In social democratic quarters of American political debate, it’s common to argue that we need to impose broad-based taxes. The social democracies of Europe not only tax a greater fraction of their GDPs than the United States, but they also rely more on taxes that hit middle-class and even poor households, like a value-added tax (VAT). If you promise, as both Joe Biden and Hillary Clinton did, not to raise taxes on anyone earning less than some high-ish income threshold, you won’t be able to finance really transformative programs like Medicare For All. You can think of that in conventional terms: You can’t tax enough dollars only from the top few percent of the population to cover the cost of generous benefits for everyone. Less conventionally and more accurately, you can point out that you’d have to tax the rich much more than the cost of benefits in order to make room for the increase in demand egalitarian benefits would provoke, because the top few percent weren’t spending their marginal dollars anyway (so taxing them away doesn’t change what they spend), but benefits distributed to the non-rich will quickly be spent, either by the state as benefits provider, or by recipients of cash benefits. You can’t “finance” — in the sense of neutralizing the pressure on real resources, and then inflation and interest rates — broad based benefits without broad based taxes.

That argument is true enough. But if we’re thinking in these terms, we should think a little bit about our definition of “taxes”. To the degree our goal in taxation is to make room for noninflationary expenditure by the state, what we are really after is what old-school Keynesians called leakages. One person’s spending is another person’s income, funds move in one direction, goods and services in the other, forming the famous “circular flow” of economics. A fixed aliquot of purchasing power might turn an economy forever, with stable prices, if all income was promptly spent. But in reality there are injections and leakages. Holding constant the productive capacity of the economy, if the state spends, that adds new money chasing the same goods and services, generating inflation. To counter that injection, the state can tax, which becomes a leakage of purchasing power, stabilizing prices.

However, another source of leakage is financial saving. If a person holds cash rather than spending it into another’s income, that will be disinflationary, or even deflationary, like a tax. (Depending on our definitions this “saving” might constitute “investment” in accounting terms, but it will not contribute to demand for either capital or consumer goods in the economy.) This effect underlies the main technique we use to fine-tune inflation. When the state wants to restrain prices, it intervenes to ensures that interest rates are high for financial savers, or equivalently that opportunity costs are high for spenders, which persuades actors in the economy to save more and spend less, calming the bid for real goods and services.

If we want to finance a large benefits program but offset the pressure it puts on prices and therefore the risk of inflation, one way we can do that is to not tax at all, but raise interest rates. It’s pretty clear that this can work in the short-term, but it’s a conceptually messy business, since high interest rates are usually bundled with injections of cash (from interest payments on government debt), which might contribute to pressure on prices over a longer term. Plus, there are financial complications, as real estate and longer-term financial assets reprice with interest rates, in ways that may be distributionally unjust when rates go down and destabilizing financially should rates go up too fast.

However, holding interest rates constant, there is another regularity we should understand about financial saving: People with big incomes do lots, lots more of it than people with small incomes. If you give Jeff Bezos an additional million dollars, that results in approximately zero new direct spending on consumption or capital goods by Jeff. Instead, he’ll devote the income to purchases of financial assets like stocks and bonds. The relationship between financial asset purchases and real expenditures by issuers or sellers of those assets is weak. Jeff’s stock buys may contribute to asset price appreciation, but they don’t much inspire investments that companies otherwise wouldn’t have made. Income to Jeff is a leakage, in an old-school Keynesian sense.

What we want from taxes, if what we are interested is financing programs without putting pressure on prices, is leakage. But the money that we pay to Jeff Bezos can deliver leakage pretty much as well as money taken by the tax man. In terms of financing programs, money we pay to Jeff is a near-perfect substitute for money we pay to the state. We can finance a social democratic benefits state from broad-based formal taxation, or we can just as well finance it via broad-based rent extraction by plutocrats. Call that the American VAT.

On the face of it, the United States collects taxes equal to just under a quarter of its GDP, while social democracies like Denmark or Norway collect taxes that amount to 40% to 50% of GDP. But how much do Americans pay once the plutocracy tax is taken into account? A recent study by Carter C. Price and Kathryn A. Edwards suggests that between 1975 and 2018, the share of taxable income paid to the top 1% grew by 13 percentage points, from 8% to 22%. Treating that additional income as our plutocracy tax, and naively summing it with the overt tax share of GDP, we get a total tax share of 38%, within spitting distance of Norway.

