Yearly Archives: 2014
Jul 8, 2014 Daniel Shaviro
If I had nothing more specific in mind, it would verge on being trite–or perhaps achieve triteness with margin to spare–to identify Thomas Piketty’s Capital in the Twenty-First Century as a 2014 publication worth noting at Jotwell. At least as of early spring, the reviews–predictably laudatory from the left, and cautious or critical from the right–have been sprouting like dandelions in Central Park, and there have also been regular (indeed, almost daily) features about Piketty and his opus, appearing in periodicals of all kinds. Most readers no doubt already know that Piketty has combined a compilation of groundbreaking empirical research about wealth distribution in multiple countries over the last few centuries with an important and provocative thesis about the likely (or at least a possible) future.
Piketty argues that high-end wealth concentration has a tendency to keep on augmenting itself in modern capitalist societies, at least for an indefinite time. He views the mid-twentieth century’s “Great Easing” of this process as reflecting distinctive and anomalous factors that make it unlikely to be repeated. He attributes it mainly to the era’s enormous shocks–in particular, the Great Depression and two calamitous world wars–and secondarily to the pursuit of economic and regulatory policies that deliberately sacrificed neoclassical market efficiency in pursuit of other objectives, or else in response to concerns about market failure that came to be dismissed with the rise of such political leaders as Ronald Reagan and Margaret Thatcher.
The catchphrase that everyone has come to know is “r > g”–that is, the rate of return to capital exceeds the growth rate of the economy, an empirical relationship that he views as highly resilient during most periods and as inevitably accentuating economic inequality given how the ownership of capital is concentrated at the top. He views this as leading to political plutocracy or oligarchy, and to the rise of a “rentier” society like that depicted in the works of Jane Austen and Honore de Balzac, in which potential returns to labor are dwarfed by those to inherited wealth. He also argues that rising wage inequality in the U.S. driven by the rise of managerial compensation, both (a) reflects corporate governance failures that deprive the amounts earned at the top of any strong relationship to marginal private (much less social) value provided, and (b) will end up mainly fueling, rather than significantly modifying, the relative rise of capital income over labor income.
Again, this much is already well-known and being vigorously debated. What I want to add here concerns the sizeable, but as yet little discussed, disjuncture between the frameworks used by Piketty on the one hand, and in much of the last three decades’ tax policy literature on the other hand. One can see the disjuncture on both sides. Piketty, for his part, appears not to have drawn much from, say, the literature concerning optimal income taxation or the income tax versus consumption tax debate. On the tax policy side, many lawyers but also economists have tended to view vertical distribution issues through a very different lens than the one he employs. It is important to evaluate the extent to which the different lenses are inherently competing as opposed to complementary, and in either case to evaluate their relative usefulness.
The main disjuncture relates to Piketty’s use of two key concepts: “capital” and the “return to capital.” While I have already noted the role that both play in Piketty’s account of the past and our possible future, how do things differ in, say, the legal academic literature concerning optimal income taxation and the income tax versus consumption tax choice?
“Capital,” to which Piketty assigns such a central role, has in a sense been banished from much recent tax policy literature. We know that, while deployed jointly with labor in economic production, it is considerably more mobile. But we sometimes think of it as earning a normal, real rate of return that is little distinguishable from zero. This conclusion reflects teasing out, as conceptually distinct from the normal rate of return, the elements of risk-taking and of inframarginal returns that may generally be labor income in substance (e.g., the entrepreneurial profits of a Bill Gates or Mark Zuckerberg). Thus, the importance of “capital” in the Piketty story raises questions that need further examination.
Turning from the macro level of economic production to the micro level of individual choice under scarcity, James Mirrlees’ foundational optimal income tax model does not even have capital. Instead, it is a one-period model in which people earn labor income and simultaneously spend it on market consumption. While the model’s omitting the element of time is a conscious simplification, adding it back can make surprisingly little difference to the analysis. Suppose we think of saving, which leaves one with capital to invest, as merely deferred consumption in what is mainly a lifetime income (and consumption) model. Even adding inheritance may not change things very significantly. Where not purely accidental (reflecting under-annuitization), it may be thought of as reflecting altruistic or warm-glow utility functions in which bequests yield bonus utility–that of the donor and the donee alike, from the former’s enjoying the prospect that the latter will derive enjoyment from spending the inheritance. Once again, we are clearly very far here from Piketty’s world.
