Sunday, April 29, 2012

How I Would Overhaul the U.S. Tax Code - Part V: Other Considerations and Concluding Remarks

Continued from Part IV.

Taxing the Lords of Finance 

The financial crisis of 2008 has exposed deep-seated problems in our country’s finance sector. Besides the obvious dangers of over-leveraged banks, largely unregulated “shadow” banking operations and housing bubbles, the crisis demonstrated the unmatched political influence wielded by these businesses that were able to extract an enormous bailout over the loud, passionate objections of nearly everyone in the country. Many began to question whether some of these institutions had any redeeming social value whatsoever other than as a government-backed casino of the elites.

Most of these problems can only be addressed through public engagement and legislation such as that passed into law earlier this summer. But it is worthwhile to note what role tax policy can play. Any true free market capitalist would be alarmed at the enormous profit margins that the financial industry enjoyed in the 2000s. In a well-functioning market, competition inexorably drives profits down. The financial sector eventually accounted for nearly half of all corporate profits in the United States, in a clear sign of a dysfunctional market. This is what “too big to fail” really means. But as any tax policy expert will tell you, if something gets too big, just tax it down to size. I propose doing this in two ways.

First, the U.S. should institute a Speculation Tax on financial transactions. With a small fee of 0.25 percent on the sale or transfer of stocks, bonds and all other financial instruments, ordinary investors would feel very little burden. However, speculators and other actors engaging in high-speed trades of dubious social value would bear significant costs, likely causing them to slow down or rethink their activities. Such a tax could raise up to $100 billion in additional revenue every year while only seriously discouraging undesirable speculative activities. Much of the significant burden would fall on the trading desks of the major banks and financial institutions, which is exactly where the financial crisis contagion started.

Second, the U.S. should levy a tax on all bank, thrift and insurance companies with more than $50 billion in assets. The tax should not apply to customers’ insured savings but only to assets in risk-taking operations. The rate should be set based on the level of excess profitability of the financial industry. At a minimum, it should raise $90 billion over ten years like a similar proposal from the Obama White House. Once again, the federal government can raise needed revenue by discouraging the size of too big to fail banks.

The new revenues could be used in a number of different ways. My preference would be to set aside a small portion in a financial stability fund so that any future crises could be dealt with more easily while using the bulk of the money to reinvest in public infrastructure and close state budget gaps in order to lower the unemployment rate and improve future economic prospects. Once the country has a stronger economy and near full employment, this revenue could be redirected to deficit reduction.

Corporate Income, Capital Gains and Estate Taxes 

This tax overhaul plan would leave the corporate income tax, the capital gains tax and the estate tax largely intact. None of these taxes are perfect, but they all serve important roles. Corporations gain enormous privileges from their governmentally recognized legal status and they should have to pay for these privileges. No business is forced to incorporate, and so technically the corporate income tax is a voluntary opt-in cost for businesses who want corporate privileges.

Capital gains taxes are a tax on investment, but they are necessary in order to level the playing field between wealth and work. Living off investment income while others have to work for a living is already a sweet deal. The deal should not go untaxed. If anything the capital gains tax should be increased to at least the level it was during the stock market boom of the 1990s.

The estate tax is a bulwark against the growth of an entrenched aristocracy in the U.S. It should be expanded significantly for all estates worth more than $3.5 million. If there are any ideas that achieve the goals listed here in a more efficient way, I would include them in a future version of this plan. The corporate income tax in particular seems to be quite flawed.

Concluding Remarks 

This plan will not fix every budget and tax problem that this country faces. But it is a bold step towards addressing two of our greatest challenges: perilous economic imbalances and a dangerous dependence on fossil fuels. It has the potential to be much more economically efficient, vertically equitable, and environmentally beneficial than the status quo. It may even be a simpler way to collect revenue for the U.S. government. I have only outlined the broad contours of the plan, and there is a plethora of ways to specify rates and other details based on targeted revenue and efficiency.

As a final note, there is a reason I have proposed such a dramatic change to the tax system rather than just tinkering around the margins. Tax policy is one of the many areas where embracing change and creativity are absolutely necessary to deal with the increasingly rapid transformations of the twenty-first century. We should build the imperative to change with the times into our tax code, and that is why I have proposed making a climate pollution tax one of the main sources of revenue for the U.S. government. Ideally, the tax will cause carbon emissions to drop dramatically over the coming decades. The government will have to respond initially by continuously raising the tax rate but this should cause emissions to drop even further until eventually the U.S. will have to find a new major source of revenue. Some would call this a defect, but I see it as a feature. Pretending we can institute permanent solutions to any problem is a recipe for political sclerosis. The need to replace the carbon tax will compel us to keep evolving rather than cling to the broken status quo as we have too often done in the past. That’s what redesigning any public policy should be all about.

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