My first Christmas gift to you is my most favorite of all quotes, from that most astute observer of democracy, Alexis de Tocqueville. He was a man who was intimately familiar with the social sclerosis that resulted from aristocracy, and he had a chance to compare it in the 1830s to the newly-invented American democracy. He said the following in Book I of his Democracy in America.
I am surprised that ancient and modern writers have not attributed greater importance to the laws of inheritance and their effect on the progress of human affairs. They are, it is true, civil laws, but they should head the list of all political institutions, for they have an unbelievable influence on the social state of peoples, and political laws are no more than the expression of that state. Moreover, their way of influencing society is both sure and uniform; in some sense they lay hands on each generation before it is born. By their means man is armed with almost supernatural power over the future of his fellows. When the lawgiver has once fixed the law of inheritance, he can rest for centuries; once the impulse has been given to his handiwork, he can take his hand away; the mechanism works by its own power and apparently spontaneously aims at the goal indicated beforehand. If it has been drafted in a certain way, it assembles, concentrates, and piles up property, and soon power too, in the hands of one man; in a sense it makes an aristocracy leap forth from the ground. Guided by other principles and directed towards other goals, its effect is even quicker; it divides, shares, and spreads property and power; then sometimes people get frightened at the speed of its progress; despairing of stopping its motion, men seek at least to put obstacles and difficulties in its way; there is an attempt to balance its action by measures of opposite tendency. But all in vain! It grinds up or smashes everything that stands in its way; with the continual rise and fall of its hammer strokes, everything is reduced to a fine, impalpable dust, and that dust is the foundation for democracy.
In some translations the metaphor of the hammer strokes in the last sentence is rendered as the “auctioneer’s gavel”, the point being made more explicit: the estate tax forces the auctioning off of property from great estates at the death of the owner, so that taxes can be paid. By a quirk of the Bush tax cuts of ten years ago, in the year 2010 the estate tax in America was eliminated for this year only. Several billionaires died during this year, and their children were handed the family fortune entirely tax free. Property which was bought decades ago, and which has appreciated ten-fold, was handed to them without any tax being paid on the appreciation. More important, in terms of modern fortunes, the ownership shares in the family company were parceled out to the children without any capital gains tax being paid.
Should we be jealous of these children for their good fortune? Not at all. Jealousy does not come in to the discussion. De Tocqueville was making the obvious salient point that the children of successful, wealthy men or women have earned their good fortune only by the accident of birth. He does not begrudge them the entirety of the estate. Two, three, or four generations can live handsomely, and quite idly, on inherited fortunes even after a rigorous estate tax has been applied. De Tocqueville noted that eventually, under the constant grind of the estate tax which applies a tax on capital gains and all manner of property appreciation each time a member of the family dies, the wealth dwindles to nothing. There is a constant churning of wealth in such a system, and with it a chance for entrepreneurial newcomers to come into wealth, all because a tax is applied as if the estate were being sold off at each death of an inheritor. Sometimes, indeed, assets must be auctioned off to pay the tax, as happens frequently in Britain with landed estates. In De Tocqueville’s wonderful metaphor, it is from the dust of such fortunes being ground down that democracy springs forth.
The Ultimate in Self Interest Lobbying
In the United States, there has been a concerted attack on the estate tax by wealthy individuals, many working behind the scenes through conservative think tanks and anti-tax foundations. This attack has been couched entirely in emotional terms. The estate tax is relabeled as the much more ominous “death tax.” Hypothetical, and entirely fictional examples are given of small businesses and family farms being ruined by the estate tax; the examples are fictional because these sort of small estates are exempt from the tax. Wealthy interests also have lobbied Congress for numerous tax code exemptions for larger fortunes, so that even billionaires can avoid most of the estate tax if they place their fortunes in family trusts.
Some billionaires agree with De Tocqueville about the social necessity of having a meaningful estate tax, and they have discovered rather late in the game that this stealth effort has been underway for years to eliminate it altogether. They are fighting back. Warren Buffett has structured his estate so that his children will receive about a million dollars each on his death, and the rest of his billions will be given to the William and Melinda Gates charitable foundation. Buffett makes the interesting point that nothing would have ruined his children more, and sapped them of any sense of ambition, moral obligation to society, or a feeling for hard work than to assure them of fabulous unearned wealth upon his death. He wants his children to be financially comfortable after he dies, but most of all he wants them to be responsible for their own financial security and success.
