how much money some of them make, and because what they do seems like voodoo to people who do not understand it.

As a matter of policy, changing the tax treatment of private-equity income would not raise a great deal of tax revenue relative to federal spending and liabilities, and it probably would not have as much of a flattening effect as our class warriors hope. For one thing, if we convert those investment managers’ income to salaries and bonuses, then the firms that employ them are going to deduct those salaries and bonuses as ordinary business expenses, which they would be entitled to do. For another, investors will respond to economic incentives. The people who run these kinds of businesses are pretty clever about moving money around. The gentlemen in Congress are not going to outsmart them.

The broader discussion about taxes and fairness and — odious phrase — “social justice” is a waste of time. Taxes are not an instrument of justice: They are an instrument of revenue. The federal government requires x dollars to do the things we demand of it, and the only end of tax policy should be raising those dollars in a way that causes as little economic disruption as possible and invades our privacy as little as possible. At the moment, our model is lots of disruption and maximal invasion of privacy — and all of it handled by the incompetent, corrupt, politicized agents of the Internal Revenue Service.

Those are the tax-code problems we should be addressing. Instead, we are addressing some unhappy Americans’ envy and resentment. That isn’t tax policy — it’s psychotherapy.

HKO

I confess to falling for the appeal of the ‘carried interest’ loophole canard. Given the lower rate, a businessman or investor will certainly overweight capital gains over earned income if he has the opportunity.  The lower rate is reflective of the risk.  Warren Buffet only draws a salary of $150,000. That is not how he became one of the wealthiest men in America.

Like so many solutions to unfairness and social justice, the cure stands a good chance of being worse than the disease.  Hillary complained about the short term thinking of American business. Her solution was a six tiered capital gains system that was the worse part of her awful economic plan. The greatest harm in short term thinking is from legislators who voice another change in tax policy whenever they walk past a microphone. The ink is still wet on the last tax increase when hear a new speech of how the the rich are not paying their fair share.  Who would invest in such a environment?

The economy and financial community is a very dynamic system and constantly adjusts to conditions much faster than any social justice legislator can match. Caps on executive pay led to stock options that made executives richer.  The Sarbanes Oxley Act passed in the shadows of the Enron scandal discouraged companies from going public and created opportunities for private equity, that now the ‘carried interest’ demonizers wish to address.

Regulators are often tasked to solve a problem created by the last round of regulations.  New sources of wealth and unfairness are often generated by the previous attempt to equalize them in a previous form.

Great kudos for Kevin for shedding light on this ruse in a way that few other media sources even attempt.

A Better Way to Tax the Rich

Some advice for the new president from economist John Cochrane in the Wall Street Journal, Don’t Believe the Economic Pessimists:

The ideal tax system raises revenue for the government while distorting economic decisions as little as possible. A pure tax on consumption, with no corporate, income, estate, or other taxes is pretty close to that ideal.

The U.S. tax system is the opposite: By exempting lots of income, the government raises relatively little money. Yet an extra dollar is heavily taxed, greatly lowering incentives and encouraging people to find or create exemptions. This massive complexity and obscurity undermine faith in the system.

Progressives, ponder this: With a sales tax of only 25%, the government would likely have gotten a lot more money from Donald Trump—who has employed complex but legal tax-avoidance schemes—than it did by purporting to tax income at high rates.

The Cost of a High Estate Tax

From The NYT and economist Greg Mankiw,  Why Taxing Fairly Means Not Taxing Inheritances:

Excerpt:

But there is one thing that everyone can agree on: The estate tax you owe should not depend substantially on the exact moment you happen to expire. A person who died in 2010 paid no estate tax, no matter how wealthy he or she was. A year earlier or later, things would have been very different.

To avoid this particular unfairness, we need more stability in the tax code than we have had in the past. This stability is possible only if those with opposing points of view reach a compromise that, while not perfect from either perspective, is acceptable enough for everyone to live with. Neither Mrs. Clinton’s proposal of 45 percent nor Mr. Trump’s proposal of zero passes this test.

International comparisons are a natural benchmark. Over all, the United States is a low-tax country compared with many of our developed-nation peers. But that is not true when it comes to the estate tax.

Many countries do not tax inheritance at all, including Australia, Canada and Sweden. Most do, but the tax rates are usually much lower than what we impose in the United States. Among the nations in the Organization for Economic Cooperation and Development, the average for the top estate tax rate is 15 percent. The median is only 7 percent, which is the rate in Switzerland.

If the United States were ever to adopt such a low estate tax rate, it would surely put a lot of the estate planning industry out of business. Hiring expensive legal talent may make sense when the rate is 40 or 45 percent, but not when it is 7 or 15 percent. Yet that would be a good thing. The time those lawyers spend helping the rich skirt the estate tax is, from an economic standpoint, pure waste.

HKO

Consistency is important. While the estate tax only affects a relative few, it has far greater impact on the decisions that affect investment and economic growth.

 

Violating Horizontal Equity

From The NYT and economist Greg Mankiw,  Why Taxing Fairly Means Not Taxing Inheritances:

Excerpt:

From my perspective, the estate tax is a bad way to tax the rich because it violates a principle that economists call horizontal equity. The basic idea is that similar people should face similar tax burdens.

Consider the story of two couples. Both start family businesses when they are young. They work hard, and their businesses prosper beyond anything they expected. When they reach retirement age, both couples sell their businesses. After paying taxes on the sale, they are each left with a sizable nest egg of, say, $20 million, which they plan to enjoy during their golden years.

Then the stories diverge. One couple, whom I’ll call the Frugals, live modestly. Mr. and Mrs. Frugal don’t scrimp, but they watch their spending. They recognize how lucky they have been, and they want to share their success with their children, grandchildren, nephews and nieces.

The other couple, whom I’ll call the Profligates, have a different view of their wealth. They earned it, and they want to enjoy every penny of it themselves. Mr. and Mrs. Profligate eat at top restaurants, drink rare wines, drive flashy cars and maintain several homes. They spend their time sailing the Caribbean in their opulent yacht and flying their private jet from one luxury resort to the next.

So here’s the question: How should the tax burdens of the two couples compare? Under an income tax, the couples would pay the same, because they earned the same income. Under a consumption tax, Mr. and Mrs. Profligate would pay more because of their lavish living (though the Frugals’ descendants would also pay when they spend their inheritance). But under our current system, which combines an income tax and an estate tax, the Frugal family has the higher tax burden. To me, this does not seem right.

HKO

The estate tax encourage conspicuous consumption, and discourages long term thinking and investment. Redistribution of inherited wealth seems to take care of itself.