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April 24, 2014
Tax History: Did Americans Invent Soak-the-Rich Taxation?
Joseph J. Thorndike

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In his new and unlikely bestseller, Capital in the Twenty-First Century, French economist Thomas Piketty describes the rise of "arbitrary and unsustainable inequalities" that pose a threat to democratic institutions around the globe. He also lays out a plan for curbing those inequalities through the imposition of a global wealth tax.

It's a remarkable and widely hailed achievement. In one of the more effusive reviews, Paul Krugman called Piketty's book "truly superb," predicting that it would "change both the way we think about society and the way we do economics."

I have no issue with the book's praise; Piketty does a fantastic job charting the growth of inequality around the world, providing a rich historical context for contemporary debate. But along the way (and at roughly 700 pages, it's a long, long way), Piketty offers some historical analysis of U.S. tax policy that doesn't ring true. And while many of his errors are minor -- and essentially irrelevant to his larger narrative -- they do raise questions about the feasibility of his suggested remedy for surging inequality.

World War I

Piketty's version of U.S. tax history begins with an undeniable truth: The United States pioneered the use of soak-the-rich taxation. He argues that Americans "invented the confiscatory tax on excessive incomes and fortunes."

As Piketty observes, the United States (along with Great Britain) was the first nation to impose tax rates of over 70 percent on both personal income and large estates. In particular, he points to the income tax rates imposed during World War I; by 1918, the top bracket rate in the United States had reached 77 percent.

What's the explanation for those rates? Piketty thinks he knows. "When a government taxes a certain level of income or inheritance at a rate of 70 or 80 percent," he writes, "the primary goal is obviously not to raise additional revenue (because these very high brackets never yield much). It is rather to put an end to such incomes and large estates, which lawmakers have for one reason or another come to regard as socially unacceptable and economically unproductive -- or if not to end them, then at least to make it extremely costly to sustain them and strongly discourage their perpetuation."

In that passage, Piketty misreads the political history of World War I taxation -- and U.S. tax history generally. While some World War I political leaders (and presumably the voters who elected them) were interested in squeezing large incomes out of existence, most lawmakers had tamer goals. In particular, they defended high rates as a means to redistribute the tax burden, not wealth.

To some extent, that is a distinction without a difference; very heavy taxes designed to redistribute the tax burden will, along the way, often accomplish some meaningful wealth redistribution, too. But intentions matter. Calling for an end to concentrated wealth is far more radical than calling for a change in tax distribution tables.

The importance of that distinction became obvious after the war. Rates in the 70 percent range first appeared when policy debates were suffused with wartime rhetoric of patriotism and shared sacrifice. Those words made a real difference in the adoption of steeply progressive tax rates.

But if rates of 70-plus percent were intended to end large incomes, we might reasonably expect those rates to have stuck around after the war; it's not like large incomes had disappeared, after all. But in fact, those rates did not long survive the war. Republicans recaptured the White House in 1920, and with help from party colleagues on Capitol Hill, they rolled back rates across the board. By 1925, the top bracket rate was just 25 percent.

How to explain this rapid change? Did Americans fall in love with wealth redistribution during the war, only to fall out of love with it a few years later? Not really. Americans were willing to support high rates as an element of wartime mobilization -- they were in it for the duration. But when the emergency disappeared, so did the political consensus that those rates were reasonable or appropriate.

Americans, in other words, were indeed pioneers in the adoption of soak-the-rich taxes. But they had relatively modest goals for those levies. The fiscal history of World War I -- especially when viewed alongside the postwar decade -- simply cannot support Piketty's claim that Americans have historically displayed "a great passion for equality."

New Deal Taxes

But the New Deal does provide evidence of that passion. President Franklin Roosevelt did, at some junctures, defend his tax reforms as a means to slow the concentration of wealth, especially in large estates. "Such inherited economic power is as inconsistent with the ideals of this generation as inherited political power was inconsistent with the ideals of the generation which established our Government," he told Congress in 1935.

Moreover, Roosevelt insisted that wealth was socially constructed. "Wealth in the modern world does not come merely from individual effort," he said. "It results from a combination of individual effort and of the manifold uses to which the community puts that effort." He quoted every progressive's favorite robber baron to make his point. "As Andrew Carnegie put it," Roosevelt intoned, "'Where wealth accrues honorably, the people are always silent partners.'"

In Roosevelt's view, the social nature of wealth gave government a vital interest in taxing large incomes and hereditary fortunes. In fact, progressive taxes were a social necessity, not just a political or economic convenience. "Social unrest and a deepening sense of unfairness are dangers to our national life which we must minimize by rigorous methods," he said. "People know that vast personal incomes come not only through the effort or ability or luck of those who receive them, but also because of the opportunities for advantage which Government itself contributes. Therefore, the duty rests upon the Government to restrict such incomes by very high taxes."

Roosevelt's rhetoric aligns neatly with Piketty's analysis of U.S. fiscal history. But Roosevelt's 1935 tax talk was something of an aberration. Few U.S. political leaders at any level -- and even fewer presidents -- have ever articulated such broad redistributive claims for tax policy.

