The economist behind Elizabeth Warren’s wealth tax proposal explains how it works
Capital & Main is an award-winning publication that reports from California on economic, political, and social issues.
As the old refrain goes, “Nothing can be said to be certain except death and taxes.” However, as University of California at Berkeley economists Emmanuel Saez and Gabriel Zucman point out in their new book, The Triumph of Injustice: How the Rich Dodge Taxes and How to Make Them Pay, for the corporations and the wealthy, there is no certainty about paying taxes at all. In fact, in the United States, evading taxes has become as simple as creating a shell company in Bermuda.
Saez and Zucman outline how tax injustice has led to vast inequality in wealth and power, but they also offer some solutions—some of which have been embraced by Democratic presidential candidates Elizabeth Warren and Bernie Sanders. They have also started a raging debate—mostly among economists—about their facts and their prescriptions.
Gabriel Zucman spoke by phone with Capital & Main from his Berkeley home about the book. This interview has been edited for brevity.
Capital & Main: You open your book with an anecdote from a presidential debate between Donald Trump and Hillary Clinton, in which Trump is challenged that he didn’t pay federal income taxes one year and he responds, “That makes me smart.” That exchange must have told you something about our political culture.
Gabriel Zucman: I think that comment reflected two things. One, it has become common for some billionaires to pay very little in taxes, and second it has also become accepted, at least in some parts of the population, for them not to pay taxes, which reflects the dramatic changes in social norms that have happened in the U.S. and the triumph of a certain ideology according to which taxes are a bad thing and that it is morally right and a good thing for everyone not to pay taxes. More importantly, Clinton didn’t have a good answer to that. She had lots of technocratic fixes to the tax system but not [a] big and radical and compelling solution to the problem of tax injustice. That’s why we wrote the book—we wanted to understand why the U.S. arrived at that point where some billionaires don’t pay anything and they brag about this.
CM: Can you describe the state of our tax system in a way that a layperson can grasp?
GZ: When you take into account all taxes paid at all levels of government—federal, state, and local taxes—the U.S. tax system looks like a giant flat tax where each group of the population pays about 25 to 30 percent of their income in taxes except the very, very wealthy who pay 23 percent, a lower rate than the working class and the middle class. So the short characterization is that the U.S. tax system is a giant flat tax that becomes regressive at the very top.
CM: Well it’s now a part of any Democratic candidate stump speech that Mark Zuckerberg or Warren Buffett pay less as a proportion of their income than their secretaries or gardeners. How did we get to a situation where that assertion is actually true?
GZ: The main reason is the big decline in capital taxation. For instance, the corporate income tax, which historically was the main tax paid by the wealthy, which used to be big in the 1950s and ’60s, now almost has disappeared. And other forms of capital income [are] also taxed less and less—dividends are taxed less than wage income, same for capital gains, same for retained business profits. So you have this process where capital income is taxed less and less and at the same time labor income is taxed more and more because of the rise in payroll taxes. That’s the key driver of what has happened to the progressivity of the U.S. tax system.
CM: Your colleague Thomas Piketty’s most recent book is called Capital and Ideology. Let’s focus on the ideology part of this for a moment because that deals with a society’s and a people’s belief systems. It seems like you are arguing that the media, think tanks, conservative politicians have convinced people who don’t have wealth that the people who do have it deserve it, should keep it, and if you tax them bad things will happen.
GZ: Yes, that is exactly what has happened. And what we are trying to do in the book is ask, what’s the merit of this ideology? Do we see that when we tax capital less, do we have more growth and more income for the rest of the population? And what we find is that there is no evidence. When you tax capital less and less, what you get is that the wealthy have lower tax rates, and there is no evidence that it benefits the rest of the population in any measurable way. The main effect is that it boosts inequality because the wealthy can just save and reinvest a higher portion of their income and you have a snowballing effect where wealth is taxed at a low rate and is saved again adding up to more wealth and so on.
CM: One of the interesting things you point out in the book is that during a number of periods the U.S. led the world in progressive taxation and tax innovation.
