Iwan Doherty considers whether wealth taxes could reduce the growing inequality in the UK or result in capital flight and comes up with a solution.

Income inequality in the UK is greater now than it was in the 1960s and 1970s. The challenge for politicians remains how to reverse 40 years of economic policies that have entrenched inequality.

The UK has the highest Gini Coefficient – a common measure of inequality – of all nations in the EU, but this is nowhere near the US, where the top 1% own more than the bottom 90%.

The Reaganomics of the 1980s and beyond have created hugely damaging economic inequality in America, which Democratic presidential candidates Bernie Sanders and Elizabeth Warren want to change through reforms to taxation – not just on income but wealth too.

Wealth Gini coefficient, World Economic Forum: The Inclusive Development Index 2018

Such a wealth tax hopes to raise money from the wealthiest Americans for Government spending while reining in economic inequality. Warren’s plan proposes a 2% tax levy on assets exceeding $50 million. Sanders has a similar plan.

Could these proposals mean that other progressive parties adopt wealth taxes over more mainstream taxes?

The main advantage of a wealth tax is that it doesn’t tax a flow of money, meaning that it promotes, rather than disincentivises, spending.

The theory would suggest that it can raise funds for government spending without taking heat out of the economy. It can also be very progressive. Warren’s plan would hit 0.0006% of US citizens and reportedly raise $2.75 trillion over a decade. This has both societal and economic advantages – reducing inequality and taking money away from citizens least likely to spend it, helping to promote spending and therefore growth in the economy.

However, conservative analysis on European wealth taxes may paint a different picture on its wider economic impacts.

Éric Pichet, a professor at KEDGE Business School, estimated that the French wealth tax cost the country more than $125 billion in capital flight over an eight-year period. Brain drain was among the contributing factors.

However, analysis of the American economy has challenged this argument. The Institute on Taxation and Economic Policy has said that a wealth tax would benefit the US economy as it would result in a better distribution of money. By asserting that “inequality itself can slow down the economy” and by spending this money productively the Federal Government would promote growth.

Gabriel Zucman, a professor of economics at UC Berkeley, believes that “wealth tax would have a modest but positive impact on growth” and that “a small wealth tax on a tiny fraction of the population… can go some way towards addressing inequality”. Zucman’s analysis found that the share of wealth owned by the 400 richest Americans would be 2% – 1.5% lower than at present – if a “moderate” wealth tax been in place since 1982.

But, the theories surrounding wealth taxes are often removed from practice. It has been shown to contribute to capital flight as the richest individuals flee to lower tax nations or simply set up shell corporations in low tax nations. Exclusively taxing the very mobile is tricky and many rich figures would seek to avoid this tax partially or completely.

This has made the tax ineffective where it has been implemented and governments have had problems with the valuation of assets of the rich. In fact, the numerous problems with implementing the tax means that its impact on inequality and wealth distribution is a lot less than its progressive advocates may like to claim.

The partial solution to these problems may be a type of wealth tax called a land value tax (LVT), which works in a similar way but only taxes property.

The tax is very hard to avoid and very easy to collect, though valuation remains a challenge for government. It may be a less comprehensive effort at taxing the very rich to reduce inequality, as property could be seen as being more equitably distributed than wealth, but it may be a more effective one with smaller risks to the wider economy.

LVT was supported by Adam Smith, Milton Friedman and now Jeremy Corbyn. The Labour Party has proposed a very moderate LVT on homes to help fund local government and it could propose a much more ambitious LVT to help fight inequality in the UK.

Ultimately, the appeal of wealth taxes could be too much for the modern left in America and in Europe and whether they offer the benefits predicted remains to be seen. But, a progressive taxation system is a key part of helping to solve inequality and the left should carefully consider which progressive taxes could deliver the maximum positive effect.