Search
  • The Wilberforce Society

A Democratic Outlook on Progressive Tax: Friend or Foe?

Ekaterina Pushnaya


Progressive tax is usually implemented to make wealth more uniform. When a system is introduced to this policy, one observes that workers with higher income take on a bigger responsibility in financing the government, while lower income households are relieved from the certainty of tax partially or entirely. But is this obvious alleviation of inequality actually reducing it long term, especially with the spread of remote working? In this essay, we will argue that progressive tax systems have become a force contrary to common causes of equality and technological advancement.


Consider a simple example. Two investors are starting businesses. Their position and experience allows for two radically different options: an IT company or a fast food chain. The market of the former is global, wherever it is, and the latter always needs to be in the same place as its customer. The fast food workers would not be affected by progressive tax rates, while the IT employees would demand higher salaries if the taxes increase, so more often than not one investor would find themselves drawn to select a country to register their IT company just as carefully as the other would ponder a busy spot for a restaurant. Their success – and, hence, the percentage of the country’s population that they employ – will depend on many factors, one of them being taxes.


So, if a country is stringent with high-bracket taxes, it might find its information needs being satisfied by companies abroad, and we observe that its domestic market gains a bias towards generating more low-income jobs and less value – if the investors from our example are confined to one such country, the investor who opened a fast food chain could get a larger portion of the workforce. It drags the country behind: many fast food jobs do not provide enough income for workers to continue their education and aspire to greater, more complicated goals than frying burgers. If a policymaker wants to create a state where technology is going forward, such bias should be avoided.


But how do we see the extent of this low-income bias? When one looks at OECD statistics [1], it can be observed that progressive tax is usually correlated with higher standards of living, and thus it might be tempting to assume it is partially responsible for them. However, being a very popular measure, progressive tax rates are merely a consequence of democracy (itself closely related to higher standards of living); it is a way to appease the crowd by "taxing the rich" while it actually affects the upper middle class instead of the investors, the actual rich, which perhaps makes it one of the most ironic and naïve of democratic policies. If the point was to actually "tax the rich", it would be wiser to focus on inheritance tax, property, capital gains and dividends, but in modern democracies those sources of astronomical revenue are treated especially leniently [2]. For example, in OECD countries in 2019, inheritance, estate and gift taxes combined account for merely 0.53% of tax revenues, despite inheritance accounts for 30 to 60% of wealth in Western countries. As measured by the Gini index, inequality in Europe is not influenced by any tax reforms in the society as a whole [3], the tax policies only have an effect for the youngest age group.


Another difficulty in evaluating the impact of progressive tax is that its negative consequences are only visible on large time scales: in the formation of new companies and their competition for workers over decades of development. Many researchers assert that the effects of tax policies on society are non-linear [4], even erratic, such as the evidence that progressive taxes hinder the rise of wages, and research that actually goes into the complex territory of evaluating particular tax policy consequences works under the assumption of “no behavioral aspects”, e.g. [5], which relieves the scientists of the need to go into those non-linearities. There are almost no studies about the long-term effect that progressive tax has on the future of the society and how technologically advanced it can become – but there is one crucial way in which it manifests.


We can see this employment bias affecting international companies in how investors are compelled to only open small businesses locally and more global ones - where the taxes are better. In the scope of globalization, countries are competing for hosting the particular companies' headquarters [6]. By being too stringent with taxes, a country may lose out on skilled immigrants, new companies, their taxes, and most importantly, control over them [7]. In this outlook, progressive tax rates may be a force more dominant than one can realize, especially in the competition for skilled immigrants. Companies understand - all too quickly - that they can access talent housed everywhere in the world due to remote working [8] from their secure tax havens. We see, in particular, that many tech companies like Google, Facebook, LinkedIn or Glassdoor set up their European headquarters in Ireland - which not only ranks the lowest among Europe in corporate tax, but also offers the companies unique tax benefits. For US markets, the tax haven is Delaware. The same companies easily move their employees between countries; I know too many people who left Russia by first working in Yandex, and then in Google; Europe is also subject to this brain drain. The immigrants’ motivation? Corporate security, high standards of living and more lenient income taxes. Currently, it is especially crucial to focus on progressive taxes due to their deceiving reputation.


It is vital that progressive tax rates are either alleviated or abolished to keep up with the increasing complexity of corporate life. With the pandemic kick-starting working remotely, globalization has been boosted like never before. It is only a matter of time until modern tax policies become a hindrance to democracy rather than the policy of good will they once were.



References



[1] OECD, "Corporate Tax Statistics: Third Edition" (OECD, 29 July 2021) https://www.oecd.org/tax/tax-policy/corporate-tax-statistics-database.htm

[2] OECD, "Inheritance, estate and gift taxes could play a stronger role in addressing inequality and improving public finances" (OECD, 11 May 2021) https://www.oecd.org/tax/tax-policy/inheritance-estate-and-gift-taxes-could-play-a-stronger-role-in-addressing-inequality-and-improving-public-finances.htm

[3] European Commission "The role and impact of labour taxation policies" (Bocconi, 10 May 2011) https://ec.europa.eu/social/BlobServlet?docId=7404&langId=en

[4] William M Gentry, R Glenn Hubbard "The effects of progressive income taxation on job turnover" (Journal of Public Economics, Elsevier, 21 January 2004) https://www0.gsb.columbia.edu/faculty/ghubbard/Articles%20for%20Web%20Site/TheEffectsofProgressiveIncomeTaxationonJobTurnover.pdf

[5] Madalina Ecaterina Popescu, Eva Militaru, Larisa Stanila, Maria Denisa Vasilescu, Amalia Critescu "Flat-Rate versus Progressive Taxation? An Impact Evaluation Study for the Case of Romania" (MDPI Sustainability, 14 November 2019) https://www.mdpi.com/2071-1050/11/22/6405/pdf

[6] Ronen Palen, Richard Murphy, Christian Chavagneux, "Tax Havens: How Globalization Really Works" (Cornell University Press, 15 January 2010) https://www.amazon.com/Tax-Havens-Globalization-Cornell-Studies/dp/0801476127

[7] OECD, "Harmful Tax Competition: An Emerging Global Issue" (OECD, 24 June 2018) https://www.oecd.org/tax/transparency/about-the-global-forum/publications/harmful-tax-competition-emerging-global-issue.pdf

[8] OECD, "Tax Administration: Towards sustainable Remote Working in a post Covid-19 Environment" (OECD, 19 July 2021) https://www.oecd.org/tax/forum-on-tax-administration/publications-and-products/tax-administration-towards-sustainable-remote-working-in-a-post-covid-19-environment.htm