Why more taxes on the rich may be a dead end

The debate about inequality has reignited the discussion on taxes. The picture emerging from any analysis of tax revenues is a stark one indeed. Essentially there are two disparities that stand out. The first is the widening gap between the taxes paid by small and medium sized enterprises and those paid by multi-national companies. Figures for the US illustrate this point well. The effective tax rate multinational companies in the US paid on their profits has been 24 percent in 2015 (The Economist, 9th July 2016), yet the official tax rate stands at 39 percent. This means that small enterprises which do not have the advantages of being able to move their profits into low tax havens or to use tax loopholes to shield their profits from tax are effectively paying a higher rate on their profits than the largest top 50 firms.

The second area which contributes to a sense of injustice in tax matters is personal income tax. This debate has been galvanised by the revelations about the superrich hiding their assets in tax havens through tax avoidance or tax evasion, depriving governments of legitimate tax income. So far, the UK government has tried to tackle the disparities in the tax system by taking people at the bottom of the income scale out of tax altogether, raising the income tax allowance.

Whilst reducing the tax burden of the poorest is welcome there are signs that the increasing income and wealth gap creates some limits on what can be achieved through tax policy on its own. The danger is that lowering the reliance of the government's income tax base on tax payers at the bottom of the scale whilst increasing its reliance on top tax payers creates unacceptable volatility in tax revenues in the long term. Take the example of California. On paper, income tax policy in the sunshine state is one of the most radical in the West. The rate of income tax stands at 13.5 percent (on top of federal levy of 39.6 percent). That makes income tax levels in California one of the highest in the Western world, something to be celebrated in the books of campaigners for equality.

However, it also means that about 45 percent of all income tax revenues are now coming from a very small number of superrich people who happen to have their tax base in California. The top 1 percent of tax payers pay almost half of all income tax in the state. Since other taxes are subject to strict regulation and cannot be changed easily, California's lawmakers have little room for manoeuvre when things go belly up. If only a few of the top 1 percent of tax payers decide to leave the state, this creates a considerable gap in the government's coffers rippling through to education and welfare policies with a vengeance.

High dependence levels on very few tax payers, whilst welcome in terms of creating more equitable levels of income, thus looks like a poor mechanism to create stable and effective government revenue streams, which in turn are essential for public services and infrastructure investment. Narrowing the tax base may therefore increase volatility at the expense of tax revenue certainty which is so important for long term strategies to tackle inequality. It seems the debate on how to best address inequality needs a few more ideas.

The benefits of coalition government

As a German I have always been quite comfortable with coalition government, unlike most people in this country. Indignation about broken electoral promises never resonated with me, given that the main  benefit of coalition government seems to be a need for compromise that often weeds out the nuttier promises made in the heat of the electoral battle.

As the present coalition government edges to its final days in the UK, the 'play fights', as Andrew Rawnsley from The Observer calls them, increase. They are in essence the separation rituals of two partners that need to differentiate themselves from each other whilst at the same time trying to celebrate what they achieved.

Whatever its accomplishments, there is one advantage of coalition government that is rarely discussed. It's the fact that both partners are in a learning experience, coming into direct contact with other opinions and views on how to run the economy (and the country) without having the privilege to reject other perspectives out of hand. In other words, coalition government has a disciplining effect on all partners, forcing them to listen and to learn.

One area which demonstrates this increased capacity to learn under the conditions of a coalition government is taxation. In 2010, the Conservatives were steadfast against increasing the personal tax allowance whilst Lib Dems made it one of their most prominent electoral pledges. Two years into the coalition government and Chancellor George Osborne publicly commented that he wished this had been a Tory pledge all along. The Tory support for the increase of the personal tax allowance became so strong that Lib Dems felt miffed about it and kept pointing out to anybody who wanted to hear it that this was originally their idea.

There may be some disadvantages about lifting more than 5 million people out of tax altogether, mainly relating to the fact that modern societies are based on the contributory principle, for which taxation is the main conduit. But overall, there is now only one party that does not support a further increase in the personal tax allowance, the Labour Party. How Labour politicians square this with their avowed ambition to do good for the lowest paid is beyond me, but it seems that the two coalition partners have got it. Sometimes it may be a good thing if you are forced to share power.

Solidarity in action - why the highest earners pay more than enough

As the debate about spending and tax rises still rages in the US, it may be useful to have a quick look at the specific income tax rates that apply to working people. In Britain, the view is that US citizens pay far less income tax than we do. The US, so the story goes, is a low tax country.

