We are definitely not Greece! But if we do this we could get a little bit closer…

July 24th, 2015 at 1:34 pm

First, we’re not Greece by a huge long shot, and anyone who makes this comparison should be assiduously avoided (a bit more background here, if you like, but trust me on this one).

Second, one way in which Greece really dropped its fiscal ball was in its failure to collect taxes. According to this piece, 90% (!!) of their tax receipts went uncollected in 2010.

So, one way we could be more like Greece if we wanted to would be to eviscerate our tax collection system. But why would anyone want to do that?

For that, you’ve got to read the latest on proposed cuts to the IRS in Republican proposals, now featuring the outsourcing of tax enforcement to private debt collection agencies (what could possibly go wrong with that??), from my CBPP colleague Chuck Marr. It is some truly scary sh__.



The tilt, or lack thereof, in the tax code

July 24th, 2015 at 11:50 am

I recently touted the benefits of a financial transaction tax (FTT), and in the intro, I made a comment about how our tax code is titled toward the wealthy. Chris Edwards very reasonably takes issue, correctly noting that our federal tax code is, in fact, quite progressive, meaning that low-income households face a much lower tax burden as a share of their income than higher income households.

My piece wasn’t about the broader code so I didn’t take the time to elaborate what I meant. My bad, but let me do that here.

The fact is that our tax system contains a large number of provisions that disproportionately benefit wealthy taxpayers, many of whom are the same folks on whom the incidence of the FTT will fall. So while I did not sufficiently articulate the point, for which Chris fairly dings me, I was trying to say that one distributional rationale for the FTT is that it pushes against some of the tax preferences I’m about to show you.

For example, the following chart shows how much after-tax incomes go up for different income classes based on the tax code’s preferential rates for capital gains and dividends:


The pattern is clearly “tilted towards the wealthy,” as low and middle-class households get zip from this part of the code.

Turning more broadly to the tax code’s largest special preferences, the regressive skew towards the top is muted relative to the prior chart but still evident. The top 1 percent gets a full 16.6 % of the benefit of these deductions, exemptions, and credits, almost as much as the entire bottom 40% of the population.


These regressive aspects of the federal tax code are particularly operative in the effective rates (taxes as a share of income) paid by the very richest taxpayers. The average tax rate for the top 400 taxpayers in 2012 was only 16.7%, not that different from the effective rates for upper-middle class households shown in Chris’s tables.

Finally, unlike their federal counterparts, state and local taxes are regressive, as those in the bottom fifth pay twice the average rate faced by the top 1%. When you put it all together (last figure below), the all-in pattern of effective rates is still mildly progressive, but only up to about the fourth income quintile, where average incomes are around $80K.



Source: Institute for Taxation and Economic Policy

So good for Chris for pushing me to explain myself, but more to the point, I take the fact that he said nothing about the central theme of the oped—it’s time to seriously consider implementing a small FTT—to be an implicit endorsement.


Pushing back on “quarterly capitalism” and incentivizing more investment

July 21st, 2015 at 9:37 am

Interesting news out of the HRC campaign yesterday. They’re considering tweaking the capital gains tax rate schedule to incent more patient holdings and push back on what they call “quarterly capitalism.” Though they haven’t formally announced anything, they’re talking about raising the top rate on assets held for the medium term from its current 24% to a number above the 28% proposed by President Obama in his latest budget, and then gradually lowering it for longer-held investments.

First, the motivation is correct. See the second figure in this post, showing that as activist investors have successfully pushed for more share buybacks and dividend payouts, the use of retained earnings for investment has tanked. That’s one reason why we’re stuck in a sluggish growth regime, even with very low interest rates.

From the WSJ:

U.S. companies in the S&P 500 index spent a median 36% of operating cash flow in 2013 on their buybacks and dividends, moves designed to deliver gains to current shareholders, compared with 18% in 2003. Over that same period, those companies cut spending on plants and equipment to 29% of operating cash flow, from 33% in 2003, according to S&P Capital IQ. When the companies have an activist shareholder, the changes are even sharper, the data show.

Second, the key move here in terms of tax policy, IMHO, is to nudge the capital gains rate closer to the rates of regular income. That both boosts the incentives to hold and reduces the (much stronger) incentive to define your income so as to take advantage of the low cap gains rate.

Remember JB’s first rule of tax policy: the moment there’s a preferential tax rate on X type of income, everyone with a tax lawyer suddenly discovers that X is in fact what they’ve been holding scads of all along. It’s a real coinky-dink!

Third, as tax maven Chuck Marr likes to say, the fact that cap gains is only taxed at realization is already a pretty big incentive to hold onto assets. So, while I think the HRC team is on the right track here, I’d consider more direct policies targeted at excessive buybacks and dividend payouts.

For example, as William Lazonick has explained, there’s an SEC rule that allows corporate executives to engage in stock buybacks as long as a) they announce the buyback program and b) the amount of shares bought back “does not exceed a ‘safe harbor’ [from prosecution for price manipulation] of 25% of the previous four weeks’ average daily trading volume.”

There are two major problems with this rule: first, the 25% limit is too high. Large, highly traded companies like Exxon Mobil and Apple can regularly purchase hundreds of millions worth of their own shares. Second, the fact that the SEC does not require companies to report daily stock repurchases makes the rule impossible to regulate without a special investigation, which the SEC rarely launches. As Lazonick puts it, the rule essentially legalizes “stock market manipulation through open-market repurchases.”

These problems could be fixed by lowering the “safe harbor” share—Lazonick goes further and would ban open-market repurchasing, allowing only “tender” offers (where the company offers to buy outstanding shares at a premium)—and increasing reporting requirements. Either way, public companies who believed their shares are undervalued could still raise their value by buying back shares—just not as much as today, as these rule changes would make such activities less common.

Finally, while I totally endorse these SEC changes (and have a piece out soon on how a financial transaction tax could also help here), I may differ a bit from fellow travelers in this investment incentive space.

Warren Buffet often hits this theme: “Never did anyone mention taxes as a reason to forgo an investment opportunity that I offered.” What drives investment choices is the expected return on that investment. That’s after-tax return, so of course taxes matter. But my sense is that there’s been a dearth of decent investment opportunities with promising returns, again, even at very low interest rates.

What would change that? Actually, the low inflation environment is unhelpful here as it drives low expectations by companies regarding future earnings; firms sitting on cash can beat inflation with financial “innovations” rather than investments in new machines, plants, and workers.

But at the end of the day, what would help most would be good, old-fashioned stronger demand. OTEers know that for me, this also implies a lower trade deficit. The recent strength of the dollar has not been helpful in this regard, as our manufacturers, a key source of capital investment, have been losing competitive ground (the stronger dollar also contributes to lower inflation).

So nothing wrong and a lot right with making policy changes to incent more patient capital and push back on “quarterly capitalism.” But I suspect that’s not where the big investment elasticities lie. To go there, we need more robust demand and growth.