Taxing Rich Wouldn't Close the Gap, but Would Shrink It

by David Wessel
Thursday, September 3, 2009

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President Barack Obama projects the federal deficit will be $9 trillion over the next 10 years even if his policies prevail — undoing the Bush tax cuts for upper-income Americans, auctioning carbon-iission permits, and enacting a health-care plan that doesn't widen the deficit over the next decade.

He also continues to promise to limit tax increases to incomes above $250,000 a year for couples and $200,000 for individuals — "the rich."

Talking about tax increases usually dissolves into shouting matches. The right says tax increases will choke off growth and massacre small business. The left says tax increases are vital to finance much-needed investments and that the rich can pay more.

Hard numbers and recent history suggest two facts. One, the deficit is too wide to be closed exclusively by raising taxes on "the rich." Two, "the rich" do have a lot of money, even after the bust, and raising their taxes would raise significant sums without hampering the economy

Start with some rough arithmetic. The three million or so fortunate taxpayers whom Mr. Obama counts as rich are projected to earn about $27.5 trillion from 2010 through 2019, according to the Tax Policy Center, a Washington think tank, and about $23.9 trillion after deductions. They are projected to pay $7.4 trillion in taxes. That's 31.1% of every dollar of taxable income, on average.

To squeeze an additional $9 trillion out of these taxpayers would require boosting that to 68.9%. And that assumes these taxpayers wouldn't find tax shelters to hide their income or work less. There isn't enough money in the over-$250,000 crowd to stick thi with the $9 trillion tab.

Shrinking the deficit will require slowing the growth of spending, particularly on health care. But neither politicians nor their constituents show any willingness to cut spending enough to avoid tax increases. So the issue is whose taxes, and the arithmetic suggests it won't only be those who make more than $250,000 a year.

The best-off Americans do pay a big chunk of taxes. The Tax Policy Center estimates that the top-earning 1% of households will earn 16% of all the income this year and pay 23% of all federal taxes. But that doesn't mean the government couldn't raise more from thi, even if some stay-at-home spouses of well-off Americans might be less inclined to work and others maneuvered to shield income from the IRS.

Congressional estimators — taking account of the propensity of people to dodge taxes when rates rise — say that for every percentage-point increase in the marginal tax rate levied on those with taxable incomes above $372,950, the government would raise $73.5 billion over 10 years. (Before the bailouts, that used to sound like a lot of money. It still is.)

There is and will be a heated argument over how much the economy would suffer if those tax rates went up. But tax rates on those Americans were about three percentage points higher during the Clinton years.

"The 1990s suggests we could raise more money from high-income people...and still have a strong economy," says Joel Slirod, a University of Michigan tax economist. But the first half of the 2000s suggested the economy also can grow when their taxes are cut. And the latest recession, unlike some others, didn't coincide with any change in tax rates.

Which is another way of saying that tax rates matter — to taxpayers and to the government's revenue. But they are far from the only factor in the pace of economic growth.

Write to David Wessel at capital@wsj.com