Published on
by

The Economics and Politics of Financial Transactions Taxes and Wealth Taxes

Imagine that instead of handing money to our billionaires, we are taxing away their wealth at the rate of 3.0 percent annually.

Demonstrators hold signs in support of a financial transactions tax (FTT), also known as a Robin Hood tax.  (Photo: Elvert Barnes/flickr/cc)

Demonstrators hold signs in support of a financial transactions tax (FTT), also known as a Robin Hood tax.  (Photo: Elvert Barnes/flickr/cc)

This piece first appeared on Patreon.

Last month, the Washington Post reported that Joe Biden is considering including a financial transactions tax (FTT) as part of his campaign for the Democratic nomination. For those of us who have long advocated such a tax, this is very good news.

On this issue, Bernie Sanders has taken the lead among presidential candidates, including an FTT as part of his plan for free college tuition free. Several other candidates also support an FTT, but if the Democratic Party’s leading centrist candidate endorses the tax, it would mark a new degree of acceptance within the mainstream of political debate.

It may be somewhat surprising, but Senator Warren is not among those supporting an FTT. This is certainly not due to a reluctance to challenge the interests of the wealthy. Warren has proposed a wide variety of measures that would directly challenge the interests of the rich and powerful.

The most ambitious item on this agenda is a wealth tax. Her tax would tax wealth above $50 million at the rate of 2.0 percent a year and wealth above $1 billion at the rate of 3.0 percent a year. (Sanders has an even larger wealth tax.) While there are good reasons for wanting to tax the very rich, an FTT is almost certainly a better economic policy and would have much better political prospects.  

We can see the economics of an FTT are superior when we consider the motivation for taxation by the federal government. As the proponents of Modern Monetary Theory remind us, the federal government doesn’t need revenue to spend, it prints money. The purpose of taxation by the federal government is to reduce consumption, so as to create the economic space for spending. The argument is that if the government spent a large amount of money, and didn’t have any taxes, it is likely to create too much demand in the economy, thereby generating inflation.

On both economic and political grounds, a FTT has far more to offer than a wealth tax.

To see this point, imagine that the federal government was to spend another $1 trillion next year on Green New Deal policies (a bit more than 20 percent of current federal spending), such as clean energy and mass transit subsidies. If there were no increase in taxes, we would expect to see a huge surge in demand in the economy, likely leading to inflation. (Assume that the Federal Reserve Board simply prints more money so that interest rates are little changed.)

Now suppose we had another big Republican-style tax cut where we handed $1 trillion annually to the very richest people in the country. Also assume that we have no offsetting reduction in spending or increase in other taxes.

In this case, we almost certainly don’t have to worry about inflation. Jeff Bezos, Bill Gates, and other multi-billionaires already have pretty much all the money they can possibly spend. This government handout will fatten their stock portfolios but will have little effect on demand in the economy. And for that reason it is not likely to lead to inflation.

Now let’s flip this over and imagine that instead of handing money to our billionaires, we are taxing away their wealth at the rate of 3.0 percent annually. With Bezos, Gates, and the rest still earning money on their assets, their wealth is likely to be little affected. The impact on the consumption of the very wealthy is likely to be minimal, meaning that we have created little room for additional government spending.

In fact, it’s possible the effect on demand goes the other way. Most billionaires like their money. The wealth tax gives them a strong incentive to hire accountants, lawyers, and other people engaged in the tax avoidance/evasion industry. To take the simple arithmetic, if Jeff Bezos can find a way to hide $1 billion for twenty years, he will effectively be making $600 million. (I am ignoring interest.) That means that if he spends $500 million on clever accountants and tax lawyers, he is coming out ahead on the deal.

Bezos’ spending on accountants and tax lawyers is real spending that creates demand for goods and services, no matter how nefarious. For this reason, it is entirely possible that a wealth tax will end up increasing demand in the economy rather than reducing it.

By contrast, the way to avoid an FTT is to reduce trading. This means that we would see less demand for goods and services in the financial sector. Most estimates show that if we raise the cost of trading with an FTT, we will see a roughly proportionate decline in trading. For example, if a FTT raises the cost of trading a share of stock or an option by 40 percent, then the volume of trading will decline by roughly 40 percent.

SCROLL TO CONTINUE WITH CONTENT

Never Miss a Beat.

Get our best delivered to your inbox.