Finally, how can one reconcile Piketty’s historical evidence, showing r > g, with viewing the normal real return to saving as scarcely distinguishable from zero? Here, the key point is that Piketty is measuring historically observed ex post rates of return, without addressing ex ante expectations or the risky versus risk-free element. By contrast, recent legal literature addressing the risk issue frequently assigns a large component to risk, viewed as conceptually distinct from the “normal” return to saving, with the breakdown being the two being evaluated based on the observed rate of return on specific, apparently risk-free assets, such as short-term Treasury notes. Here too, the relationship between the two literatures leaves us with much to think about.
One last point that could possibly lead to a narrowing of the gulf is as follows. Suppose one agrees with Piketty’s empirical prediction that, barring some disruption to observed trends, high-end wealth inequality will keep on growing significantly. It is a separate question whether one should consider this a problem. However, there is plenty of room, including in a purely utilitarian framework, to consider this highly regrettable (or at least potentially so) for reasons that are not limited to observing that poorer individuals might tend to have higher marginal utilities for a dollar than richer individuals. For example, one might believe that extreme high-end wealth concentration can have broader adverse effects on individuals’ welfare, including through its effects on the functioning of various social and political institutions. If one accepts all this, then Piketty’s work might be taken as suggesting that saving, and high ex post rates of return on saving (even if reflecting risk), may have significantly negative net externalities, even if they might also yield positive externalities of various kinds. This, too, however, serves merely to suggest possible directions for further inquiry, the outcome of which should not be regarded as preordained.
Editor’s note: For other Jotwell reviews of Thomas Piketty’s Capital in the Twenty-First Century see:
Jul 8, 2014 Neil H. Buchanan
By now, it seems that everyone has heard of the new tome from French economist Thomas Piketty. Capital in the Twenty-First Century continues to top The New York Times Bestseller list for hardcover non-fiction, which hardly seemed likely for a book that is mostly built on an analysis of European and American tax records over the last century or two.
Piketty’s book deserves all of the plaudits that it has received. It is a masterpiece of economic analysis, advancing our understanding of wealth concentration in the world’s richest democracies, and offering a provocative forecast of the future of inequality in the U.S. and elsewhere. Even the most trenchant reviews of the book that take a negative tone, such as the economist James K. Galbraith’s essay in Dissent, rightly conclude that Piketty has made an important contribution to knowledge.
For tax policy scholars, Piketty’s book would seem to be especially interesting, because he takes a strong and provocative stand in favor of wealth taxation. Although one can say that Piketty’s call for wealthy countries to work together to tax wealth is utopian (which Piketty readily admits), the point is that he has made the intellectual case to rein in growing inequality by confronting it head on. If wealth concentrations are a growing problem (and they are), then the best policy response is to reduce wealth concentrations. Taxing wealth is an obvious place to start.
This book is fascinating and ground-breaking because Piketty shows that the concentration of wealth in the U.S. (and France and the U.K.) has recently returned to historically high levels, with the wealthiest citizens today finding themselves in the same rarefied territory as their forebears in Belle Epoque France (from the 1870’s through WWI) and the U.S. Gilded Age of the Roaring Twenties.
Piketty then notes that wealth concentration can become essentially irreversible, if the return on owning wealth (interest rates, broadly conceived) is greater than the growth rate of the economy overall. That is, if the people who own the wealth can do nothing but sit back and watch their wealth grow at, say, 5% per year, while the rest of the economy grows at 3% per year, then working people (whose wages are ultimately limited by the economy’s growth rate) will fall further and further behind the idle rich.
The strong claim in the book is that this future does, indeed, await the U.S. and Europe. This is especially important, because it contradicts the feel-good conventional wisdom that a growing economy is good for everyone, rewarding people for their hard work. But if the economy is hard-wired such that income from working will inevitably shrink relative to income from being already wealthy, something is seriously askew. Piketty claims to find some empirical regularities that make the growth of this kind of “patrimonial capitalism” inevitable. Adding in the sensible observation that wealthy people can use their wealth in the political arena to change policies to their benefit, Piketty concludes that it is essential to prevent the onset of patrimonial capitalism before it becomes permanently entrenched.
As the title of this essay suggests, however, this insight is not a game-changer for tax policy. Why not? If Piketty is right, then all he has done is to strengthen the case for taxing wealth, especially inherited wealth, to prevent the world from become ruled by family dynasties. But his case essentially amounts to the argument that things will get much worse over time, unless we do something about it, so we would be wise to get started sooner rather than later. If that were the only reason to tax wealth, however, then even liberal redistributionists would have a hard time summoning a lot of energy to make Pikettian tax policy the centerpiece of their political agenda.
