Thursday, 9 January 2014

Should we tax wealth?

The idea of taxing wealth seems to be discussed more often as government revenues drop and austerity begins to bite. Wealth taxes appear to be attractive as a way to provide public funds without causing too much economic damage; it may reduce the quantity of resources available for investment but it does not seem that much investment is being used for innovation anyway. A one-off, entirely unexpected, wealth tax would not cause any major change in economic behaviour (though a lot of discussion about it might). Most of those considering the merits of a wealth tax will think that the wealthy should have been taxed at much higher rates than they have been previously, and so a wealth tax appears attractive on many counts.

The practical case against wealth taxes is that they discourage people from investing. If people expect a wealth tax in the future they may decide simply to spend money earlier (since many wealthy people would probably choose to have something—even if it is relatively pointless—in preference to having nothing for him and more for the government). Wealth taxes cause additional uncertainty and anxiety for investors, and may result in wealthier people taking even greater care to hide their wealth than they already do. The practical arguments for the occasional wealth tax may or may not outweigh the practical arguments against, but normative issues are of course paramount.

My view is that taxes should fall where possible on the more economically fortunate and this may appear to be a good argument for wealth taxation; the wealthy are almost by definition economically fortunate. However, this is far too quick.

Some of those who are economically fortunate may not be wealthy at the time chosen for a one-off wealth tax. The economy is a dynamic thing, full of flows (transfers) as well as stocks (wealth), and many economically fortunate people will spend their large incomes quickly. Conversely, some people who are not particularly economically fortunate will have a strong preference to save, perhaps due their preferences about when they wish to spend or because they are very risk-averse. A wealth tax will fall heavily on savers and less heavily on spenders, and these categories do not necessarily match up with levels of economic fortune.

I therefore tend to oppose wealth taxes. However, I would not rule them out. If there is a crisis which means the state needs quick funds then a wealth tax may be necessary if the alternative is default. I would also suggest that they can be justified where the past economic regime has been unjust and there are costs in switching to a just regime; it seems acceptable that those who were benefiting from the past injustice should provide the revenue required for the change. Finally, very low wealth taxes can be used as a backstop where it is not possible to tax income. The idea, proposed by Deborah Schenk is to set the tax rate as a proportion of the expected return to investment. So if a 20% desired investor tax-rate were not possible and investment returns of 2% a year are expected then a wealth tax of 0.4% would provide a rough proxy.

I have presented some acceptable forms of justifications for wealth tax, but in general I am against them. People have legitimate expectations regarding their property and the state should be enabling people to make and carry out plans. It does not matter if those plans involve spending or saving. A wealth tax interferes with the plans that savers have made, making their lives harder not easier. Equally importantly, it does not reliably fall on the economically fortunate. 


Physiocrat said...

Good to see you are against it. The notion of taxing "wealth" suffers from the problem of definition. Does it include pictures on the wall, jewellery in the bedside cabinet, shares, antique furniture, land or what? Wealth, unlike land rent, is not in itself a revenue stream and can only be taxed by liquidating the entity taxed. An art work provides no income unless the owner could charge people to look at it, and you cannot cut pieces off the edge of the canvas to pay the tax!

dougbamford said...

That's a strange argument from you, Henry.

Invested wealth can be a source of revenue just as much as land can: you could rent a picture to a gallery! You could get a loan from a bank to pay a tax using the art as security/collateral.

Regarding land, someone could have land but get nothing economic from it: imagine they plan to use it themselves but end up in hospital and unable to enjoy/harvest it.

Anyway, I've got some blogs for next week on Land Value taxes that you will be interested in.

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