Presidential candidate Hillary Clinton is proposing to increase taxes on high earners with a four percent surtax on people making more than $5 million.
Imposing such a tax hike would:
- Encourage more tax avoidance and evasion, the sort of behaviors that Clinton and other politicians bemoan.
- Increase deadweight losses, or economic damage, of taxation. This damage rises by the square of the tax rate, so for example, a 40 percent rate causes four times the damage of a 20 percent rate. This feature of our tax system means that raising the top rate is the worst way to raise revenue, even if raising more revenue made sense, which it does not.
- Discourage the work and investment efforts of the most productive people in the economy. Entrepreneurs, executives, angel investors, venture capitalists, and other high earners add enormous value to the economy. Politicians should focus on removing barriers to their efforts, rather than penalizing them. Besides, the income of high earners is more flexible and mobile than the income of other people, so raising their taxes causes the strongest behavioral responses and largest deadweight losses.
- Raise taxes on the people already paying the highest rates. Average tax rates rise rapidly as income rises. In 2015 those earning more than $1 million paid an average federal tax rate (including income, payroll, and excise taxes) of 33 percent. That is twice the rate of people with middling incomes, and many times the rate of people at the bottom.
- Push the top U.S. income tax rate substantially higher than our trading partners in the OECD (Table 1.7). The top U.S. federal and average state tax rate is already 46 percent, which compares to the OECD average of 43 percent.
- Move even further away from the fair and efficient ideal of a proportional, or flat, tax system. The United States already has the most graduated, or progressive, tax system in the OECD.
Perhaps the biggest problem with Clinton’s plan is that the federal government already taxes and spends too much. The American economy and average citizens would be better off if the size and scope of the government were reduced. Clinton’s tax increase would not solve any problems, but rather would add fuel to the fire of rampant bureaucratic failure in Washington.
