That’s prompted some presidential candidates to argue it’s time to raise taxes on the rich. Bernie Sanders is leading the charge and would create a new top income tax rate of 54.2 percent, up from the current 39.6 percent. Hillary Clinton would institute the so-called Buffett rule to require individuals with adjusted gross incomes of over US$1 million to pay an effective rate of at least 30 percent, and she’d add a new 4 percent surcharge on anyone who pulls in $5 million or more.
As White House aspirants, other politicians and voters debate whether it’s time to once again soak the rich to spread their wealth around, it’s helpful to consider what prompted past governments – ours and others – to raise their taxes.
We investigated tax debates and policies in 20 countries from 1800 to the present for our new book, “Taxing the Rich: A History of Fiscal Fairness in the United States and Europe.” Our research shows that it is changes in beliefs about fairness – and not economic inequality or the need for revenue alone – that have driven the major variations in taxes on high incomes and wealth over the last two centuries.
In general, societies tax the rich when people believe that the state has privileged the wealthy, and so fairness demands that the rich be taxed more heavily than the rest. To understand whether today’s voters are ready to tax the rich requires identifying the political and economic conditions that drive these beliefs.
Debates about taxation typically revolve around self-interest (no one likes paying taxes), economic efficiency (tax policies should be good for economic growth) and fairness (the state should treat citizens as equals).
While it’s easy to see how self-interest and considerations about economic growth influence changes in tax policy, it’s harder to discern how fairness fits into the equation. In fact, our research suggests that fairness has played a key role in either generating a consensus around raising taxes on the rich or lowering them.
Politicians and others tend to use three arguments about fairness to support or oppose taxing the well-to-do:
“Equal treatment” arguments claim that everyone should be taxed at the same rate, just like everyone has one vote.
“Ability to pay” arguments contend that states should tax the rich at higher rates because they can better afford to pay more compared with everyone else.
“Compensatory” arguments suggest that it is fair to tax the rich at higher rates when this compensates for unequal treatment by the state in some other policy area.
Over the last 200 years, of all the varying arguments used to support raising taxes on the rich, our research suggests that compensatory claims, especially during mass mobilization wars, have been the most powerful.
When these arguments are credible, a consensus for taxing the rich shapes policymaking.
Time to tax the wealthy
Compensatory arguments were important in the early development of income tax systems in the 19th century when it was argued that income taxes on the rich were necessary to counterbalance heavy indirect taxes (e.g., sales taxes) that fell disproportionately on the poor and middle class.
The chart below shows when countries raised or lowered taxes on the rich, based on average top income and inheritance rates since 1800.
As you can see, the real watershed moment for taxing the rich for many countries came in 1914. The era of the two world wars and their aftermath was one in which governments taxed the rich at rates that would have previously seemed unimaginable.
In fact, as our research shows, the most significant compensatory-based justifications for raising taxes on the rich have been to preserve equal sacrifice in wars of mass mobilization, such as World Wars I and II. This was true for both governments of the left and the right.
These conflicts forced states to raise large armies through conscription, and citizens and politicians alike argued that there should be an equivalent conscription of wealth.
The next chart shows this effect clearly by comparing average rates in countries that did and did not mobilize for World War I.
If mobilization for mass warfare is when major changes in taxes on the rich occurred, how do we know that the effect of these wars was due to changes in fairness considerations?
As we examine in detail in our book, when countries shifted from peace to war, or the reverse, there was also a shift in the type of tax fairness arguments made. During times of peace, debates about whether it is fair to tax the rich center on equal treatment versus ability to pay arguments. It was primarily during times of war that supporters of taxing the rich were able to make compensatory arguments.
An example of this type of argument goes like this: if the poor and middle class are doing the fighting, then the rich should be asked to pay more for the war effort. Or, if some wealthy individuals benefit from war profits, then this creates another compensatory argument for taxing the rich.
The following graph shows how the composition of fairness arguments changed in parliamentary debates in the UK before and after World War I.
We also found that these compensatory arguments had the biggest impact in democracies, such as the United Kingdom and United States, in which the idea that citizens should be treated as equals is the strongest.
Why taxes on the rich declined
Although tax rates on the rich stayed high for a few decades after the major wars of the 20th century, they have declined substantially over the last 40 years. Does this decline give us further clues about the long-run determinants of what arguments work to impose higher taxes on the rich?
The most important factor has been that in an era in which military technology favors more limited forms of warfare – cruise missiles and drones rather than boots on the ground – the wartime compensatory arguments of old can no longer be used in national tax debates. Without conscription, these arguments are not credible.
In this new technological era, advocates of reducing taxes on the rich have argued that fairness demands equal treatment, while proponents of taxing the rich have been forced to fall back on traditional ability to pay arguments – that the wealthy should pay more because they can afford it. With compensatory arguments gone, in most countries the consensus for high taxes on the rich eroded over time.
We also considered the role that changing concerns about economic incentives and the role of globalization may have played in the decline in rates but found little evidence when it comes to personal income and wealth taxes.
What this means today
What can we conclude for today’s tax debates from all of this?
Our research suggests we should not expect high and rising inequality alone to lead to a return to the high top tax rates of the post-war era, when U.S. taxes peaked at over 90 percent. This is the lesson to draw from history, and it also fits with what many American voters prefer today.
When we conducted a survey for our book on a representative sample of Americans, we found only minority support for implementing a tax schedule with radically higher taxes on the rich than the one in place today.
At the same time, citizens still care a great deal about fairness. As in other eras not dominated by war mobilization, their fairness beliefs are primarily formed by equal treatment and ability to pay views, without a consensus for high rates.
Still, even though there seems to be limited room for large changes in top statutory or marginal rates, contemporary views on fairness suggest there would be support for important reforms so that the rich pay higher effective rates.
In the U.S., sometimes the rich actually pay a lower effective tax rate than everyone else because of loopholes and other privileges in the tax code. This is the main argument in favor of the Buffett rule, named after billionaire investor Warren Buffett.
The rich paying a lower share of their income than everyone else clearly violates our sense of fairness, whether you are a proponent of equal treatment for all taxpayers or argue the rich should pay more because they are best able to. Reforms to address these privileges should be something both groups can agree on.