And if Piketty is wrong, so what? Maybe there is some long-run hope that the concentration of wealth is not inevitably going to get worse, because labor income could grow faster over time than investment income. But merely because it is not inevitable does not mean that it could not still happen. Moreover, executive salaries and other high-end earnings count as labor income, not returns to capital, so one could easily see a non-Pikettian future with labor’s share of the economy growing, but with the distribution of labor income itself becoming ever more skewed toward the wealthiest earners. Indeed, some people who think that they are scoring points against Piketty by pointing out that the U.S. does not (yet) look like a patrimonial capitalist economy are, at best, simply arguing that the extremely high income and wealth concentrations in the U.S. are the result of highly unequal wages and salaries, not inherited wealth.
In short, one could believe in a redistributive tax policy regime without having any opinion about Piketty’s book. The extra “oomph” from Piketty’s book, for tax policy purposes, at most amounts to a reminder that wealth accumulation can gain momentum over time. That is not to be ignored, but as I argued above, the extra policy impact is minimal.
The reason for the frantic response to Piketty’s book from conservatives, including full-on red baiting, is that the book has somehow captured the broad unease that people have begun to feel about rising inequality. With everyone from Pope Francis to President Obama having recently bemoaned the concentration of income and wealth in the hands of the elite few, people can now point to Piketty’s book to support the idea that there is something deeply wrong about all of this.
But without Piketty’s book, we would still have more than enough evidence that we should be increasing taxes on the rich. In my Jot last year, I endorsed a paper by Emmanuel Saez and Peter Diamond, which summarized research that they and others (including Piketty himself) have published over the last decade or so. That research shows that both income and wealth can be taxed, even at high levels for the richest people, without the bad economic consequences that anti-tax ideologues take as gospel.
In other words, Piketty’s book is not all that important for tax policy, because Piketty’s other work (and that of his frequent co-authors) has already changed the debate about tax policy. We are now living in a changed world, where we know that policies to redistribute income and wealth can decrease inequality while improving the economy. If it took the publication of Piketty’s book to mobilize politicians and the public to do something about inequality, so be it. But we should not imagine that the case for redistribution rises and falls on the book’s predictions. Inequality is the defining challenge of the twenty-first century. Now, we just need to do something about it.
Editor’s note: For other Jotwell reviews of Thomas Piketty’s Capital in the Twenty-First Century see:
Jun 10, 2014 Bridget J. Crawford
Ding, dong, the Rule Against Perpetuities is dead. Well, in about half of all states. No longer must property interests vest within “lives in being plus twenty-one years.” Wealthy individuals can put their money in trust forever. Even better, when that trust is created in a state without an income tax, and the trust assets never become included in the estate of a beneficiary, assets transferred to a perpetual trust remain … perpetually tax-free. What is the explanation behind the rush among states to repeal the RAP, beginning in the mid-1990’s? Professors Robert Sitkoff and Max Schanzenbach, among others, have pointed to the generation-skipping transfer tax as the engine driving repeal. Other theories include settlors’ desires for post-mortem control or creditor protection for beneficiaries. Enter into the conversation Grayson M.P. McCouch with his concise and well-written article, Who Killed the Rule Against Perpetuities? McCouch argues that the repeal of RAP is as much the work of bankers and lawyers as it is of any tax law.
McCouch begins his essay by looking at the use of perpetual trusts before and after the enactment of the generation-skipping transfer tax (and its $1 million exemption) in 1986. Prior to 1986, it was possible to create a perpetual trust in Delaware, Wisconsin and Idaho, albeit via different mechanisms or legal exceptions. Yet those states did not have a lion’s share of the trust business, which McCouch attributes to settlors’ ability to achieve objectives within the perpetuities period of their chosen local jurisdiction and a sense that the tax benefits of creating a trust in Delaware, Wisconsin or Idaho were “incremental” at best. After 1986, the generation-skipping transfer tax inspired a search for ways to avoid technical problems that could arise even in the existing perpetual jurisdictions. (McCouch explains the “Delaware tax trap” problem with such clarity and elegance that the article is worth reading for that single paragraph alone.)
McCouch goes on to ask the more difficult question of why the period of rapid perpetuities reform did not begin until 1995 with Delaware’s repeal of the rule, almost 10 years after the enactment of the generation-skipping transfer tax. He suggests that only with the economic boom of the later 1990s did lawyers and bankers start to market perpetual trusts in a way that appealed to the dynastic aspirations of the newly rich. He observes, “Perpetual trusts, like other upscale goods and services, are sold at retail to well-heeled consumers through appeals to vanity, anxiety, and ambition, as well as tangible financial returns.” McCouch suggests that bankers and lawyers—not their clients or the host jurisdictions—are the real beneficiaries of the repeal of the rule against perpetuities.
