Corporate profits

Can taxing luxury goods and corporate profits reduce inflation?

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Auditor Bonnie Hogue from Santa Rosa, California asks:

Those most affected by inflation seem to be America’s middle class and poor. So why not encourage taxes on luxury items, corporate profits, etc., to curb inflation rather than hitting the average American’s ability to buy a home, pay for a car, make groceries, etc. ?

When it comes to reining in inflation, the Federal Reserve’s main tool, crude as it is, is raising interest rates. When the Fed raises its benchmark interest rate, money becomes more expensive to borrow.

But the Fed doesn’t have to fight inflation alone, said Lindsay Owens, former adviser to Sen. Elizabeth Warren and executive director of the Groundwork Collaborative.

“It’s not been the case historically that the Fed Chairman has always gone it alone on pricing. You know, Harry Truman, Franklin D. Roosevelt – they coped with inflation without a lot of rate hikes. They’ve tackled inflation with a suite of policy tools, from tax increases to supply-side investing,” Owens told “Marketplace” Kai Ryssdal in an interview this week.

As our listener Bonnie pointed out, inflation hits low- and middle-income Americans particularly hard. Cristobal Young, an associate professor at Cornell University who studies economic sociology, agrees that fiscal policy should be part of the solution.

“Taxes on high incomes or corporate profits would certainly help dampen inflation,” Young said. “Any realistic tax hike alone wouldn’t be enough to solve our inflation problems, but it would help, and it would help share the coming pain of disinflation.”

But revenue from taxes should be used to reduce the deficit, Young noted, not to spend on government programs and projects.

“If you spend those tax dollars from the rich on social programs or infrastructure, it won’t do anything to reduce inflation. If the tax doesn’t lead to less spending, it won’t help fight inflation,” he said.

President Joe Biden’s Inflation Reduction Act contains provisions to amend the tax code, Young pointed out. The whole act a minimum corporation tax of 15% and a 1% tax on corporate share buybacks.

But Young doesn’t think those measures go far enough.

“Clearly the inflation problem is more serious than we realized this summer,” he said.

The minimum corporate tax, for example, would increase only about 20 to 30 billion dollars each year, based on preliminary estimates from Penn Wharton’s budget model, he explained.

“Remember that the federal budget is about $6 trillion,“said Young. “So the IRA was more of a balancing-budget policy, rather than a great deficit-cutting inflation fighter.”

To effectively fight inflation through a tax-based strategy, Young said a tax would be needed that would raise 10 to 20 times as much, or about $300 billion to $600 billion.

Taxing corporate profits can be tricky, said Mark Witte, an economics professor at Northwestern University, because companies could try to delay reporting their profits.

Regarding luxury taxes, Young said the United States attempted this in the early 1990s. The George H. W. Bush administration enacted a 10% markup on luxury items, which included private boats costing over $100,000, cars costing over $30,000, and jewelry costing over $10,000, among other items.

But critics said the luxury tax ‘has lowered sales and employment in affected industries’ and increased $97 million less than expected. Congress repealed tax on almost all goods in 1993 (it repealed the automobile tax about a decade later).

At the time, Americans weren’t fighting inflation, Young pointed out. The luxury tax was intended to raise revenue to help reduce the federal deficit. While declining sales was seen as a failure of the luxury tax in the 90s, it would be today.

But defining a luxury good and deciding which products fall into that category would be controversial.

“I think a luxury tax is a bit more difficult than an income tax. alliances, the Teslas,” Young said.

A more effective strategy? Raise the top tax rate, Young said.

“For me, the most feasible step would be to set a new ‘millionaire tax bracket’: increase the top marginal rate from 37% to 45% on income over $1 million,” said Young. “If we pass this next month, it would rein in spending by the rich, moderate inflation and offset the need for further interest rate hikes that are on the horizon.”

Witte agreed that raising taxes in general, through progressive taxation, could help fight inflation.

“Almost anything that slows the economy will be more painful the lower the income gradient,” Witte said. “Unfortunately, I think the most vulnerable people will continue to be the most vulnerable people.”

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