WASHINGTON, May 31, 2015 — Democratic presidential candidate Bernie Sanders wants to raise the tax rate on America’s most successful entrepreneurs and managers to 90 percent. He claims the additional tax revenue would fund many social programs and infrastructure investments. He says it’s for the good of America.
He lies. He’s a killer, gunning for American business, and if he kills the U.S. economy in the process, too bad. His motive is revenge.
His tax would be a disaster for the economy and would lead to prolonged stagnation. It would raise less revenue, not more.
A 90 percent marginal tax rate would allow the wealthiest investors to keep only 10 cents of every dollar they earned on those marginal investments. After taking into account additional income taxes from states like New Jersey, where the highest marginal rate is about 9 percent, investors could pay up to 99 cents in taxes on every dollar they earned, depending on how federal taxes are deducted from state tax calculations.
New Jersey wants to raise its highest marginal rate to about 11 percent; in theory, a New Jersey investor could owe $1.01 in taxes for every dollar earned.
The Sanders tax would bring in less tax revenue, not more. Suppose high income investors earned an additional $1,000. If the tax rate were 40 percent, they would pay $400 in taxes and have $600 to re-invest back into the economy. This new $600 investment would have a multiplying effect on total income earned in the economy because workers would be hired and equipment would be purchased. Assume a multiplier of 4; the total new income generated would be $2,400.
Additional tax revenue would be 40 percent of the $2,400, or $960. With the initial $400 tax, government’s total revenue would be $1,360.
If the marginal tax rate were 90 percent, the investor who earned an additional $1,000 would pay $900 in taxes and have only $100 to invest back into the economy. With a multiplier of 4, this would generate $400 in new income. Taxing this at 90 percent raises $360 in tax revenue, for a total of $1,260, less than the $1,360 in revenue generated by the lower tax rate.
Worse is the reduction in economic growth. Under the 40 percent tax rate, there would be total economic activity of $3,400; under the 90 percent rate, that falls to $1,400. Under the 90 percent rate, government revenues fall because the pie they come from is so much smaller. This means fewer jobs, lower personal income tax collections, more spending on social welfare programs for the unemployed, reductions in corporate profits that pay into retirement funds, and so on.
Sanders argues that the maximum tax rate in the 1950s was 90 percent and the economy grew faster than when tax rates were lower.
Yes, but …
In the 1930s, the economy imploded in the Great Depression. In the 40s, the economy boomed with the production of tanks, ships, planes and bombs—but not houses, cars, refrigerators and shoes. Consumer goods like tires, sugar and chocolate were in short supply.
By the 50s, a larger population flush with cash that it earned building war goods and that it couldn’t spend on consumer goods was ready to forget its privations of the last 15 years and buy. Houses, cars, refrigerators and clothes—it bought. It went on a consumption binge that lasted a generation.
There are two broad ways to produce goods: labor intensively, which means many workers are hired with little investment in capital goods, like machinery; and capital intensively, which means few workers hired and large investments in capital goods.
In the 1950s, there were no robots and no computers. Most production was labor intensive. Automobiles, for instance, were built on assembly lines with workers putting the cars together. A capital shortage would have little impact on growth. Today, things are different.
The technology revolution means that most production, except in countries where labor is cheap, is done with large investments in capital goods. A modern automobile manufacturing plant is itself an enormously complex machine; it has few workers and an assembly line of robots. The result is better cars free from human production errors. The cars are produced at much lower cost than a labor intensive car plant could achieve.
Capital is more valuable now and more important than in the 1950s. Growth in the 1950s was fueled by huge pent-up demand, and it was satisfied by a huge pool of labor, not capital.
Everyone, even economists and politicians, knows that economic growth should be America’s top priority. Income re-distribution and attacks on “greedy” (economists would call them “rationally selfish”), successful business people who are the backbone of the American economy should not be a priority.
The anger in Sanders’ voice is almost scary. He wants to “get back” at those who have earned the most, simply because they have earned the most and others haven’t. For him, this isn’t about making life better and America stronger, but about revenge. He’d cut off his nose to spite his face.
A 90 percent tax rate at a time when the economy is trying to grow its way out of the Obama stagnation won’t “grow” the economy; it will kill it. If your goal is to get back at the successful for their success, that might be just the ticket. But it might be better just to hand Sanders a candlestick and let him run amok in the billiard room.