The Power to Tax Is the Power to Destroy—Societies
If the Europeans couldn't succeed by seizing the ownership of productive enterprises, the next logical step in funding entitlements was to tax the profits produced by those enterprises. Profits were taxed at the corporate level, of course, but the serious money was raised by taxing individuals.15
When income taxes were first introduced, rates were very low (7% in the United States, for example) and compliance was laughable. But after World War II, and especially in the 1970s, when state-owned enterprises began to implode, tax rates skyrocketed. In Britain, top marginal rates stood at 98 percent as late as 1979.16 Such rates so suppressed initiative, and so crushed private enterprise, that it seemed as if everyone in the UK was on the dole.
And in fact, everyone was on the dole, not just in Britain but across Europe. Because it wouldn't make sense for middle-class taxpayers to pay out in taxes more than they were getting back in entitlements, the only people who were net taxpayers were the wealthy. And once the wealthy had been squeezed dry, the party was over. As Margaret Thatcher was fond of pointing out, if your strategy is to pay for ever-increasing entitlements with ever-fewer people's money, you will soon run out of other people's money.
There are two fundamental problems with very high, very progressive tax regimes. The first, already mentioned, is that they destroy initiative. Even to this day, Europe (outside of post-Thatcher Britain) has virtually no venture capital industry and hardly any entrepreneurialism of any sort. In the Unites States, we tend to view entrepreneurs as economic heroes, creating jobs and developing products and services that increase human well-being. But in Europe, entrepreneurs are frequently viewed as troublemakers.
The second problem has to do with progressivity itself. Whereas certainly most people agree that higher-income taxpayers should pay more than lower-income taxpayers, the argument for highly progressive marginal rates rests on a very thin reed. Originally, progressivity was viewed in the same spirit as the communist slogan, “From each according to his ability, to each according to his need.” It sounded good, but reality acted like a glass of ice water tossed in its face, and today the spirit of the slogan exists nowhere except in the tax code.17
When the sloganeering justification for progressivity evaporated, the arguments for highly progressive tax rates became increasingly disingenuous: mainly, “I need the money,” and “it's very popular.” Obviously enough, the fact that one group of (middle-class) citizens desires more entitlements is hardly a reason to confiscate other citizens' capital: One man's “fair share” is another woman's confiscation of her hard-earned income.
The popularity issue has also evolved amusingly over time. As long as high marginal rates apply to only a few wealthy taxpayers, progressivity is naturally popular. But that doesn't make it fair. Indeed, once one's own ox begins to be gored, one's enthusiasm for progressivity evaporates very quickly. The best—and, really, the decisive—example is right here in the United States: the Alternative Minimum Tax. Originally enacted in 1969 as the Minimum Tax, it applied to a tiny handful of taxpayers—154 of them!—who reported more than $1 million of income but paid no tax (perfectly legally). The AMT was for many years the most popular provision in the tax code.
But by the late 1990s more than 600,000 taxpayers were ensnared by the AMT, and today more than four million taxpayers pay it. Guess what? It's the single most hated part of the tax code—which is saying something.
Once Margaret Thatcher was elected Prime Minister in the UK, she placed herself firmly astride the tracks down which the train wreck of Britain was hurtling. She quickly focused on reversing the disastrous policies that had led to precipitous national decline: She sold state-owned enterprises, broke the unions' stranglehold on the economy, and promoted more broadly flexible labor markets. Most important for our purposes here, she ratcheted down tax rates.
Counterparts to Mrs. Thatcher were in short supply elsewhere in Europe, but even the left-wing socialist parties gradually recognized that sky-high and ever-rising tax rates weren't improving the quality of citizens' lives. Instead, economic growth had come to a halt and Europe was falling dangerously behind the United States and the emerging economies (especially, the “BICs,” ignoring Russia). Without changing their names or, nominally, their ideological positioning, Europe's socialist parties began moving rightward, and tax rates across Europe began to come down.
As had happened with seizing private property, using the power to tax to redistribute wealth had worked for a while. But the power to tax really is the power to destroy—to destroy not wealthy taxpayers, but entire economies. Europe had, in fact, run out of other people's money.