The plan to almost double the capital gains tax from 20 percent to 39.6 percent for those earning more than a million U.S. dollars a year did not shock stock markets as much as expected. This shift from taxing wages to taxing capital is a necessary but inevitable step for the government. In the last decades due to quantitative easing capital has seen exponential gains. As these are partially driven by easy monetary policy by central banks it is only logical as inequality has risen more and more in the United States, as discussed before on The Golden Investor. Biden will be fighting the ever more influential one percent of America.
According to the Federal Reserve, the top ten percentile group of households hold up to 88.5 percent of all stocks traded on the stock market, up from eighty percent in the nineties. This does not seem much, but when looking at how much the bottom 50 percent hold now versus thirty years ago a great disparity can be seen. From holding an average 1.5 percent of all stocks in the nineties, the bottom 50 percent now holds only 0.6 percent of all stocks. Also the upper middle income class (50-90%) has lost significant ground, as they hold around 11 percent down from over 20 percent in the early 2000s. ¹
What Are The Implications?
While it seems a rather interesting and ambitious plan by Biden, it looks like a policy change that boosts support for the Biden Administration, but actually is not that game changing. Capital gains tax has only to be payed once a position is liquidated, but many of the top owners hold there positions until death and do not liquidate positions as much as smaller investors who need the capital in their everyday life for educational and healthcare expenses. With this change, there wouldn’t be much of a difference between investing for the short or long term for those with very high earnings. The U.S. government will earn around one trillion dollars with this tax change to fund childcare, universal pre-kindergarten education and paid leave for workers.
What Are Arguments Against This Tax Change?
The first but weakest point against higher taxes on capital is that investor are protecting against inflation by holding stocks and thus do not actually have capital gains in real terms. Moreover, the reason the United States is as powerful as it is, is because entrepreneurship is taxed lower than wages which means it stimulates the economy and innovation. This tax increase could deter large investors from investing into potentially wealth enhancing companies that are in need of capital, simply because the risk-profit trade-off is being played with. However, the tax increase is a step towards some leveling between different tax groups. This balance is still disproportionately weighted on the working and middle class after the potential policy change. It should be noted that the report is based on leaked information Biden is supposedly going to release next week. He announced long prior during the campaign that this change was going to happen, however, according to the reports it will make no distinction between different sources of household income, which means that it captures a larger group. But still only the top one percent earners will feel the hit. And even if they find a loophole, it is better than doing nothing and watching the inequity gap growing larger and larger.
What Does It Mean For Stock Markets?
Stock markets will not likely change much, as capital holding strongmen will always try to make more capital. The capital gains tax for million dollar income households is to cap the difference in capital gains of those who hold capital versus those who are less financially invested. Stock markets will potentially see a shift from growth stocks to value stocks as large investors turn to dividend paying stocks with relatively lower taxes. However, the most influential will be the change due to increased inflation as result of the increased governmental spending by the government. Together with vast amounts of pandemic spending and infrastructural projects, this will potentially lead to inflation higher than four percent at the end of this year. Unseen in the last decades and thus very interesting for investors. Potentially this will mean a shift to safe-havens like gold and TIPS bonds.
In conclusion, to compensate for the slow but steady shift of capital from the poor to the rich something needs to be done, especially since top earners benefit disproportionately from easing central bank policies, while the working and middle class will bear the consequences of the irresponsible quantitative easing. However, it should be noted that The Golden Investor does not believe in the real value of cryptocurrencies as crypto-investors tend to speculate on price changes rather than the actual use of the coins in a system, which makes it just another bubble. The rise of various infamous coins like Doge and the current stock market hype, it is time to cool down and build a defensive “boring” portfolio. This summer will be key to understand what this shift from quantitative easing to government spending will do to stock markets. One thing is sure, as inflation rises to 2.5% CPI and materials like lumber and copper keep rising with double percentages, this summer and the potential reopening of Western economies will be instrumental for the investing momentum the coming years.
Disclaimer: The Golden Investor is not a fortune-teller, be sure to make the right decisions in accordance to your own financial situation, this is not investment advise or anything like that.