As the budget battles in Washington and St. Paul continue, Democrats and Republicans continue to argue over whether to raise taxes on the wealthy. President Barack Obama and congressional Democrats claim that we need to raise taxes on the wealthy to reduce the budget deficit and balance spending cuts. By contrast, Republicans assert that raising taxes on the wealthy will “kill jobs” and hurt the economy.
In St. Paul, the debate tends to mirror the federal arguments, as Gov. Mark Dayton and many Democratic leaders in the Minnesota House and Senate advocate increased taxes on the wealthy to balance the budget, while Republicans oppose such taxes and a drag on the economy. Dayton has proposed increasing income taxes on the top 2 percent, as well as broadening the sales tax to include items and services most consumed by wealthier Minnnesotans.
Debates detached from evidence
These debates are fierce and evidence a dramatic gulf between the two parties on taxes. Yet what’s notable about these debates, both in Washington and in St. Paul, is how detached from the evidence they have become. We tend to think of both sides as “advocates” for two groups — Democrats are widely perceived as advocates for the middle class, and therefore raising taxes on the wealthy becomes an effort to protect the middle class; Republicans are widely perceived as advocates for businesses, and therefore keeping taxes low on the wealthy becomes an effort to protect businesses.
What is startling about the evidence, however, is the fact that what is good for the middle class is also what is good for businesses: i.e., raising taxes on the wealthy. This seems counterintuitive because we’re conditioned by the political debates to ignore the facts. But the facts can’t hide, as a recent report by the Congressional Research Service makes clear.
The 2012 report, entitled “Taxes and the Economy: An Economic Analysis of the Top Tax Rates Since 1945,” demonstrates that there is a positive relationship between high tax rates on the wealthy and economic growth. Let me repeat: There is a positive relationship between high tax rates on the wealthy and economic growth.
As the report shows, real (adjusted for inflation) growth of our Gross Domestic Product (GDP) averaged 4.2 percent in the 1950s. During the same period, the top marginal tax rate was over 90 percent. During the past decade, while the top marginal tax rates have been around 35 percent, average real growth in GDP has averaged 1.7 percent. And while there is not a perfect linear curve over the past 60 years, the preponderance of the evidence shows that the economy grows best when taxes on the wealthy are high.
One might wonder how this is possible. As any student of economics knows, the answer lies within one of the basic truths of capitalism: Supply (of goods and services) follows demand (for those goods and services). A company will increase its supply of whatever goods and services it sells to meet consumer demand for those goods and services. A company will prosper if there is high demand for its goods and services; a company will falter if demand dries up.
Policymakers have effectively reduced demand
By lowering taxes on the wealthy precipitously over the past half-century, policymakers have effectively reduced the demand for products and services. Why? Because as the tax burden on the few wealthy has decreased, the economic burden on the vast majority of middle-class Americans has increased dramatically. For example, while the tax rates on the wealthy have dropped from over 90 percent in the 1950s to 35 percent today, the middle class is now faced with dramatically higher health-care costs, increased tuition and staggering student-loan debt, increased local property taxes, and many other economic burdens.
And because the vast majority of Americans now carry such high debt loads and have stagnant incomes, they are not able to sustain the kind of high demand for goods and services that businesses need to thrive.
It is not a surprise, therefore, that the last major expansion of the U.S. economy (during the 1990s under President Bill Clinton) occurred shortly after a rise in the marginal tax rates on the top earners (from 31 percent to 39.6 percent). And it is also not a surprise that when marginal tax rates on the wealthy were reduced (from 39.6 percent to 35 percent) under President George W. Bush, economic growth stalled.
Lowering costs for the middle class
Despite the rhetoric to the contrary, the evidence shows that taxing the wealthy at a higher rate puts more money in the pockets of middle class Americans — both in terms of lower effective tax rates and, more important, in lower costs for everything from health care to higher education. And more money for the middle class means higher demand for the products and services that businesses sell. More demand requires increased supply, and increased supply means better sales. And better sales mean stronger economic growth.
Almost a century ago (in 1914), one of the most successful capitalists in American history, Henry Ford, understood this basic law of economics. That’s why he established the radical principle of the “Five Dollar Work-Day.” Ford believed that if he paid his workers a living wage ($5/day was a living wage in the early 20th century), they would be able to afford his automobiles. And, he figured rightly, if his workers could afford to buy Ford cars, they would increase demand for his product. Henry Ford became one of the wealthiest business owners in American history by promoting demand for his products, not by demanding lower taxes on his income.
The evidence is clear: Tax the rich to grow the middle class; grow the middle class to grow demand; grow demand to create jobs and grow the economy. Believing that lower taxes on the wealthy is good for the economy is — in the words of former President George H.W. Bush — nothing more than believing in “voodoo economics.” It’s time for our political leaders to dismiss supply-side economics for what it is: voodoo.
Matthew F. Filner teaches political philosophy and constitutional law at Metropolitan State University in St. Paul.
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