Wealth: to tax or not to tax?

There has been a topic marking all the debates throughout America in the past few weeks: the proposals of two Democratic candidates, Elizabeth Warren and Bernie Sanders, regarding a tax on wealth. Their proposals, coupled with all the recent articles and book releases about rising inequality all across the world, has been the hot topic on top of the table (better said, on top of the House).

A tax on wealth consists of a tax on the net wealth a person holds – that is, their assets minus their debts. Assets may include, for instance, bank deposits, real estate, financial securities, personal trusts, jewellery, or even a Picasso Painting. However, according to Bernie Sanders’ proposal, this tax would only be applied to people with a net worth value above $32 million, whereas candidate Warren would impose a tax on wealth only for values above $50 million.

They believe this is a much-needed source of revenue in order to ensure public health care for every American citizen.

There have been many countries adopting similar forms of wealth taxes. However, according to records, most of these countries have already dampened its usage. Only three out of the twelve European governments that implemented this tax in the 1990s continue relying on its revenues.

Furthermore, the numbers regarding tax revenue are not encouraging. The country that collects the most revenue from a tax on wealth is Switzerland, where its wealth tax revenue amounts to 3.1% of GDP. The other two countries, Norway and Spain, show really modest values, ranging between 0.2 and 0.8 percent of GDP.

The reasons provided by these countries are based on the fact that it is too costly to implement such a tax policy, due to the difficulty in assessing and evaluating the stock of assets each person owns, from personal effects and durable goods to future pension rights. Besides this, the OECD found clear evidence of the tax evasion and avoidance that is expected following the implementation of such policy.

Additionally, studies based on past experiences showed that, as this tax is calculated based on the difference between assets and debt, people were encouraged to borrow and invest in exempted assets and in assets that were hard for the government to identify. Farms and small businesses, artwork and antiques, forests and non-profit organizations are all examples of assets exempted from a tax on wealth.

The concerns of Senator Warren and other policymakers regard the ‘concentration’ of wealth in a small number of individuals. But the truth is that their wealth is mainly dispersed across the economy in productive business assets and, looking just at billionaires, only 2 percent of their wealth is accounted for by their homes and personal assets, such as cars, jewellery, and artwork.

Economist Greg Mankiw suggested a model in which there were only capitalists and workers. His findings showed that people should support taxes on wages, but not on capital. The reason is that the supply of capital is elastic or responsive to taxation – not entirely realistic -, such that setting a tax equal to zero would generate increased savings and boost investment. Consequently, worker productivity and wages would rise and, in the long run, the after-tax wages of workers would be higher under this policy rather than under a policy of imposing taxes on capital. From an average workers’ point of view, it is beneficial for the wealthy to maximize their savings and reduce consumption.

Still, the question remains:

How can we have a tax system that does not penalize beneficial wealth accumulation but also distributes the tax burden equitably? How do we ensure that the rich pay a fair share of taxes while simultaneously not discouraging savings?

Many have been the countries and cities, from Chile to Lebanon, appealing and begging for a more equal treatment and more egalitarian policies from their governments. For the sake of social harmony, tackling this issue is as urgent as it is to reach a consensus regarding climate change policies. However, wealth taxes may not be the right way to achieve the so-called general equilibrium.