As a quantitative exercise, this is squishy and a bit bullshit. [*] The point here is not to claim, as a function of data and evidence to which you must defer, that there surely is demand leakage due to income inequality in the United States that creates fiscal space comparable to what the Nordics’ extensive tax systems engender more overtly. I don’t think we have the means to measure that, and would take with boulders of salt any work that claimed to. I make the weaker claim that a social-democracy sized demand leakage is within the plausible range of what contemporary inequality has wrought. We can be confident there is a great deal of slack. Tolerating interest rate rises towards a “normal” 4%-ish, we might be able to fund a full social democratic benefit state in the US without imposing a penny of new middle-class taxes. We don’t need to risk a VAT (which might in practice finance replacement of the progressive income tax, rather than new benefits). We can let weathervane politicians like Joe Biden and Hillary Clinton make their sweet promises without taking them as fatal blows to social democracy. When they ask us how we mean to pay for our programs, we can say we’ve already paid Jeff Bezos, thanks. If you want the money, you can take it from him.

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There are a lot of things to hate about this political economy. Having plutocrats, rather than the state, effectively collect much of the tax base creates dormant antidemocratic quasigovernments. All those funds that the rich usually bank can, after all, be mobilized, in ways the real government, accountable however imperfectly to the broad public, would never approve. Proposals like those by Elizabeth Warren and Bernie Sanders for a high-net-worth wealth tax become essential, even though they play little role in “financing expenditure” in the sense of ensuring immediate fiscal space for government action. Over the long term, such taxes reduce the risk that ventures of the ambitious wealthy emerge at so large a scale they override the priorities of the public and force fiscal retrenchment.

Moreover, it’s not so great to have benefits dependent in some sense on continual rent extraction and upward income redistribution. I’d much rather we build a more equal society in which universal benefits are financed from overt, broad-based taxes that we are solidaristically proud to pay. But it may be that you can’t get there from here without some detours. The US mass public really is bearing the burden of a huge plutocracy tax. The dollars we are not paid by monopsony employers, the medical bills we face despite expensive “insurance” (or the care we eschew to avoid those bills), these are burdens on the American public as concrete and real as any new tax would be. A more conventional approach means layering, at least for some period, a social-democratic tax system on top of plutocratic rents an exhausted, precarious public is already supporting. It arguably makes sense to let plutocracy alone finance the benefits at first, then build out the tax side in sync with, and as a means of, tackling plutocracy, when the public understands the good things the taxes help them keep.

Whatever its role in creating fiscal space for social democracy, plutocracy ultimately has to go. In basic economic terms, it is too inefficient compared to straight-up taxation. We worry with income taxes about deadweight costs due to a supposed dampening of incentives to produce. Plutocracy provokes direct incentives to restrain production, because the rents upon which it relies are extracted at bottlenecks, where high prices can be demanded of customers or low prices can be imposed upon suppliers. Insufficient housing production supports real estate assets writ large. Consolidation of hospitals into chains, patent monopolies, and too few doctors all keep medicine lucrative by restricting supply. From chicken farmers to call centers, consolidated buyers impose low prices and terrible conditions on suppliers and workers, “earning” rents that textbooks say should be competed away by new entrants offering better terms.

Efficiency demands either robust competition or public options in order to vouchsafe price-elastic supply of goods and services throughout the economy. But in order to get there from here, we need a muscular, popular state. Plutocracy sews the seeds of its own destruction by creating fiscal space to build one through the very rents that it extracts. Let’s water the fields. ■

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Update: Matt Bruenig points out that Norway is a bad comparator for the tax burden of a social democratic welfare state, because Norway’s government collects a great deal of nontax revenue from state-owned enterprises and sovereign wealth funds. This doesn’t much affect the point that its existing “plutocracy tax” could put the US pretty close to contemporary social democracies: Rather than “spitting distance of Norway” (2019 tax/gdp of 39.9%), I might have described 38% as not far from Finland (2019 tax/gdp 42.2%), and more than Iceland (36.1%). It also underscores the core point: there’s nothing special about taxes. To the degree Norway’s state-owned enterprises earn profits from Norway’s public that are then reinvested via social wealth funds in global portfolio assets, that is disinflationary in exactly the same way that private profits almost reinvested in global portfolio assets would be, creating space for (inflationary) social-democratic benefits provision. State ownership of those assets is decidedly better, from a social-democratic perspective, because it avoids both the political and fiscal risks that attend the private sector’s capacity to mobilize dormant wealth in ways that might threaten public goals going forward. But so long as it is not so mobilized (and not thought likely by financial market participants to be so mobilized), the profits extracted create fiscal space, regardless of who holds the resulting paper. The Norwegian state also earns profits from hydrocarbon sales to foreigners, which is disinflationary compared to letting hydrocarbon revenues become private sector domestic income to not only the wealthiest people (the cause of “Dutch Disease”), and by making it easier for Norway to support the exchange rate of its Krone and so restrain import prices.

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This entry was posted on Thursday, August 19th, 2021 at 12:41 pm PDT.
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