If one looks at the marginal tax rates for individuals that apply to their taxable income, nothing could be further from the truth. The New York Times has helpfully published a graphic detailing the marginal tax rates and how they developed over time.

(you can find the graphic HERE)

The graph is revealing. Despite the incessant news about rich people avoiding tax, the tax rate for top earners in the US ($350k plus) is similar to that in the UK. The rate is 39.5 per cent. That is only 5.5 percentage points lower than the top marginal tax rate in the UK. In fact, it is only 0.5 percentage points more than the tax rate Labour had levied (40%) on the highest earners from 1997 to 2010.

On top of that, people working in the US of course also pay local taxes, which adds to the burden. This picture throws a different light on the argument that 'tax rises can pay down the debt' of the US or the UK. The fact is that the highest earners in either country already contribute about half of all income tax revenue. Their tax burden is already a multiple of what the lowest earners contribute to the treasury. That's solidarity in action.

How much do we need to know about our politicians?

The London Mayoral contest has brought us some novelties in the way candidates present themselves. The most significant change is probably the disclosure of the candidates' income  statements. Although the Labour candidate Ken Livingstone has been less than forthcoming about his income, the leader of the Labour Party Ed Miliband has argued that income tax submissions should be made public by all prospective candidates in UK elections. Miliband's intervention in the Mayoral election has form. It was the Labour leader who started this wave of revelations by asking the frontbench of the coalition government in his response to the budget whether they would personally benefit from the reduction in income tax. 

If all candidates for public office are in future required to reveal their income and the tax they pay, the UK would only follow in the footsteps of the US where income tax disclosure is common practice in elections. 

However, the argument put forward so far to support income tax disclosure strikes me as odd. Ed Miliband once again articulated the rationale behind this on the Andrew Marr Show last Sunday. Voters, he said, should know if legislators would benefit from the laws they vote on. Asked by Marr whether this should include their medical history, Miliband tried to backpaddle, suggesting that medical history was an entirely different matter. 

But it seems to me that this position lacks coherence as well as plausibility. Such a policy can only be coherent if all aspects of the personal lives of legislators are revealed so that voters can see whether or not they benefit from legal changes they enact. Hence Miliband would be wrong to arbitrarily limiting disclosure to income and taxation. Clearly the rule of transparency would apply to all aspects of legislators' lives. 

Yet, the proposal also lacks plausibility in the first place. Legislators are human beings, living in the society on which they impose legal rules as part of their daily routine. The disclosure of whether or not a parliamentarian could potentially benefit from legislation applies to all domains of her or his personal life, and, according to Miliband, complete transparency is taken to be critical for public debate of proposed legislation. 


But why should that be the case? What does it add to our understanding of the proposals for, say gay marriage, whether or not a particular legislator is straight, married, single, gay, or divorced? Legislation is enacted on the merits of laws for the whole of society, not whether or not a specific individual benefits from it. 

The point becomes clear when we examine more closely how we discuss legislation in public debate. A particular focus of deliberating on the merits of proposed legislation is whether or not particular groups of people are being disadvantaged or disproportionately advantaged. But we do not inquire whether any specific individual is set to gain from it. The latter would be a clear indication that we believe the legislative process is corrupted, say by passing laws that only benefit one individual rather than society. Clearly Miliband does not want to suggest that legislators on the government benches are corrupt? 

So, focussing on personal gain or loss is  either indicative of a notion of a corrupted legislative process or it is simply a fishing exercise for party political gain. As the latter, it lacks plausibility. Needless to say, it may deter people from entering politics and shift the focus from assessing the effect of legislation for the whole of society to individuals. 


Watching Miliband's budget response, the main intention of this move becomes clearer. It is a piece of political theatre which remains one of the few avenues open to him as he is struggling to win arguments. Personalising politics is always a poor choice for any politician but with a leader who regularly fails to put in convincing performances, the Labour Party may have few other options than muck-racking. 

Why higher taxes wont help the poor

About two weeks ago Dave and Angela Dawes from Cambridgeshire won the lottery. The final amount they bagged was more than 101 million pound sterling. It made them one of the richest couples in the UK. It certainly, in case you wondered, put them into the top 1% of people who are called by the protesters outside St Paul’s the ‘filthy rich’. 

