Taxing capital income, especially for redistribution, is not the solution to inequality

For centuries the welfare state has thrived upon the idea of promoting fairness and equity in the economy, being judged by its compassionate intentions rather than by its bad results. The welfare state has, as of late, garnered the support of some of the richest people in the world.

The guilt-ridden rich say they would like to see a fairer tax system which taxes them much more heavily. Bill Gates, for instance, feels that he has been unfairly rewarded for the work that he has done and argues that taxing capital income more heavily will, among other things, narrow the gap between the rich and the poor.

However noble these intentions might be, raising taxes for the purpose of redistribution is not an efficient way to reduce inequality  due to one important reason: raising taxes, especially for redistributive purposes, reduces economic growth. This translates to lower income levels, especially for the working population.

Taxes on capital and profits cause more distortion than taxes on income, as they penalize saving, investment and entrepreneurship. Even if these taxes are supported by the rich, the incentives that they bring would still prevail considering that our country operates in an open economy.

These results have been witnessed in Europe

Countries repealed their wealth taxes for a combination of reasons: they raised little revenue, created high administrative costs, and induced an outflow of wealthy individuals and their money. Also, many policymakers have recognized that high taxes on capital damage economic growth.

This is not to say that redistributive efforts fail only due to the effect of higher taxes on economic growth. Governments, in short, do not possess the right tools to formulate programs that would efficiently eradicate poverty. Therefore raising taxes for the sake of funding government intervention activities in itself imposes double costs on society without much to show for it.

If we are being realistic, providing economic freedom has proven to be the most sustainable and effective way to ensure economic mobility.