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Oxford Review of Economic Policy, 2023, 39, 575–591 https://doi.org/10.1093/oxrep/grad026 Article

Thomas Piketty,* Emmanuel Saez,** and Gabriel Zucman*** * Paris School of Economics, France, e-mail: piketty@pse.ens.fr ** University of California at Berkeley, USA, e-mail: saez@econ.berkeley.edu *** University of California at Berkeley, USA, e-mail: zucman@berkeley.edu We thank Robin Boadway, Joel Slemrod, one anonymous referee, and conference participants for helpful comments and discussions.

Abstract This paper reviews recent developments in the theory and practice of optimal capital taxation. We emphasize three main rationales for capital taxation. First, the frontier between capital and labour income flows is often fuzzy, thereby lending support to a broad-based, comprehensive income tax. Next, the very notions of income and consumption flows are difficult to define and measure for top wealth holders where capital gains due to asset price effects dwarf ordinary income and consumption flows. Therefore the proper way to tax billionaires is a progressive wealth tax. Finally, as individuals cannot choose their parents, there are strong meritocratic reasons why we should tax inherited wealth more than earned income or self-made wealth for which individuals can be held responsible, at least in part. This implies that the ideal fiscal system should also include a progressive inheritance tax, in addition to progressive income and wealth taxes. We then confront our prescriptions with historical experience. Although there are significant differences, we argue that observed fiscal systems in modern democracies bear important similarities with this ideal triptych. Keywords: optimal capital taxation, wealth taxation, inheritance taxation JEL classification: H21

I. Introduction This paper reviews a number of recent developments in the theory of optimal capital taxation and confronts them with tax practice. The equity–efficiency trade-off is at the heart of optimal tax theory. For capital taxation, this trade-off is especially marked as capital ownership is much more concentrated than labour income. While the top 1 per cent labour income share is generally below 10 per cent, the top 1 per cent wealth share is typically several times higher, ranging from 25 to 40 per cent in advanced modern economies. While the top 10 per cent labour income share generally ranges from 25 to 50 per cent, the top 10 per cent wealth share is usually around 60–80 per cent. Even more strikingly, while the bottom 50 per cent labour income ranges around 20–25 per cent in some of the most advanced countries in the world, the bottom 50 per cent wealth share is below 5 per cent in pretty much every country on the planet (see Chancel et al. (2022) for a recent presentation of such statistics across the world). There are a variety of taxes on capital that can be assessed either directly on assets or income flows generated by assets: property and wealth taxes assessed on asset stocks, individual income taxes on many forms of capital income received by individuals, corporate income taxes on corporate profits, and inheritance (or estate) taxes on transfers at death. It is useful at the outset to show what tax progressivity looks like when including all taxes collected at all levels of government, using the recently developed Distributional National Accounts methodology which is being applied to a growing number of countries (e.g. Piketty et al. (2018), Blanchet et al. (2021)). Figure 1 depicts the average tax rate by income groups in the United States, France, and the Netherlands. Income is defined to match total national income as recorded in the national accounts, following internationally agreed standards and methods, and thus maximizing comparability across countries. National income includes all forms of labour

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Rethinking capital and wealth taxation