Biden’s proposal to double capital gains tax rate can only hurt America

OPINION:

It is often difficult to figure out if those who are responsible for the country’s tax and spending policies are ignorant or worse, or if they think the voters are ignorant, or if it is a combination of the two.

This past week, President Biden presented his proposed budget, which contained a number of provisions that any knowledgeable person should understand would decrease economic growth and increase misery. Yet Mr. Biden presented it as a serious document, which clearly it is not (we can assume that it was not written by an AI “ChatGPT” program because there are too many conceptual errors in it).

For each type of tax, there is a revenue-maximizing rate (less than 100 and more than 1). There is also a growth-maximizing rate for the size of government as a share of gross domestic product. Any decent economist or astute economic observer knows that the above two statements are true. It is also true that there are legitimate arguments about what those rates are.

Over the decades, a great deal of empirical evidence has been obtained about optimal levels of taxation and spending — both from time series (looking at the results from any one country as they have changed rates and policies over time) and from cross-country comparisons.

There are some types of taxes where the revenue-maximizing rate is very low, such as the capital gains tax, because it is often discretionary. It is discretionary because the holder of the asset that could be sold for a capital gain can usually decide when to sell it, be it a stock, bond, piece of real estate, etc., and thus determines when to realize the taxable gain. If the capital gains tax is perceived as “too high,” the holder of the asset may choose not to sell, and as a result, the government receives no tax revenue.

The capital gains tax rate has been raised and lowered many times (a range of approximately 15% to 50% for the federal tax plus state and local taxes) over the past century, so there is a large amount of empirical evidence about the revenue-maximizing rate. During the Reagan administration, the Treasury Department undertook a detailed study of the capital gains tax and concluded that a capital gains tax rate higher than 15% to 20% would lose revenue rather than gain increased revenue. Evidence in the years since continues to support that conclusion. The current capital gains tax rate is a maximum of 20% for those having more than $492,300 per year in taxable income, and those making less than $44,625 pay nothing.

But now, Mr. Biden proposes doubling the capital gains tax rate for upper-income taxpayers in his new budget, under the guise of “taxing the rich.” It is a safe bet that the Treasury will receive no new net revenue from this proposal. What it will do is reduce productive investment, economic growth and job creation.

Anyone who has a decent grasp of tax economics or economic history would know that this one provision is both stupid and destructive. Those who prepared the president’s budget were probably not that dumb but gave up their integrity and bowed to the political types who couldn’t care less about economic well-being of the people, as long as they could score some cheap political points. They are of course relying on a know-nothing or corrupted press to regurgitate White House talking points — no matter how absurd. There are too few left in the press who have enough personal pride or knowledge to get stories right, so they merely spread the ignorance. Sad.

The Heritage Foundation just released its annual “Index of Economic Freedom” (see accompanying table). Economically free countries — with low tax rates, low levels of government spending, reasonable regulation and the rule of law — tend to grow more rapidly and create more opportunity than the less free countries. There are now decades of detailed data from the Heritage Index as well as a similar index published by the Fraser Institute in Canada, with the cooperation of many other economic think tanks from around the world, to support this conclusion.

Before 1990, the U.S. had the highest per capita income (excluding petro and microstates) and the third-highest level of economic freedom (after Singapore and Switzerland) in the world. Now Singapore, Ireland and Switzerland have more freedom and higher incomes. It is rather ironic that many of the richest countries are resource poor, but rich in freedom.

Half a century ago, Taiwan and communist mainland China were equally poor. Now Taiwan has approximately four times the per capita income of the mainland (almost as high as the U.S.) with more economic freedom. The U.S. has sunk to a shameful 25th in economic freedom — which means slower growth, fewer high-paying jobs, and more poverty. Mr. Biden is the anti-Reagan president in that his budget will further reduce economic freedom and increase the size of government, making the U.S. poorer.

• Richard W. Rahn is chairman of the Institute for Global Economic Growth and MCon LLC.