In Paul Krugman‘s post today, he references a useful database created by the Paris School of Economics called The World Top Income Database. I’m sure it is full of lots of useful info, but I went for the easy stuff and grabbed the excellent chart below.
Like other similar charts I’ve posted have shown, it shows a sharp change wealth held by the top 1% in the past 25 years or so. I’ve been wondering about the causal mechanics behind this.
What I never realized before is how sharply it changes in a particular year – 1987 – and carries on from there. At that point, the USA started to diverge significantly from other countries.
So the obvious question is: why? What happened in that year? I don’t really know.
Liberals will surely point out that that’s when some Reagan tax cuts went into effect and that top rates have stayed relatively low since then – and maybe they’d be right.
However, I am generally of the opinion that much of the wealth among the top 1% accrues not primarily because of lucrative jobs (i.e., compensation subject to income tax), but because of returns on capital (subject to capital gains tax). I like the capital-driven theory because it would have a multiplicative effect vs. a largely linear one (although one can surely argue that compensation for top performers has exploded in all fields, so it is faster than linear). But the problem there is that the capital gains tax actually went up significantly at that same time income taxes went down (bottom chart) – though they, too, have since come down as well.
Perhaps when you put the various rates together over time and you combine with other policies (like severe restrictions on capital investing by the non-rich), you can get the necessary result. Hard to know, but if it is causal, it argues for maintaining progressive taxation (vs. currently popular flat tax ideas) and probably even to make the top rate higher. Warren Buffet would like that.
The key thing would be to pick a threshold that is actually genuinely ‘rich’ vs. merely affluent, particularly when cost of living variations are taken into account. Something like $1M per year in combined income (compensation + capital gains) seems about right. And it needs to have an effective indexing mechanism so it doesn’t become another Alternative Minimum Tax (AMT) in 30 years by slowly growing to encompass an ever larger percentage of taxpayers.
An alternative approach is a wealth tax along the lines of what Spain just reintroduced. France has a similar thing. This type of tax is based on total assets held whether they are earning or not earning. I’m not sure if this sort of thing actually yields enough revenue to fix much of anything, but perhaps worth considering.