GZ: Yes, the U.S. invented some of the progressive fiscal institutions. For instance the highly progressive income tax system with marginal tax rates of more than 90 percent in the middle of the 20th century. That is a U.S. and to some extent a U.K. invention. No continental European country, not even Scandinavian countries, ever had such high marginal income tax rates. The same is true for the second key U.S. invention, which is the very progressive estate tax, with estate taxes up to 80 percent from the 1930s to the 1980s, which no continental European country ever had. So you have these two traditions in U.S. history—a sharply progressive fiscal tradition and also an antitax, antigovernment, and antidemocracy in the Southern states and in many ways associated with slavery. We contrast in the book states like Massachusetts, which taxed wealth as far back as the 17th century, and states like Virginia, where taxes were kept low because slaver owners were afraid that taxes would be used to abolish slavery.
CM: You write that what we have now is this flourishing tax-avoidance industry that employs hundreds of thousands of lawyers and accountants that help the super-wealthy and corporations shelter their money. You mention offshoring money in places like Ireland and Bermuda. How does this work?
GZ: It’s quite simple. Companies try to locate their profits in low-tax places. And the way to do that is by manipulating the price of intergroup transactions like intergroup purchases of goods and services or by locating assets in low-tax countries. The most striking example is Google, which, just a few months before being listed as a public company in 2003, sold its own intellectual property, its own algorithms, to its Bermuda subsidiary. So ever since then the Bermuda subsidiary has been the legal owner of the right to use these intangibles for the non-U.S. market and licenses the right to use its technology to Google affiliates all over the world and receive the royalties. Subsidiaries in Germany or France pay billions of dollars in royalties to the Google holding company in Bermuda, reducing the tax base of Germany and France and increasing it in Bermuda by the same amount, as the tax rate in Bermuda is zero.
CM: You have some policy proposals for dealing with this. Put a stop to companies’ ability to do this, penalize countries that allow these strategies, and somehow integrate policies on a global scale. That’s a big political lift.
GZ: The main idea is pretty simple. Some countries choose not to collect taxes, with zero tax rates, but the U.S. should act as the tax collector of last resort. If these profits are booked in Bermuda and taxed at zero percent, the U.S. could say, “Okay, we are going to tax those profits at, let’s say, a U.S. rate of 30 percent.” And if these taxes are booked in and taxed in Ireland at the rate of 5 percent, then the U.S. is going to tax these profits at 25 percent, so if these companies choose to move their profits to places where they are taxed at low rates we can always say, “Okay, don’t pay taxes abroad, but you have to pay the difference in the U.S.” Nothing prevents the U.S. from doing that. Sometimes people have the view that there is nothing you can do to make the corporations pay in a globalized world because they will always move to low-tax places but that’s wrong.
CM: Why is the pressure to abandon progressivity happening all over the place? Every year some journalist writes an article about “The decline of the Swedish Welfare State.”
GZ: It’s happening everywhere but not at the same pace. The U.S. is the most extreme case of a country that used to have perhaps the most progressive system in the world but now has this particularly regressive tax system. The reasons are ideological and political. And also the failure to think about the real challenges of globalization, a kind of intellectual laziness where people think that in a globalized world nothing can be done. We are trying to explain how globalization and progressive taxation can be made compatible.
CM: The part of your list of proposals that has received the most attention is the wealth-tax part of it, perhaps because Elizabeth Warren and Bernie Sanders have embraced some version of it. What would a wealth tax do?
GZ: The wealth [tax] is the proper way to tax billionaires. Because these extremely wealthy individuals can own a lot of wealth while reporting little taxable income. Warren Buffett is worth $80 billion, but he instructs his company Berkshire Hathaway to not pay dividends, so his taxable income is low compared to his true income or his wealth. So even if we increase the marginal tax rate to 90 percent it makes no difference to Warren Buffett’s effective tax rate. He would pay maybe $3 million in taxes, which is nothing compared to his true wealth. So the proper way to tax the super-wealthy is through a wealth tax. The wealth tax is not going to replace the income tax, but it has a role to play in the overall tax system along with more progressive income taxation, along with better corporate taxation and estate taxation.
CM: Let’s deal with the arguments against progressive taxation and wealth taxes. The wealthy will simply find more complex ways of avoiding paying these taxes, too heavy of a tax on capital and wealth will actually hurt the economy and workers, and conservatives like to say progressive taxation is confiscating people’s money who earned it and giving it to people who didn’t.
