Representative Alexandria Ocasio-Cortez recently floated a marginal tax rate of 70 percent on income over $10 million. The idea is to reduce inequality via redistribution via higher tax revenue. Whether it’s a good idea is another matter. Consider the following:
This chart actually explains why there is such income volatility among richest US households: much of their income comes from selling capital assets, such as a business or shares in a mutual fund. These are often one-off affairs and not a steady source of revenue. Thus it’s no surprise that roughly half the households that manage to earn at least a million only do so for a year. In other words, there’s a lot of churn at the top.
What does this have to do with tax rates? Super-high tax rates change behavior in ways that counter the revenue-raising effect and can sometimes be bad for the economy. Think about it: if you were looking at a 70% marginal tax rate, would you sell as many shares in the same year? Would you hang onto your business even though you’d prefer to sell - and it would be better for the business (and employees) if you did sell? If a person has a once-in-a-lifetime chance to make their million, they will calculate how much they have to lose in taxes and will change their behavior accordingly. This is why an estimated eight Americans - yep, you read that right - paid the top marginal rate in 1960. This is also why, despite top marginal rates of 70-90% in the 1950s, tax revenue as a percentage of GDP was about the same then as it is now. It’s also why the Europeans lowered their top rates.
Next: How the Europeans do taxes.
Reference:
Robert Carroll “Income Mobility and the Persistence of Millionaires, 1999 to 2007” Special Report No. 180. June 21, 2010