We do not need a wealth tax
In its recent throne speech, the federal government said it was considering a tax on what it termed “extreme wealth inequality” in this country. There are several reasons why this would be a mistake, as I outline in a new paper published by the Fraser Institute.
To begin with, wealth inequality is not increasing in Canada. Statistics Canada data show that the wealth held by the lowest three income quintiles rose more than for the highest two quintiles over the past decade, boosting their share of wealth from 27.1 per cent in 2010 to 29.5 percent in 2019. The gain in wealth for lower-income people reflects increases in their holdings of both financial and non-financial assets and began before Canada’s housing market took off in 2015. Canada’s middle class holds more financial assets than the U.S. middle class does and is therefore less vulnerable to a downturn in the housing market. The myth that inequality has reached extreme levels is yet another example of a narrative from the U.S. distorting a policy debate in Canada.
The recent increase in wealth was led by younger generations. The wealth of baby boomers rose by 64.6 per cent between 2010 and 2019, while for Generation X it increased 133.9 per cent and for Millennials, 465.5 per cent. Even so, over half of wealth was held by people more than 55 years old, which means a tax on wealth could easily morph into a tax on age.
It is worth clarifying that most wealth is held by individuals, not corporations. At the end of 2019, household net worth in Canada stood at $11,876 billion (i.e. $11.876 trillion) compared to just $622 billion for corporations and $268 billion for government. Given this distribution, it is clear that a wealth tax would not shift the tax burden to firms. Most firms simply do not hold enough liquid assets, as was painfully revealed during this year’s severe economic downturn. Moreover, not all forms of wealth appear in the data on household wealth. For example, the benefits promised by government pension plans such as Old Age Security and the Guaranteed Income Supplement are excluded, even though they clearly affect household savings behaviour.
In practice, wealth taxes have proven costly to administer and generate little revenue. As a result, eight of the 12 European countries that have experimented with them have given up on wealth taxation in recent years. There are several reasons why wealth taxes proved ineffective in raising tax revenues or reducing inequality. Wealth is difficult to define, measure, and tax. The largest sources of wealth are housing and pension assets, which are almost always exempt from a wealth tax because they are so widely held. In Canada, real estate and pensions account for two-thirds of household wealth. As a result, wealth taxes are applied to a narrow range of assets, the value of which can be difficult to establish.
On top of the narrow base to which a wealth tax applies, the rate of taxation must be kept low. This is partly because a wealth tax is equivalent to a punitive tax on capital income. However, a wealth tax has the additional complication that it must be paid even when income is low, as it is during recessions. This strain on liquidity is especially severe for start-ups, which often lack capital.
In theory, a wealth tax creates a substantial incentive to shift assets to jurisdictions that don’t have such a tax. In practice, such tax-shifting happens regularly, given the ease with which many taxable assets can be shifted across borders. Even wealth tax advocates such as Thomas Piketty admit that “the risks of evasion would be very high” without widespread sharing of bank information among countries, which so far has proved difficult to implement. Some of the recent increase in wealth in Canada and other countries reflects a decade of easy monetary policies—policies whose goal was precisely to boost asset prices and household wealth. Without passing judgement on the long-term efficacy of easy money policies, it would be strange for our governments to encourage higher wealth with monetary policies and then tax it away with fiscal policies. If our society judges the recent increase in wealth to be non-productive or unfair, it should reverse the monetary policies that helped produce it.
Besides being ineffective, wealth taxes dampen saving and investment and slow long-term growth. This is the wrong message to broadcast as Canada struggles to recover from a decade of sub-par growth and its worst recession since the 1930s.