Warren Buffett has made it a personal point to convince other billionaires to donate virtually all of their fortunes to charity. Seventeen American billionaires have “signed the pledge” to give their wealth to charity upon their death. It is a sad commentary that American society requires this sort of campaign, because it brings this country back to the days of the robber barons of the 19th century, when a few of them like Rockefeller, Carnegie, and Mellon voluntarily doled out their fortunes through charitable foundations. Many others did not, and these days for every Warren Buffett who is disposing of his estate in a similar fashion, many others are not. They are quietly passing along their fortunes to their children, who are just as quietly working behind the scenes to do the same for their own children.
This quiet effort has been successful to date, or Warren Buffett would have no need to go public with his counter-effort, nor to team up with the Gates Foundation or one of its principal founders: William Gates Sr. As a second Christmas gift, I am passing along to you the text of a January 2003 seminar on the estate tax (enter "Forum on the estate tax" in their search function). William Gates Sr. defends the estate tax in this seminar, and pay particular attention to one of his arguments in its defense. He asks what would happen in the hypothetical case of an entrepreneur in Abuja, Nigeria who has created a formula for a new, important pharmaceutical. There would be no person or no place for this individual to turn to for help in Nigeria. There is no venture capital industry there, no easy way of obtaining other forms of financing, no patent or copyright system to protect his invention, no court system in which to fairly defend his rights, no stock market with which to value his company, no way to build an efficient and modern production plant, no easy way to distribute his product in or out of Nigeria, and no educational system from which to draw skilled workers or managers to staff his plant. American billionaires take for granted the vast infrastructure that has been built up by society for the benefit of all, and which benefits them far more disproportionately than any other sector of society. He argues that billionaires owe an estate tax as a payment back to society for this infrastructure that was vital and essential to their fortune in the first place.
Gates could make an additional argument, pertinent to the fortune his son established with Microsoft: entrepreneurial fortunes are often first made and solidified by virtue of exclusive product or service contracts with government. This is obvious in the case of companies tied to the defense establishment, and it should be noted almost all of the companies listed in the S&P 500 have favorable contracts with the Department of Defense. Microsoft had the luck and fortune to begin its growth phase with an exclusive contract to provide the operating system for PCs to the federal government. There are myriad other examples of government subsidies (see the sports industry for their ability to wrangle tax benefits for construction of stadiums, or various manufacturers who extract tax holidays from local governments for locating a production facility in a particular community). The entire fortune of hedge fund managers in America would be vastly smaller if they were forced to pay taxes not at the capital gains rate of 15%, but at the ordinary income rate that can be double this amount.
Gates does point out that the stealth program to destroy the estate tax is funded by the children of entrepreneurs, such as the founders of the Mars candy fortune, or the Gallo wine fortune. He could have just as easily mentioned Richard Mellon Scaife, or the children of Sam Walton, or the Koch Brothers, all of whom have been identified as large-scale funders of conservative and libertarian causes that inevitably support personal tax exemptions for the funders themselves. The irony of all this is that these conservatives often extol the virtues of entrepreneurship, even though they themselves are not entrepreneurs but are instead accidental inheritors of fortunes. They also like to cite writers such as Edmund Burke and Alexis De Tocqueville, who are intellectual heroes for conservatives, but whose liberal writings on matters like the inheritance tax are conveniently forgotten.
As De Tocqueville said, nothing is more important to the establishment and continuation of a democracy than a rigorous inheritance tax. Nothing is more conducive to the creation of wealth opportunities for the clever and ambitious entrepreneur, and nothing is more important to long term economic growth in this country than the nurturing of legal and other structures that allow entrepreneurs to thrive. Society should not begrudge the great fortunes made by such people, but by the same token, the wealthy among us should use Christmas Day not merely to give thanks for what they have, but to give thought to what they owe in return.
First published at The Agonist