In this scenario, people would be paying 40 percent more for each trade they made, but they would be carrying through 40 percent fewer trades. That would mean that the total amount of money they spent on trading would be little changed, even after we include what they pay in taxes. The financial industry would effectively be forced to eat the full amount of the tax, as the revenue it collected from trading would fall by roughly the size of the tax. This is exactly what we want a tax to do: free up resources in the economy to allow the government to spend on other priorities.

And, the financial industry is a sector of the economy that could badly use some downsizing. The size of the narrow financial sector (securities and commodities trading) has exploded over the last four decades, going from roughly 0.5 percent of GDP in the 1970s, to more than 2.0 percent of GDP today. An FTT would partially reverse this rise. By my calculations, it could raise an amount roughly equal to 0.6 percent of GDP, which comes to $1.6 trillion over the next decade, with the money largely corresponding to a shrinkage of the financial sector.[1]

It is hard to see an economic cost from this sort of reduction in trading volume. Since there has been an enormous explosion in trading volume over the last four decades, even a reduction in trading volume of 50 percent would only get us back to 1990s levels. And, we certainly had very robust financial markets in the 1990s. The purpose of the financial sector is to allocate capital to its best uses. It would be hard to convince those of us who lived through the housing bubble and the subsequent financial crisis that the increase in trading volume has allowed the financial industry to do a better job allocating capital than in prior decades.

The Politics of the Two Taxes

The politics of any tax increase will always be difficult. The rich can be expected to use their political power to scare people into believing the world will end if they are forced to pay more taxes. But the wealth tax has a unique problem.

Since the bulk of the money comes from a very small group of people, this small group of people has the option to announce that they will not pay the tax, by renouncing their citizenship. If that sounds strange to people, they have not been following the political behavior of the very rich in recent years. These people are not patriots committed to democracy or the United States.

Many of them contribute to and vote for Donald Trump, apparently believing that their savings on taxes are worth enough to overlook his racism, anti-Semitism, and disrespect for democracy and the rule of law. If anyone thinks that these people will happily pay a wealth tax that is likely to dwarf their income tax liabilities, they have not been paying attention to U.S. politics. 

It’s true that Warren’s wealth tax has a confiscatory exit tax for those who renounce their citizenship once the tax is in place. However, there is nothing to prevent billionaires from renouncing their citizenship before the tax is passed into law.

While is absurd to think that billionaires are geniuses by virtue of their great fortune, most almost certainly are not morons. If they don’t feel like paying the wealth tax they can simply renounce their citizenship as soon as it seems possible that Congress will act on a wealth tax. (Note, this does not mean they have to leave the country.) If it seemed plausible that Congress would pass a wealth tax does anyone doubt that a large percentage of the very rich would be prepared to renounce their citizenship?

And this threat alone would likely have a large impact on the prospects of wealth tax passing Congress. Suppose 1,000 very rich people, representing $10 trillion in wealth, sent a letter to Congress proclaiming their plan to renounce their citizenship if it moved ahead with President Warren’s wealth tax? My guess is that Congress would happily use this threat as an excuse not to pass a wealth tax, even if it otherwise was inclined to endorse such a measure. If Congress did move forward, and a substantial share of these billionaires carried through with their threat, the Warren administration would face a major embarrassment.

Of course an FTT will face ferocious opposition from the financial industry, but there is a big advantage here: every argument they make will be a lie. The financial sector will function just fine if trading volume was slashed by 50 percent. We know this, because we lived through periods with a much smaller financial sector.

And the claim that small investors will bear the cost in 401(k)s can also be shown to be a lie. The higher cost per trade will be offset by the reduction in trading volume.

And, as much as they will hate to admit to it, trading does not on average make investors money. On average the wins and loses balance out, so the ones who win from the high current level of trading are the people who get paid to do the trades. A president pushing a financial transaction tax should be able to get this point out to the general public.

In short, on both economic and political grounds, a FTT has far more to offer than a wealth tax. The enormous rise in inequality over the last four decades demands a serious response. But we have to make our moves carefully. A well-designed FTT fits the bill.

This is the world we live in. This is the world we cover.

Because of people like you, another world is possible. There are many battles to be won, but we will battle them together—all of us. Common Dreams is not your normal news site. We don't survive on clicks. We don't want advertising dollars. We want the world to be a better place. But we can't do it alone. It doesn't work that way. We need you. If you can help today—because every gift of every size matters—please do. Without Your Support We Won't Exist.

Please select a donation method:



Share This Article