The problem with a wage cap

Jeremy Cobyn’s proposal to bring in a maximum wage (or, if you like, a 100% tax rate) would not work, for two reasons. The first, is that the swing voters he needs to attract would never vote for a party with this potty policy. If you are flirting with voting for the Conservatives, you are not going to like the idea of a wage cap.

If any further discussion is needed, then the second reason is that it would not have the intended effect. Presumably the reason to bring down wages would be to reduce inequality. But most rich people do not get their income from salaries, but from dividends, capital gains, rental income etc.

I don’t know if the Duke of Westminster takes a salary, but capping it would not change one iota the fact that he owns a huge swathe of London’s most valuable real estate. If your only source of income is your salary, then capping it only stops you being able to catch up with the already-rich. Or encourages you to take income in other forms. 

Okay, so you could change the policy to a maximum income, but that doesn’t solve the problem because the rich can just sit on their investments and wait until the policy was reversed.

So how do you really reduce inequality? In his famous book Capital, the French economist Thomas Piketty showed that inequality has increased over the past few decades because the return on capital has outpaced the rise in wages.

Piketty says that the 20th century, when growth outpaced the return on capital, was incredibly rare. For most of history, inequality has been very high. He predicts that unless growth can increase significantly, that will once again become the norm. (That some people earn high salaries is irrelevant to the broader picture.)

So if you really want to reduce inequality, you need to boost growth. How do we do that in the UK? In a fascinating study the Centre for European Reform has shown that Britons have become poorer relative to the richest 14 EU countries since 2000. Why?

Largely, because we have poor productivity levels, ie we work harder to get the same done. Why? Because we have fewer 18-year-olds in education than comparable countries, and more young people with poor literacy and numeracy. Our young people have similar levels of skills to 55-year-olds, whereas in other EU countries young people are better trained.

We build too few houses, meaning that people cannot move to where the work is. And comparatively poor rail, and road and air infrastructure mean that people cannot commute easily. Also, we have unusually centralised government, meaning that regions cannot make policies to boost their own growth. We also have a uniquely short-termist corporate culture, because so many companies are owned by shareholders who demand short-term returns instead of, say families, who look for long-term stability.

So, the answer to reducing inequality is not to raise the tax rate, but to educate and train people better, to sort out our infrastructure, and to devolve government. What’s more, people might actually vote for such policies.

* Jeremy Hazlehurst is a journalist who writes for the FT and Management Today. He recently joined the Liberal Democrats.

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  • The sixth Duke of Westminster died last year. Hugh, the 7th Duke of Westminster, 25-year-old Hugh Grosvenor, is now the heir to a legacy worth more than £9bn, but thanks to a series of trusts, which are thought to date to the death of the 2nd Duke in 1953, Hugh and his three sisters will avoid having to pay the 40% levy ordinary families are faced with when parents die.

    A relative of mine (daughter of a Durham miner and the widow of a mill worker decorated as a pilot in WW11), paid Inheritance tax of £ 25,000 on a very modest West Yorkshire semi – i.e. £ 25,000 more than the Duke of Westminster.

    Now there’s a tax reform that should be tackled. It’s time to resurrect Lloyd George.

  • Eddie Sammon 10th Jan '17 - 8:07pm

    I support a very generous wealth cap and possibly a wage cap but the problem with the far left is they want to make it too low. I don’t think it’s actually a left-wing policy at all, I think it’s pretty centrist, but it needs to be very generous.

    Some people will say: what’s the point of it if it is very generous? But the idea is to stop this new monarchism of the super rich where an extremely small minority can buy up most of the world.

    I think a 100:1 wage differential might be reasonable and a wealth cap of perhaps £5 billion, which would begin to tackle the self-employment loophole whilst not causing capital flight. The super rich should be made to complete balance sheets and anything over the limit taxed, with allowances for things like military medals and family paintings, like we have with inheritance tax.

  • Roger Billins 10th Jan '17 - 8:09pm

    I agree. Income differential grabs the headlines but the real problems are the differential in wealth and power. I am wholly in favour of a move from taxes on income from employment, employment being a good thing,, to taxing unearned or inherited wealth and taxing pollution, which are not.

