June 4, 2008

June 4, 2008 | Commentary on Economy

Soak the Rich, We All Get Wet

You know liberals are feeling emboldened when lawmakers gleefully plot new ways to soak the rich. New York City Council Speaker Christine Quinn is the latest example, as she tests the waters for an income tax surcharge for those making more than $1 million a year.

Speaker Quinn joins a growing chorus of the left: Senator Obama, the presumptive Democratic nominee, has suggested raising workers' top combined federal tax rate from 36.2 to 54.8 percent. Chairman Charlie Rangel of the powerful House Ways and Means Committee has legislation raising the top rate to 45.4 percent. The House of Representatives recently included a 0.5 percent millionaires' surcharge to fund expanded Veterans' benefits.

It's extraordinary how liberals understand the power of economic incentives, but only when it suits their purposes. They propose higher tobacco taxes to discourage smoking. They propose higher taxes on liquor to discourage drinking. They propose vastly higher taxes through cap-and-trade contraptions to reduce carbon emissions.

So what do they expect will happen when they raise income tax rates?

It's not that New York's big earners don't pay a lot of tax already. When you add the 35 percent top federal tax rate, the 1.2 percent Medicare payroll tax, New York State's almost 7 percent, and New York City's almost 4 percent, the burden on the city's upper-income residents is enormous.

Yet along comes Speaker Quinn at Crain's New York Business forum last week suggesting a millionaire's surtax for 2010. But don't fret, she added, "I don't think a proposal of taxing people who make $200,000, $250,000 . . . makes sense for next year."

Note the end of the sentence - "for next year." Translation - first we get the millionaires' surcharge; then we move the surcharge to taxpayers at lower income levels. Pretty soon, you, too could be (taxed like) a millionaire.

And the justification for raising taxes? A gloomy economic forecast for 2010 means the budget will need more revenues.

But Quinn will be unpleasantly surprised when her plan fails to bridge the shortfall. Incentives matter, and not just for tobacco and carbon emissions. Higher tax rates discourage workers from putting in the extra time and effort that generates additional income. Especially for millionaires, who have the greatest flexibility of all to work less and play more golf, shift income to tax-exempt benefits, delay when they receive income through devices like stock options, and move to cities and states with less punitive taxes.

Fifteen years ago, investment economist Kurt Hauser found that no matter how much you increased the marginal tax rate, tax revenue as a percentage of Gross Domestic Product never increased. Researcher David Ranson recently updated those numbers and found nothing has changed - even as top tax rates have dropped from 90 percent to less than 40 percent in the US, the revenue percentage remains around 19.5 percent of GDP. You can charge the rich more, they just make less.

There's no reason to be concerned for the estimated 26,000 New York City millionaires who would be affected by Quinn's surtax. Millionaires can and will take care of themselves. But higher tax rates discourage economic activity broadly, meaning fewer jobs, lower wages and fewer opportunities for all the rest of us. Those who propose raising taxes on the rich are really proposing lower wages for all other workers. That's an odd policy for people professing to be on the side of regular Joes and Janes.

Before she acts, Speaker Quinn should chat with Governor Jennifer Granholm of Michigan. Suffering from a self-inflicted recession now in its 18th month (it started long before the housing crisis), Michigan has the nation's highest unemployment rate at 6.9 percent. Last year Michigan faced a large revenue shortfall. So Granholm pushed through big tax rate increases. The result? Unemployment remained high and tax receipts dropped by 4 percent. Michigan homeowners and businesses fled for states with lower taxes.

That's what can happen if the City Council jacks income tax rates further. We live in a global economy. Much of New York City's economic life is tied to Big Finance, which is the most global and mobile of all businesses.

Would a few thousand millionaires escaping a surtax really matter? You bet. Just imagine how many jobs and New York businesses are tied to the performance of those big-dollar high-performers who could just as easily be performing elsewhere.

It once seemed impossible that Big Auto would fail Detroit, just as it seems improbable now that Big Finance will fail New York. But it can, and will, happen if initiatives such as the $1 million surcharge pass. The rich have plenty of other places to make and spend their money.

J.D. Foster is the Norman B. Ture Senior Fellow in the Economics of Fiscal Policy at The Heritage Foundation (heritage.org).

About the Author

J.D. Foster, Ph.D. Norman B. Ture Senior Fellow in the Economics of Fiscal Policy
Thomas A. Roe Institute for Economic Policy Studies

First appeared in the NY Post