Imagine two countries. Both are democracies and both are relatively wealthy. One has a generous welfare state paid for by high taxation. The other pays some of the lowest tax rates in the world.
Now, you’re asked which country you think has the highest rate of social mobility. Which do you choose?
Most of us would choose the low tax country. For decades, the prevailing economic theorists have been telling us that free markets allow for choice and mobility.
Most of us would be wrong.
The first country is Denmark. The second is the United States. In Denmark, those who make more than $55,000 are taxed at a rate of 60.2 percent. Sounds excessive right? Comparatively, if you make $55,000 in the United States you’re taxed at a rate of 25 percent. Thus, one would assume the individual with the lower tax burden would have more access to climb the economic ladder. Capital is a prerequisite to mobility. If one invests that capital in stocks or entrepreneurial ventures wisely, they begin accumulating wealth and ascending to the top of the economic pyramid. Thus, keeping 75 percent of your income must be superior to keeping less than 40 percent.
And yet, that’s not what we see.
Elasticity is a data point by which intergenerational mobility is measured. A society that was perfectly mobile would score a 0. A country that was perfectly immobile would score a 1. The United States, one of the lowest taxed countries in the OECD, scores an 0.47. Put in more colloquial terms, 47 percent of Americans end up in the same income bracket as their parents. In Denmark that number is 0.15, the best score among OECD countries. Just behind Denmark, Norway (0.17), Finland (0.18), and Canada (0.19) make up the next three most mobile societies. If you’re not sensing a trend yet, you should. Countries that tax to provide a robust social safety net are those countries with high rates of economic mobility.
So, should the United States raise their top marginal rate to 60 percent to follow the intergenerational mobility formula that has been so successful in Denmark, Norway, Finland, and Canada? Probably not. Taxation is about more than mobility. Economic growth and innovation are macroeconomic factors that need to be taken into account. Culturally, a 60 percent rate cuts against American individualism.
That said, the United States should look to find a balance. We’ve tried, and are currently trying, a low tax economy. The results have been that corporate earnings and the stock market soar while inequality increases and wages stagnate. Raising taxes may harm corporate earnings and the stock market, but it would reduce inequality.
If America was smart, it would be raising taxes until it found the sweet spot rather than lowering them with predictable consequences. We know what low taxation looks like, and it leaves the majority of people behind. It’s time to try something new.