By Fred Foldvary
Two economists at the University of California at Berkeley, Emmanuel Saez and Gabriel Zucman, have written a book, The Triumph of Injustice: How the Rich Dodge Taxes and How to Make Them Pay. A review by William G. Gale in the Brookings web site (Oct. 23, 2019) is titled “Saez and Zucman say that everything you thought you knew about tax policy is wrong.” Saez and Zucman also wrote an op-ed in the New York Times, Oct. 11, 2019, titled “How to Tax Our Way Back to Justice”. It is subtitled “It is absurd that the working class is now paying higher tax rates than the richest people in America.”
The authors calculated how tax burdens are distributed among income categories. They pointed out that the United States tax system is a regressive one, if we compare the richest 400 adults to the total tax rates paid by low-income wage earners, despite the progressive graduated income-tax rates. One third of all taxes is paid to state and local governments, and sales taxes are especially regressive, taxing the poor proportionately higher. Lower-income families also pay substantial amounts of payroll taxes.
Saez and Zucman helped to craft presidential candidate Elizabeth Warren’s proposed tax on wealth. They argue that tax flight and avoidance can be dealt with by taxing companies headquartered in the United States on their less-taxed income abroad. The United States could also tax foreign companies’ sales in the United States.
But such analysis overlooks the theory of optimal public finance. One foundation of economic analysis is the “law of demand.” Higher costs and lower gains reduce the quantities of goods produced and bought. The three ways that quantities are reduced: the taxed items can shrink, hide, or flee.
A global approach to taxation, taxing everything that moves, world-wide, will indeed reduce flight. But the other two means of quantity reduction still occur. Production and employment will lessen, as the higher-cost enterprises shut down. And economic activity will hide, will go underground, as indeed already happens throughout much of the world. Moreover, if the US government taxes everything related to the USA, there will be a high demand for tax havens. Companies and their jobs will flee, and their sales to the USA will shrink or hide. High taxes reduce entrepreneurship and they reduce honesty, as tax cheaters gain and honest payers lose.
In his book review, Gale writes that Saez and Zucman “challenge seemingly every fundamental element of conventional tax policy analysis.” Yes, they do calculate taxes in ways different from mainstream and official methods, but they do not challenge the law of demand.
Therefore the analysis of Saez and Zucman is not radical, in the sense of going to the root of the economic, ethical, and governance aspects of taxation. The principle of optimal public finance policy was set forth by Frank Ramsey, and is named the Ramsey Rule: tax first the items that are the least elastic in supply or demand. Thus, tax first the items which do not flee, shrink, or flee at all.
One item with an inelastic demand that is urgently needed is life-saving medicine, and it would be immoral to tax-punish sick people facing death. The moral alternative is thus on the supply side. The American economist Henry George identified the supply which could be taxed without economic damage: land value or land rent. Tax land, and it will not flee. Land also does not shrink when taxed.
And land cannot hide. The landowner can hide the title, but that does not matter. The tax bill is sent to whomever possesses the title. The landowner also cannot hide the amount of land value, as its market value is not dependent on his private calculation but is calculated by professional real estate assessors and appraisers.
So a tax on land value cannot be dodged, and that solves one of the problems raised by Saez and Zucman. What about the problem of inequality? Most of the land value is owned by the rich, including corporate land owned by shareholders. The ownership of real estate is highly correlated with wealth and income.
What about the problem of justice? Much of the value of land comes from the public goods provided by government, paid for with taxes on goods and labor. Worker-tenants get double billed, paying both taxes and higher rent, while landowners get the subsidy of higher property value. How is this just? The remedy is to not tax labor and instead to only tax land.
How much revenue could a land-value tax obtain? A good indicator is by comparison with Australia. There, the calculation is that land rent is one-third of national income. (See The Taxable Capacity of Australian Land and Resources by Terry Dwyer.) With ten times the population density, land rent should be at least that portion in the USA, or about $7 trillion per year. And if other taxes are eliminated, the rent would increase much more. How much? Nobody knows, but economist Mason Gaffney has shown that there would be a “quantum leap” of greater production and therefore that much more land rent.
So, is everything you knew about taxes wrong? That seems to apply to economists who fail to take economic logic to its ultimate public-finance Ramsey-George conclusion: don’t tax anything that moves. Tax what cannot flee, shrink, or hide, namely, land.