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In this week’s Grumpy Economist Weekly Rant, John Cochrane examines a proposed permanent 5% federal tax on billionaire wealth. While supporters argue that the tax would raise trillions of dollars in revenue, Cochrane points out that these projections treat investment and behavior as fixed, leaving unanswered how the tax would affect risk-taking, business formation, and future economic growth.
Billionaire wealth is not held primarily as cash; much of it remains invested in companies. Cochrane argues that redirecting those resources toward government spending would shift capital from investment to consumption, leaving fewer resources for new businesses, productivity gains, wage growth, and job creation. He also warns that a wealth tax would encourage costly avoidance strategies and reorganize businesses around reducing tax liability rather than generating value.
Read: Wealth Tax 2.0, The Grumpy Economist
Transcript
Hi, I’m John Cochrane, senior fellow here at the Hoover Institution, and welcome to my Grumpy Economist Weekly Rant.
Today, I’m gonna rant some more about wealth taxes. Senator Bernie Sanders and Representative Ro Khanna just introduced a bill proposing a permanent national 5% wealth tax on billionaires, along with an ambitious spending program for the results.
Now, what are the effects of a wealth tax? Is it possible for the government to spend the billionaires’ wealth without destroying the companies and jobs that produce their wealth and our wealth? To think about that, we need to understand incentives, budget constraints, and equilibrium.
Incentives. If you invest an extra dollar today, how much do you get in a year? A 5% wealth tax drags down the rate of return by five percentage points. So, if you earn 10% on your investments but then pay a 5% wealth tax, you only get a 5% rate of return after tax.
In that case, a 5% wealth tax is the same as a 50% tax on interest, dividends, and capital gains. And that’s likely an understatement. Ten percent is a pretty optimistic forward-looking return.
The wealth tax applies on top of corporate taxes, property taxes, taxes on dividends, interest, and capital gains. All taxes together give the disincentives. Inflation adds another wealth tax. My guesstimate is that the government takes all the return, and maybe some more.
Now, incentives matter, even to billionaires, and especially to would-be billionaires. Should they bet the farm on a new venture, investing their time and effort as well as their money? If the government taxes away the upside to investing, people take less risk.
High-risk investments is what produced America’s prosperity. Low-risk, low-reward, small-scale European investments produced European stagnation.
Budget constraints. Equilibrium. Billionaires don’t have a pot of gold that can be costlessly passed around. Billionaires’ wealth stays reinvested in companies. Redirecting that wealth to social spending lowers national investment and raises national consumption dollar for dollar.
That’s not hidden. That’s the point. But less investment mechanically means less capital for the future, fewer businesses, less productivity, lower wages, fewer jobs. Less investment also forces up interest rates.
Now, companies could finance their investment with foreign money, but that raises the trade deficit. We also have to pay back the foreigners someday, and maybe we don’t want China owning all our businesses anyway.
Avoidance. Elon Musk’s $42 billion proposed tax bill would pay for a lot of tax lawyers, accountants, and lobbyists. What do they do? Take businesses private, argue with the IRS about what they’re really worth, hide individual ownership and value in complex cross-linkages, trusts, and LLCs.
In fact, structuring businesses to avoid taxes rather than generate profit might be the most insidious effect of high taxation.
We have a wealth tax, you know: the estate tax. It tries to charge 40% of wealth once in a generation, or about 1% a year. And it attracts a beehive of perfectly legal avoidance.
Though it applies above a lowly $11 million, not a billion, the CBO reports that it yields only $18 billion, or 0.1% of GDP, in government revenue. A recent study by wealth tax backers reports that the estate tax collects only three to four hundredths of a percent annually of the Forbes 400 wealth.
Economists Emmanuel Saez and Gabriel Zucman offer an economic analysis of the wealth tax. Do they rebut my points? No. They don’t even mention economic disincentives. They don’t even mention the shift from investment to consumption.
They don’t address the obvious question: How do we eliminate billionaire wealth but sustain the company and economy that those billionaires created? They just add up that, if everyone sits still, the tax will cut billionaire wealth in half in 15 years and thus, inescapably, it cuts by the same amount the value of the companies that produce that wealth.
Well, if we get different answers, we must be asking different questions. And we are.
Sanders’s press release starts with the urgent need to confront the obscene levels of income and wealth inequality, and that so few people hold so much power. Saez and Zucman start with the curious assertion that democracies become oligarchies when wealth becomes too concentrated.
And they continue: “The billionaire wealth tax is the most direct policy tool to curb the growing concentration of wealth.”
Well, the French guillotine or a socialist nationalization might be more direct, but you get the point. The wealth tax is not about economics at all. It’s about envy. It’s about destroying the billionaires. And it’s about grabbing their supposed political power for the benefit of the government.
They want to get rid of the billionaires, even if we get rid of the companies and economy that they created.
John H. Cochrane is the Rose-Marie and Jack Anderson Senior Fellow of the Hoover Institution at Stanford University. An economist specializing in financial economics and macroeconomics, he is the author of The Fiscal Theory of the Price Level. He also authors a popular Substack called The Grumpy Economist.