There is a big push to implement wealth taxes, partly as a way of raising revenue, but mostly as a punitive measure to reduce inequality. In fact, our politicians have been refreshingly candid: The goal is to punish the rich, even if it harms the overall economy. This is pure naked economic puritanism, of the moralistic sort.
But how can that be? Remember, we already tax income. If you want to tax income more, or less, then at least that is something that is an established activity of government, at the state and local levels.
After taxes are taken from your income, you spend some of it. And save the rest. Unsurprisingly, people with very high incomes spend a large amount, but save a large percentage, of their after-tax incomes. These savings are not isolated from the economy, buried in old mayonnaise jars in the garden, or stuffed under mattresses. This wealth, the accumulation of income not taxed or spent on consumption, is invested. Liquidity is the human growth hormone of the capitalist economy, directed toward potentially profitable opportunities to convert abstract purchasing power (money) into actual productive resources (factories, software, bricks and mortar stores, and online platforms).
Now, from that foundation, how should we think about a wealth tax? An income tax takes a part of the flow of income in a given year, so a wealth tax is targeting the stock of savings left over from income that has already been taxed once. It goes like this:
“You have money left after your income is taxed, and you spend part of the money? Give us some of that.”
Later: “Wait, you still have money? Give us some.”
Forever. That’s a wealth tax.
I explained this recently to a friend of mine, a professor. She said, “Sure, it sounds bad when you say it that way!” Well, what other way is there, folks?
The answer is that there is very much another way to think about it. And it involves Tuh, the dog.
The usual argument for a wealth tax is that wealth is created in partnership with society, and that the government, particularly the police, the courts, and the military, all make the protection and enjoyment of that wealth possible. Ipso facto, however much the wealthy have already paid in taxes, they owe more, because they still have wealth left. It is, according to my friends on the left, the “social contract,” which everyone—including the wealthy—agree to by living in society and creating things that society values.
I suggest we pursue that line of reasoning, as if a contract were in fact what’s going on. Imagine that I am building a new house, and I would like this house to contain a well-functioning toilet. I contact a plumber, and the plumber and I agree on a specific toilet, installed in a particular way, at a price we both agree. As I have argued before, every voluntary agreement on price requires (literally, requires) a disagreement about value. If I pay the plumber $1,500 for the parts, equipment, and labor to have the toilet installed, I must value it more than that, say $10,000 (a house without a toilet is not good). And the plumber is highly skilled, and can obtain the parts and equipment for $300, which means he makes a profit of $1,200 for the six hours of labor required, or $200 per hour, which is decent pay.
Of course, I’m benefitting $8,500 (I value the toilet at $10,000, but only have to pay $1,500), but that’s the nice thing about markets. The plumber would have liked to charge more, but there is a competitive market for expert plumbing services, and if he had charged more I would have contracted with someone else. The plumber does the work, the toilet works and looks good, and I pay him the $1,500.
The next day, the plumber knocks on my door. He says, “Look, I was thinking. Your house is worth much more with a toilet than without, and so I created a lot of value for you by doing my job. After thinking about it, I decided that you should pay me more, since the toilet is so useful.”
I point out that in a competitive market place the price of a service is generally based on how much it costs to produce, not how valuable the service is. This point was made famous in the way that people solved Adam Smith’s famous “diamond and water paradox,” which noted that water, while extremely valuable, could be obtained for a remarkably low price.
The plumber was unconvinced, of course. But we had a contract, which I showed him, and he reluctantly went on his way.
My house is now nearing completion, and I realize that having security protection will, like the toilet, make the house much more valuable. Being able to live in the house without fear of being attacked or robbed is something I am perfectly willing to pay for. How much should this service cost? If it were private security, it would be pretty expensive. But security services are a public good, meaning that providing security for the entire neighborhood is relatively cheap on a per-household basis. I contract with the local security firm, “Tuh’s Security, Inc.” (Motto: “Our bite is worse than our bark!”)
Turns out Tuh is a big, strong, not-very-bright dog. But Tuh doesn’t need to be too bright, just bright enough to bite anyone who breaks the law, takes property, or threatens violence. I pay the first monthly installment for security services, and everything is going great. But then one day I come home, and there is Tuh, sitting on my coach, drinking my best Scotch, watching Fußball-Bundesliga on my big screen TV. This is especially disturbing since I don’t subscribe to Fußball-Bundesliga (it’s an expensive, separate cable package).
I yell, “Tuh! Bad dog! BAD! Get off my couch! And how dare you add channels to my cable package? I don’t want that!”
Tuh doesn’t move, but he looks at me. Then I notice that he is cleaning my Kalashnikov AK-47, after he pried open my gun cabinet. Things get quiet.
Tuh says, “Look, I was thinking. Your house is worth much more with security than without, and so I created a lot of value for you by doing my job. After thinking about it, I decided that you should pay me more, since protecting your wealth is so useful.”
I try to be patient (Tuh is not very bright), and explain that, just like the plumber, the fact that the contracted service provides me with a lot of value doesn’t mean that I owe more for security than it costs to provide. And since security is actually a public good, it’s actually cheaper than private goods such as toilets. So, no, I am not going to pay Tuh more, either, even though he’s right that I value his service more than I paid for it. As Don Draper said, “That’s what the money is for!”
And again I tell him to get off the couch. By this time, Tuh has reassembled the AK-47 (they are pretty simple, mechanically), and I notice that puts a loaded magazine into the gun, and chambers a round, “ka-chunk.”
I ask, “Tuh, what you are doing?”
Tuh says, in a quiet but firm voice, “Like I said, I’ve been thinking. The social contract is different from private contracts. I have the gun, and I make the law. The law says that you have to pay more, and you have to keep paying as long as you have any wealth left. I’m not providing protection, I’m deciding how much wealth is beneficial for the society to allow you to keep.”
Now I’m mad. I didn’t consent to this, so it’s not a contract. “Tuh! Stay! No, Tuh, Stay! Stay, Tuh! STAY, TUH! STA…T! STATE!”
Dang. Tuh has become the state.
That’s a silly story, of course. (And I should note that it is derived from Anthony de Jasay’s remarkable essay, “Your Dog Owns Your House,” though Tony hated my more theatrical version). The point is that it is common to argue that the job of government is to protect wealth, and that wealth owners should have to pay for that service. Why would they get it for free?
So far, so good. But then the argument for wealth taxes goes off the rails. Security protection is a public good, so it’s not a “per person” sort of service. More importantly, there are economies of scale, so security protection is not a “per dollar” service, either.
But wealth taxes are premised on the idea that since security services make wealth more valuable, the wealthy have to pay a share of the value “created” by the state. But that’s ridiculous, because the value was created by the investor, entrepreneur, or performer who earned a huge income and paid taxes on it. The “social contract” goes no further than requiring that the state protect and secure the value that the private individual created.
When the plumber came back and said that the house is more valuable with a toilet, he was surely correct. But the plumber has no right to recontract after the fact and demand more of that value. Neither does Tuh, the provider of security. The difference is that Tuh has guns, because the provision of “security services” necessarily creates an organization with a comparative advantage in using violence.
But that’s just a repackaging of the argument by Thrasymachus, that “justice is nothing other than the interest of the stronger.” The state is not entitled to take wealth just because it can. And we should all remember that wealth is created by private, voluntary action, not by some big dumb dog named Tuh.