For readers who are interested in the relationship between and among tax law, legal reform and professional culture and change, this article provides much food for thought. Many states that have repealed the rule against perpetuities have also abolished income taxation of trusts and their beneficiaries. For that reason, even states with a booming trust business may not receive any direct tax revenue from it. But the ancillary effects of increased trust business—more jobs created in that state—should not be underestimated. It may be that some lawyers and bankers have benefitted handsomely from perpetuities reform, but so has that same reform given rise to a new cadre of supporting professionals who pay taxes and spend their paychecks in those states. McCouch’s article undoubtedly will serve as the inspiration for additional scholarship in this area.
Apr 8, 2014 Diane Ring
Why do certain ideas gain traction in policy debates? Regardless of one’s field of study, this question cannot be ignored. The challenge is where to look for answers. The 2013 article by political scientist Mai’a Davis Cross, Rethinking Epistemic Communities Twenty Years Later, is one new and relevant resource in this quest. For more than a decade international tax scholars have drawn on the work of international relations (IR) theory and scholarship. In part, this attention by the tax community was out of necessity. Although it was apparent that international tax policy was subject to and the product of the same basic forces animating the classic subjects of IR study (e.g., military, trade, and environmental policy) tax policy formation traditionally has received scant attention from this branch of political science research. Yet the ideas being developed in IR theory would prove important to a serious and sophisticated understanding of “international tax relations.” Thus, international tax scholars began looking across the divide of research fields to consider the value added from the IR theory work of political scientists such as Cross.
Rethinking Epistemic Communities emerges from one broad strand of IR theory, cognitivism, which explores how we know what we want, what we value, and what we seek. That is, even if much of international relations activity concerns the use of power and/or bargaining games to secure “desired” outcomes, how do countries and other key actors determine what they want? Certainly in some cases the parameters of what a country seeks to achieve may seem relatively clear, but in many others the outcome or at least its particular form, is less obvious. Under the broad umbrella of cognitivist theory, scholars devoted increased attention to the concept of “epistemic communities”– the idea of a “community of experts” who through their own internal standards might develop some measure of “consensus” on an issue. Because of the recognized special knowledge of this community, the consensus ultimately would be influential in shaping outcomes sought by decision. The prototypical epistemic community was a science “community” coalescing around a solution to a problem that would form the basis of international agreement among a number of states. But international tax policy seemed a fertile ground for exploring the potential influence of epistemic communities. Who is formulating ideas of successful or sensible international tax policy? When and how do they achieve credibility? Does the epistemic community model fit?
International tax scholarship has begun to explore these ideas a little, but as one of those interested in the potential for this line of inquiry, I have been eagerly awaiting more guidance and input from the IR literature. However, despite the fact that these ideas were actively introduced into the IR literature in the 1990s, subsequent years have generated less scholarship than might have been hoped or anticipated. Against that backdrop, Rethinking Epistemic Communities offers hope and guidance for a renewed exploration of this concept. As Cross articulates, the study of epistemic communities, particularly in the context of transnational global governance highlights how both state actors and the increasingly important non-state actors are affected by epistemic communities and the constructions of norms, goals, and shared understandings. She acknowledges certain criticisms of the concept but sees them not so much as a constraint on further research but rather a road map of the important questions that future scholarship should address.
For readers already familiar with the topic, the article provides a great contemporary snapshot of the current debates and a thoughtful consideration of next steps. For those newer to the ideas of epistemic communities, the article offers a concise but contextualized overview that goes beyond mere definition and example to offer perspective on the role and value of continued exploration of these issues. And finally, for all readers Cross clarifies some enduring misconceptions (e.g., epistemic communities were never envisioned as exclusively the domain of science; expert influence is not synonymous with ideal policy recommendations) and presents a valuable compilation of the significant scholarship on epistemic communities of the past decade. Every scholar should be concerned with the origin of influential ideas and policy recommendations in the global arena even if these questions do not take center stage on the research agenda. Cross’s article proves a useful entry point into the current study of epistemic communities.
Cite as: Diane Ring,
The Influence of Experts, JOTWELL
(April 8, 2014) (reviewing Mai’a K. Davis Cross,
Rethinking Epistemic Communities Twenty Years Later, 39
Rev. of Int’l Studies 137 (2013)),
https://tax.jotwell.com/the-influence-of-experts/.
Mar 10, 2014 Kim Brooks
Richard Eccleston, The Dynamics of Global Economic Governance: The Financial Crisis, the OECD and the Politics of International Tax Cooperation (Edward Elgar, Cheltenham, 2012).
