Income Inequality – the Vicious Spiral

Today’s blog is not about the obvious parts of that spiral – the self-perpetuating upper-income classes where their children get the best educations and deep pockets from day one – generation after generation. Today, we are looking at the immediate impact on states, the major providers of public education at every level, the powers that decide infrastructure priorities, and the politicians who are struggling to find money for the 2.7 trillion dollars of unfunded pension and retiree health benefits to state and municipal civil servants (past and present). Instead of fixing roads and educate our future competitive generations, state and local governments are simply looking for more programs to cut.

On September 15, credit rating service Standard & Poor’s – an agency that rates state and local bonds overall creditworthiness – issued a report on exactly how income inequality is making it increasingly difficult to generate the kind of state and local tax base needed for so many communities to dig themselves out of the financial hole (cut services and massive debt) that they were shoved into in recent years. What’s worse, they are equally unable to provide current cost-effective basic services to their constituents.

The September 15^th Washington Post summarizes: “Even as income has accelerated for the affluent, it has barely kept pace with inflation for most other people. That trend can mean a double whammy for states: The wealthy often manage to shield much of their income from taxes. And they tend to spend less of it than others do, thereby limiting sales tax revenue.

“As the growth of tax revenue has slowed, states have faced tensions over whether to raise taxes or cut spending to balance their budgets as required by law... ‘Rising income inequality is not just a social issue,’ said Gabriel Petek, the S&P credit analyst who wrote the report. ‘It presents a very significant set of challenges for the policymakers.’

“Stagnant pay for most people has compounded the pressure on states to preserve funding for education, highways and social programs such as Medicaid. The investments in education and infrastructure also have fueled economic growth. Yet they’re at risk without a strong flow of tax revenue… The prospect of raising taxes to balance a state budget is a politically delicate one. States have used the allure of low taxes to spur job creation by attracting factories, businesses and corporate headquarters…

“Income inequality isn’t the only factor slowing state tax revenue. Online retailers account for a rising chunk of consumer spending, yet they often can avoid sales taxes. Consumers are spending more on untaxed services, too.

“S&P’s analysis builds on a previous report this year in which it said the widening gap between the wealthiest Americans and everyone else has slowed the U.S. economy’s recovery from the Great Recession. Because consumer spending fuels about 70 percent of the economy, weak pay growth typically slows economic growth.”

If the largest U.S. corporations have figured out how to take the 35% federal corporate tax rate down to an average effective rate of 13%, particularly with the use of off-shore structuring, they have made mincemeat out of state and local taxes. Big companies, seeking concessions to relocate or simply to stay in play, often negotiate favorable tax rates – from property to income tax – from states desperate for the jobs. They’re desperate in other ways too.

States have found ways to squeeze money out of the feds by, for example, gaming the Medicaid system by artificially allocating charges and controlling benefits to up the federal contribution well beyond permitted limits: “The Department of Health and Human Services, which runs Medicaid through its Centers for Medicare and Medicaid Services (CMS), has known about the issue for more than a decade, but states still find ways to game the system.” Washington Post, September 15^th. Hundreds of millions of dollars in some states! But unlike the feds, the states can’t “print money” (increasing the money supply); they have to beg, borrow and… yup… steal.

I’ve already blogged at length on what needs to be done – disallowing value transfers by American companies to their foreign controlled entities so that those are no longer “deductions” to the US entity, repatriating earnings overseas to face US tax liability, eliminating the carried interest rule and extending capital gains over several years (not mere 12 months), nullifying “inversions” where US companies simply more their headquarters overseas with a little merger trick and reinstating taxes on intergenerational transfers of wealth.

As layoff kings, “replace people with robotic automation” czars (where labor once got paid, the owners of the machines that replaced them now get paid) and “outsourcing” mavens, these corporations  and mega-wealthy families can no longer be the tax-avoidance sacred cows of our times. It is time to milk the cow and level the playing field.

 I’m Peter Dekom, and the oddest part of all of this is the reality that even for the mega-wealthy the long-term ramifications of income inequity offer horrific consequences in terms of both economic growth and quality of life.