If higher taxes on capital cause the budding investor not to start a new firm, then the capital that would have been created won’t be created. If that happens, wages won’t be as high as they would have been. Thus a tax on wealth, which, as noted, is what the proposed Biden tax really is, will hurt workers as well as investors.
A tax on wealth, moreover, has another effect that makes productivity and wages lower than otherwise: it takes wealth away from people who are using it productively and gives it to the government. So even in the highly unlikely case that the tax doesn’t reduce the incentive to create capital, it will cause the amount of capital to be less than otherwise. Less capital, once again, means that productivity will be lower and real wages will be lower than if there had been more capital.
This is from David R. Henderson, “A Tax-Based Attack on Capital and Labor,” Defining Ideas, April 14, 2022.
In it, I deal with Jason Furman’s argument for the mislabelled billionaire tax. An excerpt from that section:
Finally, argues Furman, the current system narrows the tax base and, for the government to increase taxes, it would be better to have a broader base than higher tax rates on a narrow base. But notice his implicit assumption: that the federal government should increase taxes. What about cutting spending or even just cutting the rate of growth of spending? Furman seems allergic to such an idea. In “Furman, Summers, and Taxes” (Defining Ideas, May 1, 2019), I noted how hesitant Furman and his co-author Lawrence H. Summers are to propose any cuts in government spending. And, as I noted in “Who’s Afraid of Budget Deficit? I Am” (Defining Ideas, February 20, 2019), I pointed out that Furman and Summers “assume, for every single problem they address, that the solution is more spending.”
Read the whole thing.
READER COMMENTS
Dylan
Apr 15 2022 at 12:52pm
Good piece. I don’t find the argument on double taxation convincing, just because I don’t see a clear place to draw that line, but other than that I’m pretty much entirely in agreement.
I find the problems with trying to tax unrealized gains particularly egregious, but this isn’t entirely unprecedented. Last year, a startup I’d been doing some work for didn’t have the cash to pay me, so they gave me stock in the company instead. I had to pay taxes on the fair market value of the stock on the date it was given to me, even though I have no way to sell the stock. Currently, they are fundraising and will likely raise at a lower valuation (as many startups are doing this year). I still have no way to sell my shares or collect tax back for the “overpayment” I made last year. If the company doesn’t succeed (and there’s a very good chance of that) I will have paid substantial taxes on something that had no value to me.
William Carney
Apr 15 2022 at 3:07pm
Apparently no one reads the 16th amendment, which limits Congressional power to tax incomes, which the Supreme Court has ruled requires realization of gains. In 1961 or 1962 this was a question on my tax exam at Yale. Apparently no democratic lawyer has been so well educated.
John hare
Apr 15 2022 at 4:34pm
I think one thing that would help our civilization would be a way to spread a simple meme about how investing works. Simpler than an elevator pitch and convincing. Many people seem to see the wealth as there for the taking with no real concept of what created it in the first place.
john hare
Apr 15 2022 at 5:41pm
My meaning was closer to bumper sticker expressions than an elevator pitch. Very short and to the point. As long as it is generally thought that there are no consequences for attacking the successful, it will be a popular political tool. Ways of making it less popular would affect the political value.
Tax me Gone, and my Company goes too
You really think the Government that brought you the DMV can use my money better???
I Laid You off Because the Money went to Taxes
I want to keep what I earned too
The IRS is just the bill collector, it’s congress writing the tax bill.
It can be done better than these efforts, if enough people that understand the problem give it a try.
Mark Brady
Apr 16 2022 at 1:14am
Capital accumulation does not necessarily increase the demand for labor and the wage rate.
john hare
Apr 16 2022 at 4:33am
It does in construction. The better equipment I can afford, the more profitable I can be. The more profitable I can be, the more wages I can afford. The more wages I can afford, the better position I am in to outbid the competition for employees. Outbidding the competition both in higher wages and quantity of people. Higher wages doesn’t guarantee better people, but lower wages guarantee that the better people will leave.
Truism in construction. If you think good employees are expensive, you will be shocked at how much more expensive bad employees are. Or, you are going to spend it on labor anyway, either on good employees on foremen to control the bad ones.
Some deny that there are bad employees. Theft, dishonesty, laziness, unreliable, functionally stupid**, dangerous, careless, etc, etc. Very expensive and I learned the hard way.
