No one in America seems to understand the transforming effect that the Reagan and Bush tax cuts have had on our country. We occasionally discuss the terrible deficit, which is non trivial, but hardly the most devastating impact that the tax cuts have had on the social fabric of our country. Over the last twenty years America has become a country few of us recognize, yet none of us seem to understand why things have changed.
We used to have a tax code that effectively placed an upper limit on how much a corporate executive or indeed anyone could make in a given year; it was not an outright prohibition, but only a progressively greater disincentive to taking more and more. Reagan in his folksy way frequently told the story about the actor who in a year of great popularity “could not afford to make any more movies” because all the additional income would go in taxes, a stilted exaggeration but not entirely untrue. The top marginal rates of the progressive income tax in this country were once in excess of 90%; for all intents and purposes we had a tax on greed. When an executive got to the top of his organization he had a limo, free use of the corporate Sky Box, honored standing in his community, the respect of his employees (assuming he had any degree of character) and a very nice income. But he had no incentive to suck as much money as he could out of his company, because he knew he would pay almost all of it out in taxes.
Our high marginal tax rate tended to encourage and support stewardship on the part of corporate executives by reducing the temptation to take too much. The system was far from perfect, but in effect we taxed greedy behavior and, as economists and politicians know, if less of something is wanted, the rule is tax it. As the top income tax rate has plummeted from being confiscatory to mild by global standards, the built-in disincentive to greed has vanished. Our former tax structure reduced the need for a tough, comprehensive system of “corporate governance” since the incentive to rip off one's organization was largely capped by the tax structure. When Reagan's tax cuts radically changed the incentive structure for corporate executives, board members, under the long established, gentlemanly system of corporate oversight, could only look on with polite acquiescence.
They could cluck their tongues at declining standards and the unseemly rise of greedy, perhaps unethical behavior, but ultimately they were powerless to constrain the rapacious growth in executive pay. In the ensuing and inevitable rush for wealth, interest in institutional stewardship has been lost. The goal, instead, has become to get as much money out of the corporation at the expense of employees, stockholders, bankers, bondholders and the government, and into the pockets of the executives as quickly and as completely as possible. WorldCom, Tyco, HealthSouth, Enron et al are only examples of careless, dumb, sloppy or overly confidant executive excess, but not spiritually different from the prevailing attitude: the role of the executive today is personal self advancement.
The entire business culture in America has become transformed because we have stopped taxing greed. I know because I have worked as a corporate economist and strategy consultant for 30 years and I have watched it happen. Instead of building more viable and competitive businesses that add value to the community and the economy, executives are now given performance incentives to maximize shareholder value. Hordes of business school graduates are turned loose to create new strategies that can wring more and more immediate cash out of the organization through cost cutting, out sourcing and off-shoring.
Ultimately, working as a high powered team, they succeed in totally deconstructing the corporation so as to produce short term profits with which to reward the now most highly paid executives in the world. In the early 1980s before the Reagan and Bush tax cuts US corporate executives were paid 42 times as much as their average employee. Today, thoroughly incentivized by our now nearly flat tax structure, these executives succeed in taking home 431 times their employees' pay, while US industrial employment stagnates and our trade deficit grows to destructive heights.
Looking beyond the world of over-paid executives to American society as a whole, it is obvious that the only thing that has trickled down is greed. Just recently economists have documented that consumers do not measure their well being in absolute terms but rather in relative terms as compared to what they see in the society around them. Thus, when the tax cuts removed the cap on high incomes, everyone, up and down the income spectrum, began to feel deprived. No matter how much one made there was someone else not too far away who was making much, much more. When there is in effect no upper limit everyone demands more and more and must have more and more even when they cannot afford it just to prove that they are not failures.
Before the tax on greed was removed Americans saved more than 10% of what they made; now we save less than 2%. Although we complained about keeping up with the Joneses, “keeping up” pre-tax cut was very different than post-tax cut. Back then, people put themselves out occasionally when they got a bigger, better, faster car, or perhaps a larger, fancier home.
Today, however, in our post-tax cut world, keeping up has turned into an all-consuming compulsion for Americans of all ages that encourages the taking on of more and more debt in an unending pursuit of relative status that is totally and completely money driven. In this competitive process, the price of high ticket prestige purchases from McMansions to winter vacations to Ivy League tuitions have been bid out of sight. Those that get there through ever more clever bending of rules are the smart ones to be emulated. Those who expect that virtue and probity will be honored or respected are seen to be fools. This is the world we have wrought by the changes in our tax code.
If America's political leaders had an ounce of courage they would call for a resumption of the Greed Tax and once more put a cap on American income, but, alas, all are much too busy trying to inflate their own incomes so that they too can keep up. As an economist, I fear it will all end very badly and fairly soon, given the rate at which we are borrowing around the world to appear rich and stay ahead. If anyone wants to stop this orgy of greed, demand that we tax it.