GZ: The moral case against taxing the rich is very weak because while wealthy entrepreneurs have great ideas and work a lot, the reason they have become wealthy is because in many cases they have been able to use the public infrastructure, they had workers who were trained by public education institutions funded by taxes, and they became wealthy because government institutions allow robust economic markets to exist—so you don’t create a billion-dollar fortune just by yourself. It is something that is created by society to a large extent. In terms of how much revenue there is, we have a calculation in the book that says, here is how much revenue that could be collected from the top 1 percent if we really wanted to maximize tax collection. Today the top 1 percent earns about 20 percent of U.S. income, and they are taxed at a rate of about 30 percent, so they pay about 6 percent of the national income in taxes. And what we are saying is that they could pay as much as 10 percent. So just by taxing the 1 percent more we could generate 4 percent in extra tax revenue.
CM: How much tax revenue are we losing with all of the tax havens, shell companies, and other schemes that the wealthy and corporations have set up?
GZ: It’s hundreds of billions of dollars.
CM: You say that the stagnation of the income of the working class over more than a generation is the most fundamental development in the U.S. economy. We have a presidential campaign where the challengers to Trump are going to have to win states where a sizable percentage of the voters are non-college-educated whites and there are slow rates of ethnic and racial change. Can this strategy of taxing the wealthy appeal to these voters?
GZ: Look at opinion polls of the Warren wealth tax, which is 1 percent tax above $50 million and a 3 percent tax above $1 billion—when you ask voters if they support the policy even before you tell them how the money would be used, an overwhelming majority of the electorate is in favor of taxing the super-wealthy—about 70 percent. So I think the evidence suggests that this kind of redistributive tax policy is extremely popular and could be a winner in the general election.
CM: It seems that a good deal of the anti-tax sentiment is based on the fear or assertion that higher taxes means more money is directed towards “foreigners, immigrants and darker people”—in other words, the “unworthy” poor or “lazy.” It splits working-class people apart.
GZ: It’s how the Republican Party has been able to be successful electorally with a low tax on the rich with anti-civil rights and now with their anti-immigration platform.
CM: The left in all societies creates institutions to mitigate some of the more destructive dynamics of capitalism—unions, the Environmental Protection Agency, public education. What new institutions will have to be created to enforce the proposals you are advocating?
GZ: A Public Protection Bureau has to be created.
CM: That sounds like something from a Monty Python skit. I can hear Mitch McConnell making fun of it now.
GZ: The idea is that tax avoidance [and] tax evasion [are] largely driven by the industry that supplies tax dodges—the supply side of the market for tax evasion. If you want to reduce tax dodging you have to regulate that industry. If new schemes are created to avoid taxes this agency should be informed by law of this new product. And if this product violates the economic substance doctrine, which is a tax law that is designed to outlaw transactions that are only designed to avoid taxes, then they would be illegal. Another institution is the wealth tax. The new institution that we are proposing is the progressive tax on wealth and on billionaires. That would be a new invention. We are saying that the U.S. innovated in the past with the income tax, the estate tax, and now we can innovate with a very progressive wealth tax.
CM: You put a lot of emphasis on the international dimension in all of this—that there has to be a great deal of international agreement to get rid of these tax-dodging schemes.
GZ: You can have tax harmonization and tax coordination as a function of globalization too. You can make these policies a central part of free trade agreements. You can have a more sustainable globalization that emphasizes cooperation instead of competition.
CM: You end your book with a discussion of politics and power. If we can’t muster the politics and power to dramatically alter the current situation, my sense is that inequality will increase with ongoing popular protest like what is happening in Chile at the moment, repression and authoritarian regimes as a response. Why should we be more optimistic?
GZ: The main risk is the one that you describe, but I think that the reason to be optimistic is that when you look at history and you see change happen. Actually the debate that we are having today is very much the same that you had in the late 19th century and early 20th century, where you also had rising inequality, an unfair tax system, and a growing demand for progressive taxation. Many people at the time said it will never happen, it will never work, and the rich will evade—and it happened.
In 1913 the [U.S.] income tax was created, and in 1917 the top marginal income tax rate was increased to almost 70 percent. So in just a few years you moved from a tax system that was extremely unfair—that was relying on tariffs and no income tax—to a tax system where the very rich, the highest income earners are taxed at 70 percent. So history is full of U-turns and dramatic reversals. That’s the main reason to be optimistic.
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