Utopia, you are standing in it!

Emmanuel Saez is leading a literature showing how sensitive migration decisions of superstars are to top marginal tax rates. Specifically, he and his co-authors studied Spain’s Beckham’s law.

Cristiano Ronaldo moved from Manchester United to Real Madrid in 2009 partly to avoid the announced 50% top marginal income tax in the UK to benefit from “Beckham Law” in Spain. Beckham’s Law was a preferential tax scheme of 24% on foreign residents in Spain. When David Beckham transferred to Real Madrid, the manager of Arsenal football club commented that the supremacy of British soccer was at risk unless the U.K.’s top marginal tax rate changed.

A number of EU member states offer substantially lower tax rates to immigrant football players, including Denmark (1991), Belgium (2002) and Spain (2004). Beckham’s law had a big impact in Spain:

…when Spain introduced the Beckham Law in 2004, the fraction of foreigners in the Spanish league immediately and sharply started to diverge from the fraction of foreigners in the comparable Italian league.

Moreover, exploiting the specific eligibility rules in the Beckham Law, we show that the extra influx of foreigners in Spain is driven entirely by players eligible for the scheme with no effect on ineligible players.

Suez also found evidence from tax reforms in all 14 countries that the location decisions of players are very responsive to tax rates. Suez in another paper with Thomas Piketty wants the top tax rate to be 80%. However, their work on taxation and the labour supply supports a much lower rate:

First, higher top tax rates may discourage work effort and business creation among the most talented – the so-called supply-side effect. In this scenario, lower top tax rates would lead to more economic activity by the rich and hence more economic growth. If all the correlation of top income shares and top tax rates documented on Figure 1 were due to such supply-side effects, the revenue-maximising top tax rate would be 57%.

Suez and Piketty then go on to argue that the pay of chief executives of public companies, a subset of the top 1% and top 0.1%, may not reflect their productivity but that is a much more complicated argument about agency costs and the separation of ownership and control which they make rather weakly.

Much of their other work on top incomes is about the emergence of a working rich whose top incomes are wages earned by holding superstar jobs in a global economy. It would be peculiar and perhaps overzealous to organise the entire taxation of high incomes around the correction of agency costs arising from the separation of ownership and control of some of the companies listed on the stock exchange.

Figure 1: Percentage of national income (including capital gains) received by top 1%, and each primary taxpayer occupation in top 1%, USA

Source: Jon Bakija, Adam Cole and Bradley T. Heim “Jobs and Income Growth of Top Earners and the Causes of Changing Income Inequality:  Evidence from U.S. Tax Return Data”.

There is a long history showing how the labour supply of sports stars is highly sensitive to top marginal income tax rates. For a very long time, boxing was the only really big-money sport for athletes:

The 1950s was the era of the 90 percent top marginal tax rate, and by the end of that decade live gate receipts for top championship fights were supplemented by the proceeds from closed circuit telecasts to movie theatres.

A second fight in one tax year would yield very little additional income, hardly worth the risk of losing the title. And so, the three fights between Floyd Patterson and Ingemar Johansson stretched over three years (1959-1961); the two between Patterson and Sonny Liston over two years (1962-1963), as was also true for the two bouts between Liston and Cassius Clay (Muhammad Ali) (1964-1965).

Then, the Tax Reform Act of 1964 cut the top marginal tax rate to 70 percent effective in 1965. The result: two heavyweight title fights in 1965, and five in 1966. You can look it up.

Ufuk Akcigit, Salome Baslandze, and Stefanie Stantcheva found that the migration of superstar inventors is highly responsive to top marginal tax rates.

#Braindrain is real, even quantifiable — as per NBER paper 21024. Geniuses don't tolerate extra taxes easily. http://t.co/HVP8uEFAfz—
Amity Shlaes (@AmityShlaes) June 07, 2015

Ufuk Akcigit, Salome Baslandze, and Stefanie Stantcheva studied the international migration responses of superstar inventors to top income tax rates for the period 1977-2003 using data from the European and US Patent offices.

our results suggest that, given a ten percentage point decrease in top tax rates, the average country would be able to retain 1% more domestic superstar inventors and attract 38% more foreign superstar inventors.

Emmanuel Saez and co-authors also found that a preferential top tax scheme for high earning migrants in their first three years in Denmark was highly successful in attracting highly skilled labour to that country:

…the number of foreigners in Denmark paid above the eligibility threshold (that is the group affected by the tax scheme) doubles relative to the number of foreigners paid slightly below the threshold (those are comparison groups not affected by the tax scheme) after the scheme is introduced.

This effect builds up in the first five years of the scheme and remains stable afterwards. As a result, the fraction of foreigners in the top 0.5% of the earnings distribution is 7.5% in recent years compared to a 4% counterfactual absent the scheme.

This very large behavioural response implies that the resulting revenue-maximising tax rate for a scheme targeting highly paid foreigners is relatively small (about 35%). This corresponds roughly to the current tax rate on foreigners in Denmark under the scheme once we account for other relevant taxes (VAT and excises).

This blog post was motivated by a courageous tweet about Tony Atkinson saying that increases in the top tax rate have little effect on the supply of labour! Not so.