The breadth of global tax evasion has made public headlines and brought attention to the initiatives of the Organisation for Economic Co-operation and Development (OECD), alongside the G20 and other international bodies. As Richard Eccleston reports, “the sheer magnitude of the threat that international tax evasion poses, denying governments approximately $250 billion per year – more than 15 times the sum spent on humanitarian aid globally in 2011 – ensures that the issue is gaining prominence on the international political agenda.” (P. 33) When taxpayers evade their obligations, the world suffers. How could anyone not be gripped?
The Dynamics of Global Economic Governance: The Financial Crisis, the OECD and the Politics of International Tax Cooperation is a welcome addition to the literature on the regulatory responses to international tax evasion, authored in the light of the global financial crisis. Richard Eccleston, a political scientist in Tasmania, shifts the typical legal scholar’s lens from the legal frameworks that facilitate tax evasion to a careful and insightful exploration or the role of political actors in facilitating tax cooperation in response to that evasion. The work is supported by interviews with more than 40 national tax officials, business and NGO representatives, OECD and UN staff.
From a political science perspective, I understand that the work distinguishes itself from prior contributions because Eccleston argues that the financial crisis created the bench from which the OECD was able to successfully agenda-set and promote international tax cooperation among the G20 leaders. This discovery runs counter to at least some of the previous political science and international relations work in the area, which has found only limited evidence that international organisations, like the OECD, shape national policy.
Global Economic Governance is written for tax junkies. It is shot through with detail, carefully crafted, and densely written. For those with a mild interest in the area, the chapter to spend time on is the first one, and most specifically the section that details the strategies used in international tax evasion: private banking, mass-marketed tax schemes, opaque corporate structures, shell entities, trusts, rules that obscure real ownership, methods of disguising real corporate ownership, and exempt entities. This reads like the stuff of a good (or perhaps average) Tom Cruise movie: nevertheless, it is daily fare for those who seek to avoid tax liability around the world.
Chapter 2 provides a sophisticated account of the different methodological approaches and theories that could inform this kind of political science work and ultimately details the theoretically-informed narrative method Eccleston has embraced, which uses a combination of deductive and inductive strategies to assess theories of international regime change.
For those who like tax policy, dig in from Chapters 3 to 6. Those chapters start with a review of the OECD’s Harmful Tax Competition initiative. In its early instantiation, that initiative sought to alter the practices of countries with no or only nominal taxes, no effective exchange of information, no transparency, and where no substantial economic activity was required for an economic actor to be associated with the jurisdiction. Those early objectives were altered and eroded as the project evolved.
As someone who loves tax, I’ve spent many a dinner debating the Harmful Tax Competition initiative: Was that project effective? Could it have been? What role did the different OECD country-actors (especially Switzerland and the United States) play in the adjustment of the aims of the initiative over time? What role did that initiative play in the push to information exchange and transparency that followed the financial crisis in a new wave of proposals (tax transparency) from the OECD?
Chapters 3 through 6 weigh in on those questions, and others. Eccleston concludes that despite what he considers the failure of the OECD’s early efforts, its work following the financial crisis was instrumental in shaping national policy responses. The OECD served as an advocate for the G20 to endorse tax transparency measures. More fodder for those of us who like to debate these matters that are so essential to global tax governance.
In Chapter 6, the last substantive chapter, Eccleston focuses on the potential of tax transparency initiatives, the OECD’s post-financial-crisis focus. The objective of promoting tax transparency, at least in terms of the OECD work, has found its chief realization in the proliferation of bilateral tax information exchange agreements. I agree entirely with Eccleston’s less optimistic assessment of the potential effectiveness of those agreements. Without automatic information exchange, it’s hard to imagine that the scope of international tax evasion will be reduced. That said, the OECD’s most recent move (on February 13, 2014) to release a model Competent Authority Agreement and Common Reporting Standard for automatic exchange of financial account information might provide some very modest grounds for cautious optimism. Eccleston’s work suggests that it may get some traction.
If you love tax law and policy, Global Economic Governance should be on your reading list. Don’t expect light reading, but do expect to come away with a richer sense of the contributions political scientists can make to our understanding of the tax evasion challenges ahead and the potential role of institutional actors, for better or worse.
Cite as: Kim Brooks,
After the Financial Crisis, JOTWELL
(March 10, 2014) (reviewing
Richard Eccleston,
The Dynamics of Global Economic Governance: The Financial Crisis, the OECD and the Politics of International Tax Cooperation (Edward Elgar, Cheltenham, 2012)),
https://tax.jotwell.com/after-the-financial-crisis/.
