Does Britain need a wealth tax?

On 2 December, King’s College London’s Politics Society organised a debate on the question of whether Britain needs a wealth tax. Former Business Secretary Sir Vince Cable and Prof Josh Ryan-Collins from University College London argued in favour; IEA Economics Fellow Dr Andrew Lilico and IEA Editorial Director Dr Kristian Niemietz argued against it. The article below is based on Kristian’s opening remarks.

The easiest way to approach a question like this is by asking: has anyone ever done this before, and if yes, what were the results?

In the case of the wealth tax, that is a fairly straightforward thing to do. Wealth taxes have been tried lots of times. In the early 1990s, about half of Western Europe still had wealth taxes of one type or another. In the meantime, almost all of those countries have given up on them, including, in some cases, under left-wing governments. Today, only Norway, Switzerland and Spain still have wealth taxes, and the Spanish one has so many exemptions that it is largely symbolic; they might as well just scrap it altogether.

If you look at how governments that have scrapped their wealth taxes have justified that decision, you will find three motives that pop up again and again:

1.) Wealth taxes are a bureaucratic and administrative nightmare.

2.) Wealth taxes supress investment and capital formation.

3.) Wealth taxes don’t raise much revenue anyway.

Revenue

I’ll start with the last point. Some supporters of wealth taxes – Zack Polanski in particular – talk about them as if they were the ultimate cash cow. But actually existing wealth taxes never have been. Not even close.

With the exception of Luxembourg, which had a broad-based wealth tax not limited to the super-rich, nobody has ever managed to squeeze much more than 1% of GDP out of a wealth tax. Switzerland raises just over 1% of GDP from its wealth tax, as did Sweden, and as did West Germany for a while. Revenue-wise, this is about as good as it gets. Most wealth taxes have raised far less than that: a quarter of a percentage point of GDP or so is far more typical.

But let’s assume that a British wealth tax would be among the better ones. Let’s say it raises 1% of GDP. We currently have a budget deficit of almost 5% of GDP, so a wealth tax wouldn’t even touch the sides. Maybe Mr Polanski has magical growth-inducing powers. He’s going to need those to grow his wealth tax revenue, if he wants to deliver even a fraction of what he’s promised to do with it.

Valuation

So what, I hear you say. Even if it only raises a few billion, that’s still better than nothing. A wealth tax that doesn’t exist raises £0.

Which would be a fair point is wealth taxes had no downsides. But they do. One of them is that they require a massive valuation bureaucracy.

Essentially, the problem here is this: we don’t know how much things are worth until we offer them, and see how much people are prepared to pay for them. That’s not a problem for income taxes or consumption taxes, because those are tied to market transactions. If you offer something for £10, and people buy it for £10, then that it’s not unreasonable to suggest that that thing is probably worth around £10. The government can then slap a tax on those £10. But wealth taxes are not tied to any transactions.

That’s not a problem for assets that are traded with sufficient frequency. Suppose you own shares in Microsoft which you never trade. That’s not a problem. We still know how much a Microsoft share is worth. You may not trade yours, but millions of other people trade theirs, and those are identical to yours.

It becomes a problem, though, for assets that have no close substitutes, and that are infrequently traded. Take houses. I recently had to move house, because our landlord was selling. I asked him, out of interest, how much he was planning to ask for. It turned out that he had no idea, because the place hadn’t been sold since the 1990s. He said he’d need a professional valuation. Now, this was on the border of Zone 2 and Zone 3 in London, where there are lots of transactions, and where there are several near-identical homes nearby. Imagine having to do this all over the country.

If we look at the wealth composition of households with net wealth of more than £5m, it turns out that assets which are particularly hard to value are overrepresented. More than 40% of it is business wealth. How do you value a business that has not been sold for many years? How do you value a business that has never been sold? It’s a massive headache for little gain.

The old (West) German wealth tax was abolished for precisely that reason. After 100 years, they had still not sorted out their valuation issues. Maybe it’s just because they never had a Zack Polanski or a Gary Stevenson, but it could also be because it genuinely cannot be done any better.

Impact on wealth formation

The Wealth Tax Commission was an academic project that was extremely sympathetic to wealth taxes. They never explicitly said that, but why else would you even bother to set up or join such an organisation?

Anyway: after reviewing all the empirical evidence on behavioural responses, even they couldn’t bring themselves to recommend a wealth tax as a permanent feature of the tax system. They went, instead, for the cop-out of recommending a one-off wealth tax only.