**One who refuses to learn or think. Probably not organically stupid, but functionally no difference on the job.
Mark Brady
Apr 16 2022 at 12:52pm
I’m not questioning your experience in the construction business. That said, my statement is correct. Capital accumulation does not necessarily increase the demand for labor and the wage rate.
john hare
Apr 16 2022 at 4:07pm
When I accumulate capital I invest it, and most businesses I know do the same. The capital invested makes my people more productive such that i can afford to pay more and hire more. I must be missing your point.
Mark Brady
Apr 16 2022 at 10:08pm
Most technological progress embodied in capital accumulation is labor augmenting. This raises the productivity of labor, and increases the demand for labor and raises the wage rate. However, it is possible for technological progress embodied in capital accumulation to be labor saving. This would lower the productivity of labor, and would reduce the demand for labor and lower the wage rate.
“Advances in technology typically raise the marginal product of labor, which in turn increases the demand for labor and shifts the labor-demand curve to the right.
“It is also possible for technological change to reduce labor demand. The invention of a cheap industrial robot, for instance, could conceivably reduce the marginal product of labor, shifting the labor-demand curve to the left. Economists call this labor-saving technological change. History suggests, however, that most technological progress is instead labor-augmenting. For example, a carpenter with a nail gun is more productive than a carpenter with only a hammer. Labor-augmenting technological advance explains persistently rising employment in the face of rising wages. Even though wages (adjusted for inflation) increased by 165 percent from 1960 to 2015, firms nonetheless more than doubled the amount of labor they employed.”
Gregory Mankiw, Principles of Microeconomics, 8th ed. (2018), 367.
John hare
Apr 17 2022 at 10:54am
@ Mark 10:08 pm
Short term I get your point. A lot of carpenters work alone with good tools rather than hassle with employees. Larger companies can sometimes cut overhead (Employees) with more efficiently and cut prices over the competition. Often though, the more efficient company gains market share and hires more.
Capital cannot rest. Dormant it loses value so it must be invested or consumed. Even Bezos with his (in my opinion) rediculous yacht doesn’t consume as much of his income as I do as a percentage.
Thomas Lee Hutcheson
Apr 16 2022 at 8:35am
Furman is right. Deficits also reduce investment and growth. So maybe the focus needs to be on identifying expenditures that have NPV’s < 0, rather than on taxes to reduce the structural deficit. Alternatively, why not suggest better, less distorting taxes than the ones under criticism. VAT to replace the wage tax? personal income taxes to replace business taxes? taxation of net emissions of CO2?
Matthias
Apr 17 2022 at 9:12pm
The canonical answer for a sensible tax is a land value tax.
Funny enough, they can be seen as a special case of a wealth tax. But a (wealth) tax on something with a fixed supply.
Property taxes are often a decent approximation.
Cobey Williamson
Apr 16 2022 at 10:55am
Your model, ignoring the fact that it is incorrect, requires that investment be made in new capital. Firms are not investing in new capital, let alone paying depreciation on current capital.
To be fair, tax increases are not going to remedy this situation, because government is not investing in structural capital either, but subsidizing consumption.
Still, flogging the dead “trickle down” horse is dishonorable at best. Throw a shovelful on its grave and let that poor beast lie.
David Henderson
Apr 16 2022 at 12:08pm
You write:
Firms often invest in new capital. Even when they don’t and simply buy existing capital, a lot of firms doing this at the same time cause the price of capital to rise, which increases the incentive to produce capital.
You write:
I didn’t say a thing about “trickle down.” A more apt term is “gush down.” And no, I’m not willing to throw out the idea that the amount of capital matters for productivity. You might try to making an argument against it rather than accusing me of dishonorable. Can you? If so, please provide one.
Jon Murphy
Apr 16 2022 at 12:43pm
Additionally, if they are buying existing capital, it means the capital is moving from a relatively less productive use to a relatively more productive use.
Jon Murphy
Apr 16 2022 at 12:42pm
Nondefense Capital Goods New Orders (excl aircraft), a measurement of new capital equipment orders by firms, are at a record high.
Ike Coffman
Apr 16 2022 at 11:32am
You said:
“A tax on wealth, moreover, has another effect that makes productivity and wages lower than otherwise: it takes wealth away from people who are using it productively and gives it to the government.”
I think this is wrong. Because I am retired and on Social Security, government is taking that money and giving it to me. That is the single most productive thing that government can do with money, and nothing else even comes close to that level of productivity. Any justification otherwise is just an exercise in abstract thought that cannot compete with the concrete reality of money in my bank account.
David Henderson
Apr 16 2022 at 12:09pm
Good one. 🙂
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