Thursday, October 11, 2007

We have forgotten that the earth is not flat

Earlier this year, the U.S. Republican Candidate John McCain repeated a curious myth, often repeated in U.S. political debate. “Tax cuts, starting with Kennedy, as we all know, increase revenues.” As the New York Times op-ed contributor Jonathan Chait remarked, it was the political equivalent of Galileo conceding that the Sun does indeed revolve around the Earth. Chait continued:

Mr. McCain is not alone. Every major Republican contender — Rudy Giuliani, Fred Thompson, Mitt Romney — has said that the Bush tax cuts have caused government revenues to rise. No prominent Republican office-seeker dare challenge this dogma for fear of offending the economic far right. Yet there is no more debate about this question among economists than there is debate about the existence of evolution among biologists.

Most economists believe that it is theoretically possible for tax rates to be high enough that a reduction in rates could actually produce more revenues. But I do not know of any tenured economist in the United States who believes this is true of the Bush tax cuts. Granted, economic growth sometimes causes revenues to rise faster than expected after a tax cut, as has happened since the 2003 tax cut. But sometimes revenues fall faster than expected after a tax cut, as they did after the 2001 tax cut. And sometimes revenues rise faster than expected after a tax increase, as they did after the 1993 Clinton tax increase.

Even very conservative economists who have worked for the Bush administration — including Greg Mankiw, a former chairman of the Council of Economic Advisers under President Bush who is now an adviser to Mr. Romney — have publicly stated that today’s tax revenues would be even higher were it not for the Bush tax cuts.

It’s not fair only to blame the Republicans. Earlier this week, Harry Reid, the Senate majority leader and a democrat, was lambasted in the New York Times for appearing to let a proposal to increase taxes on wealthy private equity partners fizzle. Nevertheless, two Democratic presidential aspirants, Barack Obama and John Edwards, did complain.

"If there was ever a doubt that Washington lobbyists don't actually represent real Americans, it's the fact that they stopped leaders of both parties from requiring elite investment firms to pay their fair share of taxes," Obama said. As president, he said, he would "close tax loopholes for big corporations, provide 90 percent of working Americans with a tax cut, and pass the strongest lobbying reform in history."

Edwards, a former North Carolina senator, said lobbyists wield "terrible power . . . to stop real reform . . . incredibly, for an investment of about $6 million in lobbying fees -- and another $6 million in political contributions -- these elite Wall Street traders preserved a $6 billion tax break for themselves," Edward said in a statement. "America needs a leader who will stand up to these powerful interests. ... We can't just trade corporate Republicans for corporate Democrats. We have to end the rigged system in Washington," he said.

Those of us who have long experience in some of the world's less successful economies - Nigeria would be a good example -- are well aware of the appalling effects that tax and other lobbying by powerful interests can have, not just on poverty and inequality, but on democracy, and ultimately on economic growth.

The disappointment in America comes at almost exactly the time as the British government has announced measures to increase taxes on private equity (but not by a whole lot.)

What has happened is that so many of us have forgotten why taxes matter. As Polly Toynbee remarks in the Guardian about the policies of Prime Minister Gordon Brown,

It will take hard work to remind people what tax is for, why it is a public good and not a burden, how it is the agent of social justice. Those ideas have been allowed to atrophy in the last decade. Labour has redistributed more than any government to the poor, at least slowing the rate of increase in inequality - but by never framing the argument in ideological terms, a generation has never heard how inheritance tax helped shape social progress in the last 100 years.

Inheritance tax -- another political hot potato in Britain now as the Labour government seeks to head off attacks by a rejuvenated Conservative Party, is a classic case of this myopia. In a truly excellent article in the New Statesman, the political philosopher Martin O'Neill explains why we should stop worrying and learn to love inheritance tax.

Just like the Democrats in the US, the Labour Party has tended to be somewhat defensive when reacting to proposals to abolish or reduce IHT. Rather than simply emphasizing that not all that many people pay IHT, Labour should be trying the difficult task of transforming public opinion on the issue.

Teddy Roosevelt took the view that “The man of great wealth owes a peculiar obligation to the State, because he derives special advantages from the mere existence of government.” There would be no good in being wealthy if one could not enjoy stable property rights, the protection of the police, and the peace of a well-defended country, all of which need to be paid for. This sort of reciprocity argument is also made by Bill Gates, Sr., father of the Bill Gates of Microsoft, in his book Wealth and Our Commonwealth: Why America Should Tax Accumulated Fortunes. This sort of argument can get broad purchase with those of every political stripe, as is demonstrated by the fact that Roosevelt and Gates are hardly “soak the rich” firebrands or loonie lefties.

When one looks clearly at inheritance tax in terms of a concern with fairness and opportunity, it’s difficult to see why it has become so unpopular. Perhaps it is significant that many of those whose families would lose out most massively from a fair system of inheritance tax are precisely those who own some of our most influential newspapers, and who have the spare resources to exert political influence through lobbying and political donations. If so, that gives one more kind of democratic argument for why IHT is a vital policy in a fair and progressive country.

In terms of its roads, schools, and many other good things, the U.S. (and some other countries) have been living off investments made in the 1950s, 1960s and 1970s, and under the current tax-cutting mania, these are now in atrophy. We need to remind ourselves of why taxes matter.


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