  • Heard Corbyn on the radio this evening and he suggested a range of possible measures to be considered to try to arrest the growing gap between rich and poor, including corporation tax breaks for companies who refuse to pay mega salaries. The future promises a even greater divide between the technological elite and the less educated/able masses. The idea that we can all be educated into prosperity is wishful thinking. Incidentally, it’s Corbyn’s foreign policy, not his views on inequality that make him unelectable,

  • Why not just go old school and do it through higher tax rates. They always threaten to leave, but most of them never do.

  • @ Jeremy Hazelhurst

    I’m a big fan of Picketty too, I think you’re being a bit selective here. Some of the other reasons he talks about are all around how much easier it is for the rich to get richer, they have money to invest – and they can take risks with that investment and get much bigger returns. Plus they have the means and knowledge to avoid tax and maximise any legitimate benefits and tax breaks.

    I think we have to accept that we can’t grow our way out of this issue, there is a limit to what we can do on the supply side in the current global environment, and we can’t guarantee the benefits of all this education and infrastucture investment won’t go disproportionately to the richest anyway.

    A wealth tax like Picketty proposes (LVT plus transaction taxes, and/or simply a tax on bank deposits over a certain combined value) is the only way to resolve this. Of course in a globalised world with free movement of capital this is extremely difficult. Perhaps we should be talking about the negatives of free movement of capital occasionally instead of obsessing over the free movement of people…

  • @ Eddie Sammon

    And of course any wealth cap / wage cap can be set very high to begin with and slowly come down as people get used to it.

    The slow erosion of the crazily high pension allowance down to £1Million, which is still miles over what most people save is a good example of a similar approach..

  • Eddie Sammon 10th Jan '17 - 10:04pm

    Gareth, the pension allowance was not crazily high though. I did a quote today for a million pound pension pot and the annuity offered was just over £25,000 per year. There’s no such thing as high risk-free income yields whilst long-term Gilt yields are about 2%. The Bank of England is mainly to blame for low Gilt Yields due to their base rate and Quantitative Easing.

    I agree though that a wealth cap can start extremely high and then be lowered.

  • If you’re right, and tackling executive salaries cannot possibly decrease inequality, then why have Vince Cable and other senior Lib Dems spent years calling for “curbs” on executive pay?

    For instance, this proposal from 2012 was not a million miles away from Corbyn’s call to enforce “pay ratios” :-

    Labour rejected this proposal as not going far enough since it would not put workers on company remuneration committees – a shortcoming the Lib Dems had addressed by 2015 when their manifesto promised exactly that.

    Though I’m the very sort of disillusioned Labour voter Tim Farron is attempting to fish for, the Lib Dem response to this comes across as the kind of volte face that leaves me not knowing what your party stands for at all.

  • Neil Sandison 10th Jan '17 - 10:28pm

    Did you see him wriggling when one reporter suggested we could start that cap on MPs on £138,000 per year Mr Corbyns annual salary.
    A unearned wealth cap makes more sense and perhaps we could stop taxing pensioners on income they have already paid tax once but get taxed again through their pensions.

  • My problem with a wage (or income) cap is the same as my problem with a benefits cap. We should be aiming for equality of opportunity. Trying to control incomes with caps is not a Liberal way to go about things.

    Either a wealth tax or land tax are more Liberal possibilities.

  • It’s bonkers policy designed to appeal to those whose voted he is losing (or were previously lost) i.e. the Northern Strongholds at risk from UKIP and the Scottish votes already lost. It will achieve the square root of nothing. Wages will be transferred to share deals or jobs will move offshore.

    Tax appropriately, progressively and fairly. You don’t need the silly levels of tax some on the left call for, just consistently applied tax. We shouldn’t care if the CEO of Acme Inc earns 6 million a year if everything over £100K of that was taxed at 50%. Why should we care, Acme have just given the Tax Man the best part of £3m.

    You could argue how the money saved could be more evenly distributed by the company. Say they had 50,000 employees and they cut the CEO wage to £500K.

    1. Pay Corporation tax on the £5.5M that gives the Government roughly £1.1M and then distribute it to shareholders many of whom could be exempt tax that may bring another £500K give or take. Even if we were to be optimistic about tax take and say the total was £2M HMRC lose £1M.

    2. Distribute the whole amount equally to their 50,000 workers. £110 each. Most will be paying tax and NI on that at say 35% so the tax man gets just shy of £2m and every worker gets a curry for two with a nice bottle of Red and a taxi home.

