There’s a big discussion about reforming the tax structure for the general population, primarily focused on rich vs. poor in America. That discussion is pretty muddled by various interests, and I don’t see much clarity coming from mainstream broadcast media.
It is fairly clear, no matter where you stand on the issue or in the rubric of wealth distribution in the United States, that we’ve seen a rather extraordinary concentration of wealth in the highest echelons over the past decade or two decades, depending on when you want to start tracking the slope.
I’ve been considering how that structure came to be, but rather than focusing on income as a whole, I have been trying to figure out what is happening in the unearned income segment.
What stands out is we’re taxing capital gains at about 15% and income returned on dividends at about 35%. The justification of that tends to fall into the category that owners of companies with significant shares of stock will be making a great deal of money from dividends, but perhaps it has wider implications on market behavior. And perhaps those implications have something to do with the current state of our general perception of the economy, where the stock market indexes are considered as barometers or bellwethers of our progress and fiscal health as a nation and society.
Just looking at it from the surface, the tax structure seems to provide incentives against owning stocks for long periods of time as investments in companies that provide sustainable and responsible growth over certain periods. At the same time, it provides and incentive to follow an old adage: “buy low and sell high.”
We’re looking at certain market behaviors over time, booms and bubbles and busts, that seem to correlate with these incentives. The tax strategy on keeping capital gains rates low drives behavior towards stock speculation where investors buy stocks at low points, ride them up as the market populi start to recognize the trend, and then jump off the wave at the right point before the company’s stock is starting peak – usually about the time people realize the stock was overvalued and the company wasn’t positioned with a product or management strategy that was going to make it in the long haul.
With financial regulations such as they are and the popularity of mutual and hedge funds and other managed financial products, the ability for the very wealthy, big fund managers and savvy investors to manipulate the market for social, political and economic gain increases. This alone is something that should deeply concern 98.5% of the nation’s population who are alienated from this market, and subsequently removed from their own ability to secure their retirement or save for their future.
It also discourages companies to pay out their profits as dividends, so stable companies where the stock is not ‘growing’ in perceived value are less attractive to a wider range of stock investors, which logic would suggest is the middle and lower middle classes who are not owners or executives of publicly traded companies or the beneficiaries of family portfolios.
While it may well be a case of correlation vs. causation, we have certainly seen runaway escalation in the amount of company revenues that are paid to executives as what are now astoundingly exorbitant compensation packages of salary, bonus and stock. This is part of the recent trend in concentrating a great deal of the economy’s financial capital into the hands of very few wealthy families and individuals.
At the same time, we’re seeing a large portion of the potential investor community being disenfranchised and even alienated from involvement in corporations. Shareholders have very little access and very little return by and large and companies do not make stocks worth owning.
Perhaps one part of the tax reform solution and finding better balance in the wealth distribution to create a healthy investing climate and consumer market should investigate a more nuanced approach to dealing with this kind of market behavior. One possibility is to enact a graduated tax on dividends where the higher numbers of shares owned are taxed differently or the portion of income paid via dividends is progressively taxed the higher it goes. The fundamental idea would be to encourage investors to balloon stocks but actually invest where value exists, and also encourage companies to pay out more of their profits as dividends and less as huge compensation to executives.
I am not sure what the proper mechanism is to rectify, but the problem of this tax structure and the effect it seems to be having on the public perception of the economy as a whole and the markets are more than troubling. If our perception of financial health is largely dictated by the market indexes, and many see the way to their own financial health and security to be through public investment, it is a problem we must address.