At present (September 4/24) the democrat campaign for president has re-iterated a proposal previously rejected by Congress to tax what they're calling unrealized capital gains. According to the campaign the new tax will only affect the very rich - those with net assets valued at over 100 million dollars - but, of course, the same people swore monies spent on an IRS hiring binge would only be used to pursue very rich tax delinquents instead of the poor and middle class filers they're really going after.
From a practical perspective the key problem with the idea is that taxing unrealized capital gains implicitly assumes that asset values always and only increase - and, because that isn't true the regulations that will have to be written to implement the tax are going to turn it into an expensive, tax supported, scheme insuring wealthy asset holders against market downturns.
From a political perspective, however, this is a classic Robin Hood scheme promising to take money from the rich and give it to the poor and middle class voter - something many forms of progressive political movement in countries around the world have promised since the French Revolution but never yet delivered on.
As demonstrated by the congressional response to the 2022 and 2024 Biden budgets republicans (and many democrats) generally just ignore the idea as simple political posturing and carry on - but what if the same underlying rationale can be applied to produce both sensible public policy and better political results?
The underlying rational is that the unrealized capital gains the democrats want to tax are both unearned and unnecessary to the continued welfare of the very rich - basically it's an appeal to envy: the rich are presented as already rich, getting richer through no effort of their own, and morally legitimate targets for the taxman because they're unwilling to voluntarily share their good luck with the rest of us.
The key idea here is that the income expressed as an increase in asset value is unearned through either work or virtue - and while that's arguably wrong in terms of market and home value increases it is mostly true in a very different context.
In a free market, if you borrow from a bank you'll pay a lower interest rate if you work for Harvard University then if you work for Joe the Plumber -- and that's because lender experience shows that if a bank has two customers with similar credit histories and similar earnings, the one whose employer can draw on large endowments or the public treasury is significantly less likely to default than the one working for a small business. Left to themselves lenders price this risk difference into their loan agreements, charging the small business employee or owner more in annual interest than the educator or civil servant.
In practice lending is constrained by regulation but, on average, someone working for a government or quasi government agency whose ability to meet payroll is considered unquestionable will receive preferential treatment relative to another with the same skills and credit history but an employer whose ability to pay is considered uncertain. At today's rates, for example, a plumber working for uncle Joe might expect to pay about $116 per month per $100,000 in secured debt more than he would if employed in exactly the same role by the FDA.
As a group democrats have long chosen to see the higher equity requirements and interest rates that go with reduced income security as unfair penalties -in fact Carter's Community Re-investment Act and subsequent democrat efforts creating the vulnerabilities demonstrated during the 2008 financial crisis largely reflect their long term collective efforts to force bankers to act against actuarial reality by offering artificially lowered rates to higher risk customers.
The nation saving opportunity, however, is in seeing this glass half full: in seeing the difference not as a penalty paid by small business and entrepreneurial employees, but as an unearned benefit accruing to those employed by government, quasi-government entities, or big corporations - because benefits, especially unearned benefits, can be taxed as income and most of the people who get most of their income from highly secure sources like trust funds, blue chip dividends, and government and quasi-governmental employers vote democrat, generally claim to favor raising taxes, and would be seen as utter hypocrites if they complained about a tax on their own unearned income.
Imposing a steeply progressive tax on unearned benefits arising from the security of income puts democrats to robbing democrats - taking that $116 a month from the government employee through the tax system funds the programs the individual probably votes for while levelling the playing field for everyone, makes room for across the board cuts in other taxation, and gives the private sector new incentives to expand the national resource base. As a result such a tax would cause the democrat coalition to first fracture and then dissipate as new incentives and opportunities encourage many to reduce their tax burden by undertaking investment risk.
Embedding risk avoidance at the core of the tax system may seem like a new and radical idea, but it is not -- in fact, it merely extends and applies rationales already deeply embedded in the deductions and allowances side to the assessment and tax payable side. It's also easy to administer: because credit agencies already rate nearly all employers and investment funds this form of unearned benefits tax can be easily calculated as a direct function of the credit rating applicable to each source of funds reported.
More theoretically, using the tax system to monetize the risk reduction provided citizens by government and quasi-government agencies aligns the business of government with capital markets theory and should have the long term effect of helping turn taxpayers into government services consumers whose choices determine, as they should in any free market, what they get for their money.
Notice too that a tax on the unearned benefit accruing to income security meets the goals both sides argued for, and presumably voted for, in the last few federal elections:
- Conservatives, particularly working class people and entrepreneurs, get what they want and largely voted for because the new tax allows for cuts in other taxes;
- More significantly, embedding risk at the heart of the tax system will provide incentives for investment managers to move the money under their control away from secure but non-producing assets like treasuries and blue chips, and into higher risk, higher productivity, investments in businesses making and selling competitive products and services -thus producing what conservatives want most: more jobs, more innovation, the re-assertion of world leadership in business and technology, and dramatic increases in the value of personal educational investments in science, engineering, or business.
- At the same time, however, government, large business, and major institutional growth will be slowed -and their roles in the economy correspondingly reduced over time -because efforts, whether by Congress or unions, to increase these roles will have negative consequences for those proposing the changes.
Parts of that are obvious: the cost of highly secure debt will rise relative to the cost of less secure debt and bureaucrats will not long vote for programs imposing new costs on bureaucrats; but some parts are more subtle: efforts to raise take home pay, pensions, or other entitlements for securely funded employees or dependants will trigger tax bracket creep among beneficiaries, and thus limit benefits for those near the bottom of the scale while imposing negative net returns on the leaders and decision makers near the top.
- More significantly, embedding risk at the heart of the tax system will provide incentives for investment managers to move the money under their control away from secure but non-producing assets like treasuries and blue chips, and into higher risk, higher productivity, investments in businesses making and selling competitive products and services -thus producing what conservatives want most: more jobs, more innovation, the re-assertion of world leadership in business and technology, and dramatic increases in the value of personal educational investments in science, engineering, or business.
- Democrats, particularly the very rich, academics, civil servants, and welfare recipients, also get what they want and largely advocated for: significant new taxes.
- On a national accounts basis the balance of risk in the economy will not change much because the tax provides incentives for those with secure sources of income to pay off mortgages held for tax purposes and pay less for assets they have to borrow to buy, while leaving those with less secure sources largely unaffected.
Bottom line? Look at what the Obama/Biden administration actually does and what you see is very rich democrats working to consolidate power by expanding the pool of non producers, using regulation and politically directed funding to increase the advantage older, established, businesses have over start-ups, and buying votes from the non producers by promising to have the state rob workers and other value creators on their behalf -- and that's a process which the country cannot long survive.
The tax on income security puts an end to it in a very simple, very logical way: in the short term the tax mostly targets democrats, not republicans, and democrats will not long vote to rob democrats; in the middle term the incentives to risk will lead to actions raising productivity and innovation across the entire economy to new levels; and, in the long term the alignment of government funding with financial market basics will align with other forces leading to much greater clarity about government's legitimate objectives and aspirations.
Questions? Comments? Suggested fixes? murph at winface com, please
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