Of course, 2013 will be fine, because the 1950s sure were. That’s the premise for the coming year, especially in regard to the agreement in Washington to raise U.S. tax rates on the well-off.
In the 1950s, after all, tax rates were far higher than what the House and Senate have agreed on, a top rate in the high 30 percent range. Back then, they were even higher than what President Barack Obama might have proposed, if left to his own counsel. Republicans in that era went along with the idea that high rates took something away from the rich and thereby stabilized society.
Republican President Dwight Eisenhower’s idea of a significant marginal rate cut was to push the top rate down to 91 percent from 92 percent. Corporate taxes hit 50 percent. Jobs proliferated, wages rose, and the economy prospered. Lately, several documentaries have tried to capture the period, including “Something Ventured,” about how the technology boom got its start.
The implications of this 1950s narrative are clear. High tax rates and the redistribution they might yield can stabilize us now, giving the economy “good directional stability,” to use an industry phrase for a 1950s car, the Nash Metropolitan. High rates can accelerate growth.
Even the staunchest fan of low taxes draws comfort from the 1950s storyline. The official tax rates to which the United States now reverts, such as the top income rate of 39.6 percent, still look so much lower than 1950s ones. So maybe the United States can thrive and innovate.
Unfortunately, the tax situation wasn’t what it seemed. The illusion commences with that famous 1950s top rate of 91 percent. Official rates matter, but so do effective rates, the percent of income that people actually pay in tax. The Internal Revenue Service reckoned that the effective rate of tax in 1954 for top earners was actually 70 percent.
Or lower. Marc Linder, a law professor at the University of Iowa, has shown that a more comprehensive interpretation of income that includes capital gains suggests the real effective tax rate for millionaires was 49 percent in 1953. The effective rate dropped throughout the decade, reaching 31 percent by 1960. That 31 percent is just slightly higher than the 29 percent level a Congressional Budget Office report figures the average effective tax for the top quintile will be in 2014. And that number for 2014 doesn’t include taxes in Obama’s health care law.
A second fantasy about the 1950s is that government soaked the rich. Joseph Thorndike and Martin Sullivan in Tax Notes magazine took a look at the tax distribution of the decade. They found that those earning more than $100,000 paid less than 5 percent of the taxes collected in the United States, a far smaller share than the wealthiest shoulder today.
A third aspect of the 1950s, and one that differs from today, was that taxes then were headed downward — there was “directional stability.” Everyone understood that taxes were dropping, at first, modestly or unofficially, through loopholes, then officially in the rate cuts of the early 1960s under Democratic Presidents John F. Kennedy and Lyndon Johnson.
Even Eisenhower pushed for a reduction in dividend taxes, though he succeeded only modestly. The prospect of lower taxes encouraged growth. Today, by contrast, whether they apply to dividends or income, taxes are set in the “up” direction. The only debate, as we saw this week, was by how much, and when.
A final reason that the 1950s were different from today was American primacy. In those years the United States might set its taxes, nominal or real, at whatever level it liked.
The only competition it confronted, after all, was from Europe, still recovering from World War II, or the U.K., whose tax regime was even more confiscatory than our own. Now, however, the United States must compete. And this is where the United States, with some of the world’s highest corporate taxes, flunks.
The political dynamic of the 1950s is traced by Thorndike in a paper he wrote for New York University Law School and the Bush Institute, where I work. “The high tax rates of the 1950s represented a compromise of sorts,” Thorndike writes, “between those who wanted to ‘soak the rich’ in the name of fairness and those who sought to ‘float all boats’ with a rising tide of economic growth. When we recall the era’s sky high statutory rates, we are remembering only half the story.”
The behind-the-scenes record of the 1950s portends both good and ill. The good is that the higher tax rates that are coming will last longer on paper than they do in reality. The bad news is that those rates will hold at first, with genuine costs to growth that both parties will be slow to acknowledge. In other words, “2013” may be another documentary, but not necessarily one we want to watch.
Shlaes, a Bloomberg View columnist, is the director of the Four Percent Growth Project at the Bush Institute.