Why? Because they found that what the critics of wealth taxes say about their behavioural effects is largely correct, even if it has sometimes been exaggerated.

This is something which proponents of wealth taxes often get wrong. They see a wealthy businessman on TV, who threatens to leave the country if a wealth tax is introduced, and they think: ‘Come on, this is surely just a bluff!’ And they’re right. It probably is a bluff. But it doesn’t follow that the opposite is true, and that nobody ever changes their behaviour in response to a wealth tax.

Of course people sometimes exaggerate. This is a political debate, and that’s what people do. But people who are subject to a wealth taxes really do adjust their behaviour in a number of different ways. None of these responses are huge, on their own. There is not going to be a sudden exodus of millionaires, or an investment stop, or a collapse in the savings rate. I grew up in a country which had a wealth tax. That didn’t mean that there were no millionaires: of course there were. It didn’t mean that there was no investment: of course there was.

But at the margin, people do adjust their behaviour. These small, marginal responses add up, and they grow bigger over time. They don’t ruin the country, but they make it somewhat poorer than it otherwise would have been. And for what?

Why here, and why now?

There are parts of the world, and periods in history, where I can see where supporters of wealth taxes are coming from. In the US, the wealth share of the top 1% went up from 22% in the late 1970s to 36% in the early 2010s, with a particular jump during the Great Financial Crisis. It was against that backdrop that Thomas Piketty’s book took off. I still don’t think a wealth tax would have been the right answer, but the people supporting it were asking the right questions.

In Britain, the issue came up after World War I. Wealth inequality was sky-high, the country’s public finances were in dire straits, and there was social unrest. Again, I still don’t think a wealth tax would have been the right answer, but it’s no surprise that lots of people thought otherwise.

But why now, and why here? Wealth inequality is not especially high in Britain, and it is not rising. The tax burden is already at record levels, and according to the OBR, it is going to rise even further over the coming years. Public spending has gone up from about 40% of GDP just before the pandemic to 45% today, and it is not at all clear what we are getting in return for all that extra spending. Imagine looking at Britain’s fiscal situation, thinking: ‘I know what this country needs right now – yet another tax!’

What problem would that solve? It would be like Rachael Reeves’s promise last year, when she announced a big tax hike, that she would not come back in a year’s time asking for more. With her latest Budget, asking for more is, of course, exactly what she has done.

Does anyone seriously think that if Britain introduced a wealth tax, there would be no further demands for additional spending on the NHS? On climate policy? On working-age welfare, on old-age benefits, on public sector pensions and pay rises? Of course there would be! There always will be. Any extra revenue from a wealth tax (if there is any) would immediately be taken for granted, and a year later, the same campaigners who always call for higher spending will be back again, calling for more.

Again: since 2019, public spending has already increased by five percentage points of GDP. This increase has had next to zero impact on political debates and the political climate. We are still being told that the NHS is being ‘defunded’, that we’re not doing anything on climate change, that ‘austerity’ is destroying the social fabric, and all the rest of it. No conceivable level of wealth taxation is going to make the blindest bit of difference to that.

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The alternative

Last but not least, opposition to the wealth tax is not support for the status quo. I don’t particularly care about wealth inequality, but there are a number of things we could do which would make economic sense, and which would also, as a side effect, lead to a more equal distribution of wealth. That’s not the reason why I support those measures, but it doesn’t hurt.

I’ll mention two. Firstly, I would like to see a much more savings-based pension system. Rather than forcing people to pay high pension contributions to the state, I’d rather have a system in which people are given the opportunity to regularly put modest amounts of money into their own pension funds. Unlike wealth taxes, such systems have been shown to work in practice, for example in Australia and Chile. In those systems, everyone gets the opportunity to build up some wealth over time. You get a more equal distribution of a bigger pie of wealth.

Secondly, I’d massively liberalise building rules, and flood the market with new homes. Indirectly, that would amount to a redistribution of property wealth, because those who are already well-housed would see the value of their property decline, but those who are currently locked out of the property market would be able to get in. It would be a market-led redistribution, not instead of growth, but through growth: the average property value would be lower, but there would be more of them, so the total amount of property value in the country would be higher.

Imagine half of the political energy and enthusiasm that currently goes into the promotion of wealth taxes went into promoting an abundance agenda instead. We’d be in a much better place.

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