An “ultra-millionaire tax” — or wealth tax — proposed by Democratic presidential primaries candidate Elizabeth Warren is likely to raise between $2.3 trillion and $2.7 trillion in additional revenue in 10 years from 2021 to 2030, according to a study by the Penn Wharton Budget Model (PWBM), a nonpartisan research initiative that analyzes the fiscal impact of public policy programs. These revenue projections are significantly lower than Senator Warren’s estimate that the plan can potentially generate $3.75 trillion. Moreover, the wealth tax may depress GDP in 2050 by 1% to 2%, depending on how the money is spent and the productivity boost it generates, the study adds.
Elizabeth Warren’s Grudging Acceptance of Billionaires
In November, Warren announced a revision of her earlier wealth tax proposal of January 2019, doubling the levy on households with more than a billion dollars in net worth. Under her plan, households would pay an annual 2% tax on every dollar of net worth exceeding $50 million and a 6% tax on net worth more than $1 billion. The tax would impact some 75,000 households who comprise the top 0.1% of US households, according to analysis by economists Emmanuel Saez and Gabriel Zucman of the University of California-Berkeley.
“A small group of families has taken a massive amount of the wealth American workers have produced, while America’s middle class has been hollowed out,” Warren said in the introduction to her latest plan. “It’s time for the rich to pay their fair share.” She cited findings by Saez and Zucman that the 400 richest Americans now own more wealth than all black households and a quarter of Latino households combined.
Kent Smetters, Wharton professor of business economics and public policy and faculty director of the PWBM, explained why the PWBM estimate is less optimistic than Warren’s. Speaking on the Wharton Business Daily show on Sirius XM, he said, “We assume that people will change their behavior to try to avoid some of the tax.” Some of this could be “legal behavior” on the part of the ultra-millionaires, such as setting up foundations that have less than a billion dollars or other devices “to escape at least the high threshold of the tax, especially if they are planning on giving some of their money away,” he added.
In trying to model “a reasonable avoidance mechanism,” the PWBM gathered international evidence on how taxpayers responded to wealth taxes and conducted interviews with tax experts. The study also drew upon the experience of its own team, which includes former Treasury officials who have worked on tax avoidance in the past.
The PWBM estimated the revenues the wealth tax could generate under two scenarios. If there were no avoidance of the wealth tax, the measure would raise $4.8 trillion from fiscal years 2021 to 2030. With “extreme avoidance,” that revenue estimate would drop to $1.4 trillion. Somewhere between those two extreme scenarios lies the PWBM’s best estimate of a total revenue increase of $2.7 trillion from fiscal years 2021 to 2030.
Impacts on GDP and Wages
The PWBM projected that the wealth tax would cause the US gross domestic product to fall by 0.9% in 2050 under the “standard budget scoring convention” that new tax revenues would be used to reduce the federal budget deficit. However, if those revenues were instead spent on public investments, it projected GDP in 2050 to fall between 1.1% and 2.1%, depending on the productivity of the investment. The tax would also cause average pre-tax hourly wages in 2050 to fall between 0.8% and 2.3% because it would reduce private capital formation, the PWBM study stated.
“If this [revenue] is all just coming from billionaires having fewer yachts to buy, that’s one thing,” said Smetters. “No one is going to have too many tears shed over that. But where it really comes in for everybody else, where the rubber hits the road, is in wages. Billionaires are billionaires because they’re invested in companies that aren’t being worked by billionaires. They’re being worked by you and me, who get wages and so forth.”
The PWBM’s projections of the wealth tax’s potential impact on GDP and wages are not particularly large, “but often people focus on the sign — whether it’s positive or negative — and it is, in fact, in a negative direction,” said Smetters. The estimates are in a range because much depends on how the money is ultimately spent, he added.
In a video explainer, Diane Lim, senior advisor at PWBM, and Richard Prisinzano, PWBM’s director of policy analysis, discussed the highlights of the Warren wealth tax proposal.
Warren has focused on programs such as pre-K education, which generate returns of 7% to 10% on spending, but her campaign has not matched the money sought to be raised with government spending programs, Smetters noted. So, the PWBM study looked at a broad basket of productivity-boosting public spending programs, using the current distribution of public spending including on pre-K education and roads and infrastructure. In its calculations, it has assumed “pretty high” annual returns of 12% on money spent, he said. “If anything, we’ve given a pretty nice return to that spending,” said Smetters. “But even with that, you still have some economic activity that has been reduced, even with positive spending returns.”
Smetters said the PWBM estimate of returns is “aggressive” because it takes a long time for the benefits of programs like pre-K education or road construction to filter through. If, for instance, the public spending has to offset the negative effects of the wealth tax on the GDP, it has to earn returns of 15%, according to the PWBM. He also pointed to some “secondary effects” of such public spending. “For example, if some lower-income females suddenly had access to childcare, maybe they could go to work,” he said, noting that the Warren campaign has discussed that possibility.
Any of those scenarios involves “a fundamental tradeoff,” Smetters said. “If you believe that you’re going to get more revenue than what we’re suggesting, then you also have to believe that the tax actually has more bite to it. So there’s a fundamental, classic tradeoff between equity and efficiency.”
Wealth taxes are not new internationally, but over time, fewer governments have taken that route, the PWBM report noted. In 1990, 12 of the 36 member countries in the Organization for Economic Cooperation and Development (OECD) imposed wealth taxes, but by 2019, only four of them continued with that approach (Norway, Belgium, Spain and Switzerland). The report cited an OECD review, which concluded that “administrative difficulties, modest revenues, and failure to adequately address wealth inequality are among the main reasons why most member countries have abandoned wealth taxes.”
Smetters said the debate comes down to how net worth is defined. “How do we count that? That has been the struggle a lot of countries have had,” he noted. Unlike the value of a publicly-traded stock, it becomes “more challenging” to value privately-held businesses, he said. “[For instance], if you’re talking about a pension plan that’s giving you a stream of income over time, should that value be capitalized into its present value and treated as an asset? All those things are very challenging to figure out, and that’s where a lot of countries have found that very hard to administer.”
Families or other entities could own businesses with a net worth of $50 million or more — and the wealth tax could have a significant impact on them. Some countries like Spain, which still has a wealth tax, have exempted privately-held businesses precisely for that reason, since they are worried that it might compel the families that own them to sell their businesses, Smetters said. He dismissed suggestions from some economists that those wealthy businesses could give some shares to the government instead of paying the wealth tax. “That creates a lot of challenges because ultimately the government doesn’t want shares, it wants money,” he said.
Smetters pointed out that while the PWBM does not take advocacy positions, “taxing wealth is challenging.” He said taxing high-income or wealthy people and enforcing it is much easier with, say, an estate tax, which kicks in at the end of a person’s life.
In the same way, capital gains taxes could be increased in order to get more revenue. Plugging loopholes that allow much wealth to remain untaxed upon death could also help raise tax revenues, Smetters said. “There are lots of ways that you can hit at this wealth, but they are much easier to administer if they focus on the income from the wealth, rather than the wealth itself.”
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