Thread by @tom_krebs_

The Social Democratic Party (#SPD) has put forward a proposal for re-introducing the #wealth tax in Germany. In this Thread I’ll discuss the economic pros and cons of the proposal. My conclusion is that if done right, the wealth tax could be good for the economy. @bmf @bmas

The proposal is not yet very specific yet, but we know a few things. The wealth tax will apply to wealth larger than a certain minimum wealth level. The tax will probably be around 1% p.a. and perhaps go up to 2% for large fortunes.

I begin with two arguments in favor of the wealth tax that are often made. These 2 arguments are reasonable, but probably not convincing enough to make a convincing case for a wealth tax in Germany.

Pro-tax-argument 1: The rich kid inheriting a large fortune gets a free-ride and this violates the idea/ideal of equal opportunity. I have some sympathy for this point, but one gets very quickly drawn into an ugly envy-discussion.

Pro-tax-argument 2: Large wealth means large power to influence policy and therefore we should avoid large concentration of wealth. I think this point is of first-order importance for the US, where the lobbying of powerful groups have led to a break-down of the political system.

In contrast, in Germany there is a balance of power between big money lobbying for the employer side and unions representing the employee side. Of course, since the 1980s the power has continuously shifted towards the employer-side, but this trend has recently been broken.

I next discuss two arguments against the wealth tax that are often put forward. I find these arguments quite unconvincing.

Con-tax-argument 1: Capital is mobile and will flee the country. This argument rests on the idea (hope) of a weak state, which has been the mantra of the 1980s and 1990s, but times have changed. I think legal and illegal tax evasion will have a much harder time in the future.

Con-tax-argument 2: The German saver will save less because the return to saving has decreased. Given the relatively high saving rates of German households, I don’t think that should worry us too much. However, the situation is different for investment of the "Mittelstand”.

Con-tax-argument 3: Entrepreneurs will cut back on investment and this leads to less capital accumulation. In addition, with less capital they will also hire less labor. Overall, the capital stock, employment, and output all decrease – the neoclassical argument against the tax.

There are three reasons why the neoclassical analysis is more complicated. First, the suggestions is to use the tax revenues for infrastructure investment. This increases the productivity of entrepreneurial production and improves the ability of entrepreneurs to hire labor.

Second, let’s allow entrepreneurs to invest in their workers – the input factors are physical capital and human capital. Now the additional tax on physical capital will give entrepreneurs an extra incentive to invest in their workers, which increases productivity and output.

Third, I would add to the policy proposal a subsidy for on-the-job training in small- and mid-sized companies. This subsidy provides entrepreneurs an incentive to invest in their workers increasing productivity, wages, and output.

Overall, the proposed wealth tax has an ambiguous effect on employment, productivity, and output if tax revenues are used for infrastructure investment and subsidies for worker training.

However, my sense is that the positive effects will dominate and the policy proposal will increase productivity, wages, employment, and output – it generates inclusive growth.