    The problem is we all know that 2 won’t happen. Those on the lower paid jobs tend to be those whom the company can most easily replace. They were already being paid what the company thought was appropriate so why would they pay them more.

    £3m spent wisely could do a lot of good in the public purse. Is anyone worth £6m a year, of course not. But if a private sector company pays them that (and the shareholders are stupid enough to allow it) then let’s get a decent chunk of it for those who life’s hardships have stopped them earning enough to even live on…

  • David Pocock 10th Jan '17 - 11:56pm

    My two pence regarding productively…

    I have done temp work in factories and currently work in wear housing. The general problem I think is a lack of investment by companies in their tech, size and a general malaise in operation.

    If i compare my experience with that if my German equivalent then he will likely be in the mittelstand, medium sized businesses, and they are generally slightly larger businesses with far better buildings and machines inside.

    The worker is treated far better, working less hours and producing more. It is common for the Mittelstand to even subsidise cooked meals, not generally possible in smaller operations.

    British management of low skilled workers is sadly still about big sticks and just getting stuff done anyway rather than the best way.

    Finally I think the malaise I mentioned is just how untidy, old and uninspired British industrial estates are. It is like driving into 1970s. In such environments it is hard to be inspired.

    Don’t know how helpful this is, just some of my thoughts from my experience.

  • Jeremy Corbyn later in the day seemed to drop this idea and replaced it with trying to reduce the ratio of salaries within companies, hopefully liberals can support this idea, and it could also include all forms of payment to executives.

    We have a low wage economy and this encourages employers to employ extra people rather than invest to make their existing employees more productive. The study that Jeremy Hazlehurst mentions also states there is a failure in regional economic policy. This failure is the reason why the UK as a whole is not performing better than the 14 EU countries, while London and south-east England is!

    Of course the UK government needs to invest in infrastructure in the regions of the UK and build more houses. However it also needs to encourage employers to more out of south-east England and provide investment in the poorest regions to try to bring their economy in line with south-east England.

    The greatest reduction in inequalities happened when there was full employment and this put huge pressure to increase wages at all levels. I don’t see how inequalities can be significantly reduced without increasing wages for those not in the top 1%.

  • Re: “In a fascinating study the Centre for European Reform has shown that Britons have become poorer relative to the richest 14 EU countries since 2000. Why?

    Largely, because we have poor productivity levels, ie we work harder to get the same done. Why?”

    I disagree with the reasons the author gives, because what he gives as reasons are actually just symptoms of the underlying problem. In fact I would go so far as to suggest that there is very fundamentally wrong with our road, rail and air infrastructures, the problem is that too many people are wanting to commute because these infrastructures exist.

    Much of the UK is still of the mindset where you don’t invest in your people ie. long-term UK residents, you simply buy the skills in – hence why Brexit will have little real impact on the ‘demand’ for immigrants by old school business people.

    So the solution, I suggest, isn’t for the government to spend more by building more houses and infrastructure, but for the government to make it significantly less attractive to employ someone who hasn’t been through the UK education system. Also to incentivise businesses to intelligently reinvest, so instead of simply adding more (immigrant) workers and thus perpetuating existing levels of per worker productivity they invest to increase per worker productivity. I suggest a useful measure is not £GDP per person but %GDP per person, as I think you will find that over the past few decades this measure will have gone down…

  • Lorenzo Cherin 11th Jan '17 - 3:23am

    Jeremy , is correct , but , as someone not on the left or right of our party , I look at power , and where it is dominant , and at bullies and where they can be curtailed.

    It is why on public sector dominant organisations with strong unions , I expect better , as they are often monopolies that seem to think they can keep public support even when lousy. They get my support when good , my criticism when lousy.

    The private sector has more than it’s share of bullies. It also has it’s own elites who skew things in their direction. That is morally bankrupt and must be subjected to real social Liberal reform.

    David Raw’s point above is a good one . For him , not keen on David Lloyd George as a person , to say that , shows how bad things are with the tax evasion , avoidance , whatever it is mistakenly called.

    I have a better word for it . Disgrace !

  • I suspect the main reasons we have lower productivity is that we import too much and are too reliant on the service industry. Why would productivity increase in a country that has deindustrialised? Then on top of this we also import labour.
    We are a densely populated country, with a decreasing manufacturing base and lot’s of people on zero hour contracts. A nation not of shopkeepers, but of shop-workers. Wage caps will not change this and nor will pretending it’s about skills. The wealth is concentrated in assets and banking. Innovation is a new way of shuffling borrowing about on a spreadsheet and growth is property prices. There’s no point in developing higher skills if there’s nowhere to use them. You do not need them to work in Primark or Poundland or Sports Direct.

