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Why Our System Won't Produce Sensible Economic Policy

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Message Matt Lykken

A Congressman once advised me: "Don't worry about the wealthy -- they will always come out okay." That sums up an experiment in how our system works, or fails to work.

Way back in 1985, when I was an attorney for the IRS, I was disturbed by IRS data showing a clear and accelerating concentration of wealth in America. Wages for less-educated workers were flatlining as they lost market power, and that meant they were losing spending power and thus the ability to keep our economy strong. I watched this trend move up the education scale over the next twenty years, hitting professional workers in the 2000s. The money flowed to the top 1%, but really within the top 1% it flowed to the top 0.1%. It became clear that our economy was a house of cards, propped up with artificial consumer spending fueled by crazy mortgage debt that would have to fail. The powers in government knew this, but the bulk of Americans didn't, and so the politicians kept the charade going for as long as they could. In 2005 friends and I created a proposal to do something about the impending disaster by restoring market power to American workers.

It seemed like a realistic effort because I was a credible source. A Harvard international tax lawyer who had worked in the U.S. and abroad for multinationals and headed a tax department, I knew the brutal math of international investment. A company facing a choice between investing a dollar abroad or in America could earn 137% more from the foreign investment for the same pretax income, just because of U.S. tax policy. Having had a Fortune 25 company I worked for bought out by foreigners, with a huge loss of good American jobs, I knew the penalty of hurting the foreign operations of American companies.

The policy ideal is a plan that would make America the best place to locate high-value operations with high-paying jobs, that would reduce the deficit, and that would get rid of distortions that favor too much debt and make speculation and market manipulation more profitable than work and production. It would make our economy more efficient. It would make it unnecessary to waste huge resources on cat-and-mouse games between companies and the IRS, games that the IRS generally loses, by making corporate income extremely easy to tax. It would favor middle-class savers and get rid of the unfairness that favors wealthy investors over productive workers and inventors. We developed a simple, three-page bill that did all of this, and more. But, it did increase taxes on the rich. It meant that instead of paying 15% tax, or often zero tax, on most of their income, they would pay tax at full ordinary rates plus the equivalent of the employee-side FICA taxes that ordinary people pay on their wage income. That still amounted to well under 50% all-in, inclusive of state tax, which is low in terms of historical nominal rates, including the rates during America's boom years of the 1960s.

I ran this by professional political consultants. They told me that it had two fatal flaws. "First, you are being too responsible. You are getting the companies to bring their cash home and invest in American operations by giving them a deduction for the dividends they pay. That's fine, but you are offsetting that by taxing powerful people. Propose the deduction, but let other people worry about the offset. Second, it may be simple legislation, but it can't be explained on a bumper sticker. You can't sell anything in government unless you can explain it on a bumper sticker."

Our whole goal was to prove that an effective, balanced, responsible policy was possible. So, we decided not to abandon the offsets. Besides, these were particularly appropriate. We were reducing corporate tax to zero so long as companies paid out all of their earnings to be taxed at the shareholder level as regular Form 1099 income. This means that shareholders would receive about 54% more pretax return on their investment than they do today. Roughly 50% of that benefit would go to the wealthy, who own most stock. Another roughly 25% would go to foreigners, with the remainder going to middle-class savers, the folks who have suffered the most during the financial crisis. So, we taxed the foreigners in a way that left them neutral, and taxed the wealthy, who get the bulk of the income in America, to make up for the benefit flowing to middle-class savers.   (Middle-class workers would receive their benefit through increased market power, and thus higher wages.) Aside from that shift, everyone comes out even, and the government comes out ahead as those middle-class savers pull their retirement earnings out of their IRAs. So, under our proposal the increased taxes on the wealthy were not "class warfare", but rather rebalancing to make the tax system work the way it was supposed to through the existing tax rate structure and retirement savings vehicles.

Further, the excuses for the current low rates on capital gains and dividends are: 1) that corporate income is taxed once at the company level and once at the shareholder level, which is a bad double tax; and 2) that if you tax gains people avoid moving their money to other, better investments, which is inefficient. Our proposal completely eliminated the double tax and forced corporate cash to be made available for better investments, so only our proposal allowed getting rid of the unfair and inefficient capital gains subsidy -- the subsidy that favors speculation over productive work and attracts bright people to banks rather than laboratories -- without any bad side-effects. So, we decided to see if we could sell it. We published articles in the tax press explaining the proposal in detail, and then approached the Bush and Obama administrations and Congress.

The good news is that our system allows remarkable access. I am just one of over 300,000,000 people in this country, but I was able to get our proposal in front of top Bush and Obama administration officials and top aides from both parties. The bad news is the response. Though some were impressed enough to try to discuss it further with colleagues, basically they all told me "yes, this is pretty close to an ideal solution, but we can't really raise taxes on the rich and you can't explain it on a bumper sticker. The American voters are too stupid and have too short of an attention span to follow a full sentence, much less a couple of paragraphs. Unless you can get the public to demand it, nobody in government will even consider it."

So, we tried the press. They responded that "it is an interesting proposal, but until the politicians raise it and argue about it, it is not controversial, so it is not news. Talk to us when you make it news." It is difficult to apply the PETA lettuce-dress strategy or the Occupy Wall Street unwashed street theater tactic to tax policy, so making it news when the politicians won't discuss it is tough. Getting the politicians to discuss it without news outlets raising awareness is impossible. Catch 22.

We did put the information out on the internet at the Shared Economic Growth site, a huge amount of academic and popular material from across the political spectrum explaining why we need each part of the proposal and all of the good things that it would do. Unfortunately the web, like the press, lives on controversy. If we could figure out how to make a lot of people hate us, then we could educate the public. Unfortunately, the only people we proposed to hurt a little are wealthy speculators, and they are too smart for that. They don't attack ideas and give them press if they can help it. Rather, as Fox News disregards Ron Paul, they just make sure that the troublesome viewpoints get ignored.

I tried another channel -- corporate lobbyists. One of the virtues of the proposal is that it would counter the might of the wealthy with the power of corporations. Corporations would have a legal duty to their shareholders to support the proposal if it came forward. However, no corporate middle manager wants to ask his boss to support a proposal that would raise the boss's personal taxes. Further, CEOs would not like the fact that the proposal would put pressure on them to really perform, because the company would have to pay out earnings and persuade investors to give it back, rather than just sitting on cash or investing it in any nonsense that appeals to management. So, while I was able to discuss it with the corporate tax community and get agreement that it made sense and would do what it is intended to do, most everyone preferred that it be discussed no further.

Thus, a proposal that knowledgeable people of both parties agree would be a great thing for America has been sentenced to die in the shadows. At the same time, Democrats and Republicans propose dangerous, unfair and ineffective nonsense, saying "sure it has a lot of bad effects, but everyone agrees that there isn't anything better." By this they mean "there isn't anything better that can be explained on a bumper sticker, and that wouldn't actually tax the rich." Recognizable elements of the proposal have emerged as Administration ideas, but they have been stripped out of the overall scheme and thus turned into elements that would be unbalanced and ineffective.

The political experiment is not over yet, though. It is still possible for the American people to prove that they have more than a three-second attention span and that they care more about their children's future than about what a Kardashian is wearing today. All they need to do is to focus for a few minutes and demand a real, feasible reform. They could do it by signing the White House petition at . They could do it by writing their Congresspeople as explained at . They could do it by spreading the word to their friends and relations. Will they do it?
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Matt Lykken graduated with honors from Harvard Law School in 1985 and has been working as a tax attorney for 27 years. He began his career with the Office of Chief Counsel, I.R.S., and for the last 22 years has worked as an international tax planner (more...)
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