When asked about what they would do with the money Dave Dawes, a Chelsea fan, mentioned that they may buy a house near the Chelsea football ground. Chances are that, once they have spent their win, or invested it somewhere, they will not have gained entry to what Pareto long time ago called ‘the elite’. As they may or may not find out, to get access to power, money is in fact of little consequence. 

Presumably, that is not what the protesters outside St Paul’s think. Their anger is firmly targeted at the inequality that comes with income. We have been here before. In 1974 the Labour government under Harold Wilson identified the root cause of all social injustice: personal riches. It took to tax everyone into oblivion. The top rate of income tax reached the dizzying height of 83% with a marginal top rate of personal income tax of 98% including investments. 

While this meant that government expanded exponentially, income redistribution to the poorest in society (in the age before tax credits) did not improve. In fact social mobility was affected very little. The main beneficiaries were people in the middle income bracket who gained big pay rises and generous pension settlements through their employment in the public sector. 

What is so puzzling about the obsession of the ‘Occupy London’ campaign with money is that taxes as a primary mechanism to transform society have long failed to show any results. Income inequality may be bad or good for society, taxing the super rich however does not tilt the balance of power in favour of the poor. 

Marx knew a thing or two about this. He had very little interest in money as such; the cause of power imbalances, so he argued, was ownership of means of production. In our times, you may call this access to resources, educational, economic and social. They’re the things that make a difference to your chances in life as you grow up, and the record of any UK government, Labour or Tory, is pretty bad at transforming the life chances of the bottom rank. 

Top schools and universities in the UK are still fiendishly out of reach for ordinary people, social networking amongst the country’s elite still significantly contributes to the chances you have in landing a plum job in the city or in government, and with the banking sector ever more reluctant to lend money, establishing a business (still the most important route out of poverty) is near impossible. 

So where does that leave the ‘Occupy London’ campaign? Their ignorance of the Marxist critique of capitalism is mind-boggling. Marx was full of disdain for ‘re-distributive policies’. He clearly saw that any preoccupation with income and taxes is likely to fail to make any significant dent in the distribution of economic, social and political power. And he was also (famously) critical of any moral case for re-distribution of income. Taxing the ‘rich’ may conspicuously be in line with our immediate sentiments of equality, yet, he was convinced,  it would leave the fundamental iniquities in place. So whether or not the ‘Occupy London’ campaign will be successful in making the case for more taxes, chances are it wont change a thing for the bottom 1 per cent of this country. 

Does inequality make sick?

Tony Blair was famously 'not bothered' about the super rich. However, more recently, the Labour Party has found its passion for a more equal income structure. There have also been some academics who argued for a while that there is a link between income inequality and health (The Spirit Level: why equality is better for everyone by Richard Wilkinso, Kate Pickett). In other words, they claim that there is evidence that the bigger the gap between top and bottom earners in terms of take home pay, the less healthy a society is. Health is often measured by morbidity, i.e. incidences of ill-health.

While for the Labour Party this new agenda may be prompted by its desperate search for its left-leaning voters, the case of academics is more puzzling. I believe there are some problems with their argument and here is why.

First, the evidence available is not in their favour. The Agency for Statistics in Germany has just released the figures of morbidity for the German states. The stats make interesting reading. Hamburg, Bremen and Bavaria, all states with the highest income gap, have the best population health. Thuringia and Saxony, states with the smallest income gap (half that of Bavaria), have the worst health outcomes for their populations.

So the evidence is at least contradictory. More importantly, however, there is, second, another problem with the supposed link between income inequality and health.

There has always been clear evidence that health is influenced by factors (amongst others) such as poverty and deprivation, access to prevention programmes, and health care quality. Now, the income gap says little about poverty. In fact, states with a large income gap between top and bottom earners might still have earners at the bottom of the scale that earn far more than those at the top of the scale in other states that have a small income gap.

In other words, income gap does not mean poverty. It's a relative measure of how far top and bottom are apart, which leaves the possibility (for example Hamburg), that the bottom earners are still better off than those in other areas.

Also, much has been made of the bad health outcomes figures of the US. However the figures there are skewed. Until recently, a small but sizeable minority of people had not access to health care at all, except for emergency care. It is difficult to see how this could NOT influence health outcomes. Early detection and treatment are a central pillar of good health care.

So, the argument will continue, but so far I am unconvinced that we have incontrovertible evidence that the income gap itself makes people sick.