  • Andrew McCaig 11th Jan '17 - 7:04am

    David Raw,
    I agree with you re. the Duke of Westminster, but there are no “very modest West Yorkshire semis” on which you would have to pay £25k inheritance tax..

  • Andrew McCaig Look up the IHT threshold bands for 2006 allowing for a lifetimes ‘rainy day’ building society savings.

  • Guessing that you are an economist by background, as a compatriot, I thank you for an excellent article. We really need to focus on productivity. Education (especially science, technology and foreign languages) are vital. The last becomes even more vita if we continue with this Brexit idiocy.

  • On LDV it’s a ‘bonkers idea’, because Corbyn proposed it…except, of course it was a good idea when Vince Cable, as business secretary, proposed it…
    David Cameron thought it a good idea for the public sector and John Lewis, a success in the high street, caps its CEO at 75 times the lowest paid (BTW that ‘bonkers restriction’ still means that, in his first hour, the CEO earns around twice that of the weekly wage of a cleaner)…
    For most of the 1940s through 1970s tax rates meant a ‘wage cap’ in all but name and a 98% tax on investment income addressed that side of things…Amazingly, the same families/companies survived and that era gave us entrepreneurs like Branston and Laker because such innovators are not driven solely by money.

  • Branston ?

    I think you’re getting yourself into a bit of a pickle there – and I don’t think the Cable suggestion was the same as the Corbyn one (that’s two pickles and counting)

    – though I usually agree with you, Expats.

  • I against a cap for the same reasons as Andrew T above.

    Just a thought on productivity – maybe UK productivity is lower than other European countries because it is relatively easier to sack (or make redundant) staff, so it’s easier to use a stick rather than a carrot.

    If it was harder to get rid of staff, there would be more incentive for employers to actually invest in and motivate them.

  • If you really want to tackle inequality, no amount of growth is going to give me the assets of the Duke of Westminister. Education is no longer a driver for reducing inequality. The idea that one doesn’t have the wealth of the Duke of Westminster due to poor education or travel links has no electoral appeal.

    Could it be the reason the Duke of Westminster has a house or two and some people have none be anything to do with his wealth? Could the inequality be due to the people making decisions on what happens with wealth be the wealthy?

  • Caracatus,
    Exactly. I’d add that the other main problem is that politics is not sufficiently scared of the electorate.

  • David Raw 11th Jan ’17 – 10:19am…Branston ?…I think you’re getting yourself into a bit of a pickle there – and I don’t think the Cable suggestion was the same as the Corbyn one (that’s two pickles and counting)…– though I usually agree with you, Expats.

    Cable’s proposal, like Corbyn’s, would place an upper limit on executive pay…”If it looks like a duck, swims like a duck, and quacks like a duck, then it probably is a duck.”
    At the time it was suggested that Cable’s changes would create the toughest pay regime of any advanced economy.

    As for the spelling; you’re correct “To a T’…

  • Sue Sutherland 11th Jan '17 - 12:47pm

    I agree that we should invest more in infrastructure and training etc but we are stuck in this bind of trying to reduce government expenditure so I’m wondering how you would advocate funding this if not from higher taxes. Should the government be borrowing more to do this and what impact would this have?
    Also is productivity a measure of the success in managing low cost production? How do you measure the success of industries producing high quality goods, a move which has happened here to a certain extent?
    As you can tell I’m not an economist but someone who is concerned about rising inequality and whether this will lead to a society similar to the peasant/aristocracy model, which existed before the rise of capitalism, but at a higher level than pure poverty for the masses. Capitalism relies on a middle class, people with money to spend on inessentials, so any reduction in their spending power seems rather dangerous to me and yet this seems to be happening. There is still a very high level of personal debt, so once again government is relying on this to generate economic activity.
    I do hope that you, Jeremy, and other economists who’ve commented here are members of the party’s economics working group. We need a new approach because the existing one is failing us all, especially the most vulnerable.

