Ownership Inequality = Income Inequality: Why Pimco’s Bill Gross Redistribution Argument is All Wrong

Bill Gross, Pacific Asset Management, recently wrote in his monthly newsletter that the top 1% of income earners should pay ordinary income rates on capital gains and US companies should be investing in new US plants and hiring US-based labor instead of cutting expenses and investing in stock buy-backs (Bill Gross argument for higher taxes on 1%).  Despite his brilliant investing experience, Mr. Gross completely misses the core reason for his wealth creation and today’s widening income inequality in the industrial world: ownership.  Ownership inequality in a vibrant free market economy will naturally generate income inequality as investors and entrepreneurs risk capital, time, and effort to build job-creating, higher wage companies.  Ownership is natural compensation for their capital and labor risk.  No self-interested market participant is going to take capital and labor risk if they do not own the fruits of their labor.  The solution, therefore, is to incentivize capital (eg risk investors and company founders) to broaden ownership opportunities to all loyal, productive workers so they can become rich too!  See Proposed Solution: Work.  The solution is NOT to increase taxes on capital gains to send to a government, pay government administrative expenses, and then redistribute in transfer payments.  Redistribution dis-incentivizes risk investment and motivation to work and create taxable wealth.  Just look at the decline of federal tax receipts/GDP since 2008 (15% of GDP) and 1952.  Government tax receipts/GDP is at all-time low in this period while spending/GDP is all-time high.  Redistribution policy fails.  Ownership wins.

Historical economic data below clearly support my argument that a sustainable, free, and prosperous society needs to enfranchise all workers with an ownership stake in their labor.  First, US real GDP/capita and taxes paid by the wealthy/total taxes paid are at all time highs including in comparison to all Western industrial societies.  Free market capitalism is the economic model that generates the highest amount of taxable wealth/capita over socialist/communist models.  Also, the tax code with low capital gains rates has never been more progressive meaning the rich have never paid more as a % of GDP.  Wealthy people have worked hard, taken capital risk and invested money, and most importantly own stock where they work and/or own financial assets that can appreciate while they work.  My Ownership Society thesis is all productive people need to regain two core natural rights that government power has taken away over time: 1) the right to exercise free choice in all aspects of life and 2) the right to own the fruits of their labor.  Productive people need to generate compound capital appreciation over a productive career so they can become wealthy and free of government in retirement.

The first graph shows federal tax revenue and spending as % of GDP since 1952 (Source: White House).  The historical average is very consistent at 17-18% tax revenues as percent of GDP.  You will notice clear spikes in % of GDP during economic growth years in the mid-1980s in response to President Reagan’s supply-side economics, the mid-90s during the Internet boom and fiscal restraint of divided government during Clinton administration, and again during the 2000s when the next social media/on-line advertising wave occurred.  In each situation, economic growth accelerated capital gains tax revenue that pushed tax receipts close to 18-20% of GDP.  Conversely since 2008, tax receipts to GDP has fallen to a consistent low of 15% of GDP despite $3 trillion government stimulus including the Federal Reserve printing money and buying bonds and mortgages to keep interest rates low.  That stimulus has not worked to generate economic growth at historical rates nor to generate taxable income at historical %’s of GDP.  To be clear, private sector wealth creation taxed at low capital gains rates is the reason for the ‘growth over baseline’ in tax receipts as a % of GDP.

The second chart below shows real GDP/capita since 1965 adjusted to 2009 dollars for inflation.   You can see real GDP/capita is at an all-time high even at pre-2008 levels and the stock market value reflects the same.  The American free market system of open markets and relatively low historical tax rates is still working.  However, our critical problem is the unsustainable growth in federal spending and borrowing.  The bottom of the first chart shows government spending as a % of GDP has grown from an historical average of 18-19% to 21-25% of GDP and deficits have reached all time highs at 7-10% of GDP/year.   Increasing government spending in this difficult economy has not generated higher tax revenue as % of GDP.  The lesson is clear: the government needs to reward risk capital and hard work, and broaden the ownership base to US workers in order to generate economic activity and reduce income inequality.  As you will below this graph, the US tax code is the most progressive ever too.

The next two charts show share of income earned and income taxes paid by five different quintiles lowest 20% to top 20%.  Only the top 20% quintile has grown their share of income earned.  The reason for this concentration in wealth is NOT low taxation itself.  Low tax rates simply motivated investors and entrepreneurs to take risk, create companies and employ millions from 1980 going forward.  The problem with income inequality is labor did not have an ownership stake in their own labor in their business so they, as a very large population, did not also become wealthy.

As you will see, the tax code is more progressive than ever.  The top 20% is paying a higher percent of income taxes than anytime in recent US history.  The two clear problems are 1) excessive government spending at 21-24% of GDP, which should be cut back to historical levels of 17-18% and 2) the lack of broad economic ownership in the working population.  See: Proposed Solution: Work.

Bill Gross is a very successful business owner who, instead of incorrectly asking others to pay higher taxes from productive work to redistribute, should rather be sharing stock in his own business with employees to make them rich as an example for other businesses.  In doing so, he should advocate for an Ownership Society because he is a living legend for the power of Ownership.  He and his team did build it, not the government. Bill, you can spread the wealth in your own firm and encourage others to do the same.  All fiscal policy needs to reward capital to cooperate versus compete with labor.