Indeed, even when viewed in the slightly broader context of the late 1930s and World War II, Roosevelt's rhetoric seems strikingly ambitious -- and unusual. By 1937, the New Deal tax agenda was in full-scale retreat, suffering under a punishing assault by Republicans, conservative Democrats, and a united business community. The Roosevelt of 1935 had the electoral winds at his back, and his smashing victory in the 1936 election can make his policies appear more popular than they probably were. The setbacks of the late 1930s provide a dose of realism. If Americans were eager to soak the rich in 1935, they were far less eager in the late 1930s, when Roosevelt was himself pursuing a business appeasement policy that downplayed the importance of progressive tax reform.

Likewise, the tax politics of World War II don't support grand claims for the popularity of redistributive taxation. Some elements do seem consistent with Piketty's view that Americans were deeply committed to limiting the growth of incomes and fortunes; in particular, Roosevelt's 1942 proposal to cap individual incomes at $25,000 (roughly $285,000 in 2014 dollars) seems illuminating.

But the salary cap -- that Roosevelt proposed to enforce with a 100 percent tax on incomes above the limit -- went nowhere. And in any case, it was presented as a wartime emergency measure, not as a permanent feature of U.S. tax policy. Things are possible during a war that would never be possible in peacetime, and the income cap is best viewed as a wartime emergency measure, not as some larger statement about the goals of tax policy.

To be fair, Piketty does not feature the income cap in his argument. But he does invoke World War II's high tax rates more generally as an argument on behalf of American equalitarianism. The cap was simply the most extreme version of that impulse.

But even the regular tax rates of World War II were viewed as a temporary means of funding the war -- as a means of sharing the fiscal burden. They were not cast as a means for remaking or regulating the economic and social structures of American society. And when the wartime fiscal burden eased in 1945, the political commitment to high tax rates eased with it.

Still, Piketty has some compelling evidence on his side. While tax rates dropped slightly in the late 1940s, they remained high for decades after the end of World War II. As Piketty neatly phrases it: "All told, over the period 1932-1980, nearly half a century, the top federal income tax rate in the United States averaged 81 percent." That average was far higher than anything imposed by continental European nations during that period.

So perhaps Americans really were inclined to soak the rich. Maybe our wartime commitment to high rates was part of a natural and durable affinity for progressive taxation. It's a tempting, and to some extent valid, conclusion.

But it's easy to overstate the case. By focusing on headline numbers -- especially the top bracket rate -- that conclusion obscures the deep political turmoil that surrounded federal tax policy in the postwar decades. Conservative opposition to high rates remained powerful throughout Piketty's long half-century of soak-the-rich taxation. In recent years, several scholars, most notably the sociologist Isaac Martin, have made clear just how vibrant that antitax culture remained during those high-rate decades. (Prior analysis: Tax Notes, July 30, 2012, p. 487 .)

The power of conservative tax ideas -- and their persistence throughout the postwar years -- became clear in the 1970s, when Republican politicians used them to construct a new electoral majority.

Piketty views the years after 1980 as an aberration of sorts -- or at least a premature departure from the U.S. tradition of soaking the rich. But in fact, the rate cutting revolution of the 1980s did not appear suddenly in the person of Ronald Reagan springing forth like Athena from the head of Zeus. Rather, Reagan gave expression to a dormant but still powerful tradition of antitax U.S. politics.

In his rush to uncover the unfortunate effect of Reagan-era tax cuts, Piketty tells an easy but oversimplified story about U.S. fiscal politics. The United States has never been a pro-tax country, even when the taxes were being paid solely by the rich.

Or more precisely, the United States has never been solely a pro-tax country. Calls for redistributive taxation have been a constant of U.S. politics, but they have shared the stage with conservative insistence that taxes be used "for revenue only" -- and not even very aggressively for that restricted purpose.

As a nation, we have been driven for centuries by a long-running debate over the proper nature and goals of federal taxation. When properly told, U.S. fiscal history is a story of contest, not consensus.

So What?

Does Piketty's oversimplification of U.S. tax history really matter? I think it does, at least in terms of his policy prescription. At the end of his book, Piketty lays out plans for a novel, globally imposed wealth tax. He is under no delusions about the political likelihood of that kind of fiscal innovation making its way into law. "It's hard to imagine the nations of the world agreeing on any such thing anytime soon," he acknowledges.

But Piketty does believe that a scaled-down version of the global wealth tax -- especially regional incarnations -- might be feasible. And he may be right for some regions, especially Europe.

But if Piketty's harboring any hope for a wealth tax in the United States, he's whistling in the dark. Twenty-first-century America is not fertile ground for soak-the-rich taxation, especially in the starkly redistributive terms implied by a wealth tax. But more to the point, it was never a great place for those taxes. To the extent that Americans tolerated heavy progressive taxes, it was only because they were defended in moderate terms of burden sharing, not wealth redistribution.