  • Just to throw a spanner in the works re equality of opportunity and taxing wealth rather than income, why is it “good” to tax the accident of birth that is inheriting a million quid, 10,000 acres and a handful of Van Goghs, but “bad” the tax the accident of birth of an IQ of 150 and the motivation to use it ? Where is the logic ? As our friends stateside put it, the whole thing is a crap shoot !

  • @Steve Way
    If you follow your argument to its logical conclusion, it would always be better to give any extra money available to the highest paid individual while keeping everybody else on the lowest level possible. Is that your view, or does there perhaps come a point where other factors come in to play?

    You assume that a wealthy CEO would find it very easy to hide his income from one of Corbyn’s “wage cap police”, yet at the same time you assume it will be impossible to hide the same income from the taxman, who will be able to take a full 50% of everything above £100K. How so?

    As for your two alternative scenarios… as I’m sure you realise, these kinds of comparisons need to take a lot more in to account than simple income tax receipts. £110 may seem trivial to you, but even if spent (as you suggest) on curries, wine and taxis, then multiplied by 50,000 that’s quite a bonanza for local restaurants and taxi firms. Plus there’s the matter of the VAT, fuel duty and other taxes that would come the exchequer’s way as all this money is spent. If distributed this way, pretty much every penny of it WOULD be spent – can you say the same of £5.5m for the CEO?

    And there are of course other possible scenarios. Instead of splitting it equally over 50,000, you could target your £5.5m at, say, the 10% lowest earners – giving them a non-trivial £1,100 each. As before, most of it likely to be spent to generate further tax revenues and create economic stimulus elsewhere (again, compare and contrast with what the CEO would be likely to do with the dosh…)

    Or you might even use the money to take on 400 new employees at the minimum wage. Massive savings to the government’s benefits bill, as well as all the other incidental economic benefits (including a substantial boost to GDP) mentioned above. Plus the socially desirable outcome of employing 400 new people rather then enriching one.

    Looking at all these alternatives, giving all the money to the CEO seems about the biggest waste imaginable – unless, that is, he or she is genuinely a business genius with talents virtually impossible to find elsewhere. Which, from my experience, is pretty unlikely.

  • @Nick Baird
    Employees might be more motivated (and more productive) if they felt that both they and their bosses were being paid fairly according to their contributions. Looking beyond the CEOs themselves for a moment – they don’t interest me much as individuals – there are strong economic and social arguments for doing away with the eye-watering differentials we see at present.

  • @Stuart
    You miss my point. If there were to be the extra £110 then great, if there were to be the extra 400 minimum wage jobs, also great. But there won’t be.

    The company has decided what those jobs are worth and (stupidly in my opinion) decided to pay a CEO an inflated salary. If they were precluded from doing the latter they would not be bound to distribute the money to other employees, it is more likely that the money would be distributed to shareholders.

    It is the result that is important not the gesture politics. Finding ways of improving the lot of those at the bottom and taking a fairer share of tax from those at the top is the best approach through a simplified and progressive tax system…

  • @ Steve Way and Stuart

    Instead of capping the CEO salary it might be better to put a limit on the ratio of the CEO’s total pay package to the average wage of that company’s employees. I am not sure what level it should be introduced at. If it was 200, then if the company wanted to pay their CEO £6 million as in Steve’s original example, they would need to ensure that the average was £30,000. The next question would be, at what rate would you wish to reduce the ratio? Followed by what level would you like to return to – the 20 ratio of the mid 1960’s? If the ratio was reduced by 4 each year, it would take 45 years to bring it back down to the 20 ratio.

  • @Steve Way
    But companies do give staff pay rises, and they do employ extra staff. In fact a CEO who doesn’t do such things would find it hard to make their company grow and would be likely “worth” a pay cut, not a pay increase.

    I don’t accept your premise that companies pay their CEOs what they are “worth”. We have heard (and I have seen personally) how these kinds of things work and it’s more akin to a mutual support system than a meritocracy. I know several highly paid exec types who have been fired for incompetence recently and gone on immediately to higher paid jobs elsewhere – one, worryingly, in the NHS! That’s how it often works in practise. If our CEOs are really “worth” these inflated salaries, you have to wonder how countries like the Scandinavian countries and Singapore manage to be doing pretty well while paying their CEOs vastly less than we do.

    @Michael BG
    I agree, ratios are a sensible way to go. Vince Cable proposed such a thing a few years ago, back in the days when Lib Dems seemed to be opposed to these wild inequalities!

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