“Tax the rich!” is the battle cry of the Occupy Wall Street movement and its friends in Washington. Of course, few left-of-center politicians will publicly admit they desire a return to the 1950s tax code where top marginal rates were over 90 percent. But liberal politicians and policy makers sure love to talk about that decade, if only to use it as an economic example of how high tax rates can coexist with strong economic growth. “A lot of people got rich—and they had to pay a top tax rate of 90 percent” is what Michael Moore said in “Capitalism: A Love Story.” Indeed, from 1950 to 1963, the top marginal rate was either 91 percent or 92 percent and average annual GDP growth was a peppy 3.67 percent. But there are a few problems with this story:
1. Statutory tax rates often aren’t what they seem. Liberals should know this. They always point out how the average effective U.S. corporate tax rate is significantly below the federal statutory rate of 35 percent thanks to various tax breaks. (Though the average effective rate is still higher than what our international competitors pay). Same with individual tax rates in the 1950s and early 1960s. The top effective tax rate was probably somewhere between 50-60 percent. That is higher than today, but perhaps more tolerable in an era of superlow interest rates, cheap energy, and where the rest of the world is recovering from war. Oh, and the economy grew 5 percent annually for four years after taxes were cut sharply in 1964.
2. Statutory tax rates can provide a misleading picture of the income tax burden. From 1950 to 1963, income tax revenue averaged 7.5 percent of GDP. During the presidency of George W. Bush—counting the years when the Bush tax cuts were in effect and the top rate was 35 percent—income tax revenue averaged 7.7 percent of GDP. This could suggest rates are right around the Laffer Curve equilibrium point in the current economy. Indeed, the following chart from the WSJ makes this calculation over a variety of time periods:
3. Even economists in favor of tax hikes think extremely high rates on anyone but the supersuperrich would be disastrous. Thomas Piketty is known for his work on taxes and income inequality. He has proposed a top marginal rate of 80 percent. But not on very many people:
Does the fact that the United States did it in the past necessarily imply that we should immediately return to 80-90 percent top marginal rates? Of course not. … It could be that the right level is 70 or 60 percent. … Most importantly, I said very explicitly that I was talking about very, very high incomes, and that at least 99.5 percent of the population would be unaffected by this new top rate. I proposed a €1m threshold (about 0.2 percent for the American population, i.e. 99.8 percent of the population would be unaffected), but I made clear that the right threshold might be €2m (less than 0.1 percent of the American population). I firmly believe that imposing a 70 or 80 percent marginal rate on large segments of the population (say, 25 percent of the population, or even 10 percent, or even a few percentage points) would lead to an economic disaster. And I made very clear that the reason I propose to focus on the very top end because this is where the labour market and the pay determination process are not working properly—or, more accurately, have completely gotten out of hands.
4. Tax rates matter. To escape its debt trap, American needs to cut spending and grow faster. And low marginal tax rates are a crucial element in revving up the economic engine. We need more entrepreneurs and more innovation. We need to reward people (and their backers) for taking the financial risks inherent in creative destruction. Economic analyst Bruce Bartlett likes to say “it’s time for supply-siders to declare victory and go home.” But not when so many want to go back to the ’50s.