The Beauty of High Marginal Tax Rates on the 1%

Monday, the New York Times reported that the recently-concluded criminal trial against three former executives at the bankrupt Dewey & LeBoeuf law firm ended in a mistrial.  Last week, the jury hung on several of the 151 charged counts of fraud and acquitted on others.  There were no convictions. Prosecutors must now decide whether to devote another year or so and who knows how much money and energy on arcane charges that the jurors may have had trouble understanding.

Manhattan District Attorney Cyrus Vance claims top Dewey managers directed their bean counters to revise various figures deep in the firm’s 2009-10 balance sheets.  The managers’ alleged intent was to defraud: 1) the firm’s creditors (big banks) by assuring them that Dewey was financially sound and therefore the creditors did not need to call in outstanding loans; and 2) other lenders (insurance companies) who were considering, and ultimately approved, a proposal to issue a $150 million bond on the firm’s behalf.  In the end, the banks and insurance companies may have lost $300 million when Dewey & LeBoeuf went belly up in 2012.

According to several legal experts, cited by the Times, prosecutors overreached when they asked the jury to draw doubtful inferences regarding criminal intent.  Moreover, the experts say, even assuming the jury drew the requisite inferences, the jurors might not have agreed to convict.  In fact, counsel for defendants determined that the prosecution’s case was so weak that they did not call any witnesses.  As a result, the court submitted the case to the jury when the prosecution rested.  The jury vindicated the defense’s strategy when it refused to convict anybody on any charges.

The case does raise a number of pointed questions for Vance.  How smart was it to bring 151 separate counts against the defendants in one trial?  Why couldn’t prosecutors distill the cases against each defendant down to a handful of specific incidents that would have justified a conviction?  Could the prosecution have obtained guilty pleas?  Was prosecuting disgraced attorneys, whose primary victims were financiers, even in the interests of justice?

Perhaps even more interesting and instructive than these questions is the reaction of some of the commenters on the story at NYTimes.com.  A number share my perplexity over the prosecution’s strategy and question the wisdom of trying the cases at all.  But the fact that white collar defendants escaped conviction – at least for the present – incensed others.

“Who bought those jurors,” wrote one.  Another posted: “Good grief, this was the opportunity to get back at crooked lawyers and the jury gave the case away!”  These reactions don’t jibe with the facts detailed by the Times which stress the inconclusiveness of the evidence and the failure of prosecutors to clarify why the defendants were guilty.

Several other posters attributed the verdict to sharp mouthpieces.  A self-identified Bernie Sanders supporter noted:  “Another case of might makes right. Put a black kid in jail for 10 years at a cost of 120,000 a year for selling $10.00 worth of pot, justice served! Let a white collar criminal, banking, legal, healthcare, what ever off the hook because he had the right counsel”.  Still  another commented, “if you are wealthy and white and a banker with slick attorneys, you can slip and slide your way through, dancing around corners, tip toeing around laws that you’re breaking, and manipulate the system enough so you can run free back to your yacht!”

Notwithstanding such claims, defense counsel basically sat on their hands.  They let Vance’s minions tie themselves in knots trying to prove over 150 counts.  In other words, lousy, not slick, lawyering led to the mistrials.

Americans are irate that 1% of the people control 42% of our wealth.  They want pounds of flesh.  Regardless of whether the Dewey executives broke the law, they belong in jail seems to be a widespread sentiment.

This reaction bring to mind Tom Wolfe’s classic 1987 tale of greed and injustice – The Bonfire of the Vanities – wherein philandering but not malevolent bond trader Sherman McCoy sees his whole world fall apart after he is charged with hit-and-run manslaughter.  Due to his elite status as a million dollar “Master of the Universe” living on Park Avenue and the fact that the victim is young, black, and impoverished, prosecutors, journalists, and religious hustlers all demand McCoy’s head on a platter.  The novel ends with McCoy bankrupt, divorced, and awaiting retrial.

In our winner-take-all economy, where the losers vastly outnumber the winners, who can question the etiology of anger at big-shot bankers, wise guy lawyers, and corporate titans?  But in sketchy complicated cases where the victims are banks and insurance companies, insisting on convictions as retribution for the sins of the 1% equates to extremely rough justice.

What is the solution then?  It seems that much higher top marginal tax rates best answers that question.  If top partners at white-shoe law firms (and investment bankers and CEOs), start paying 50% on every dollar of annual income over their first $500,000 and 80% or more on every dollar over $1 million, they simply won’t have enough to live the lordly lifestyle that so incenses the hoi polloi.  They’ll also be less inclined to play accounting games since the ultimate reward for putting one over on creditors won’t be nearly as great.

The Dewey defendants may have cooked the books because they were desperate to hold on to their exorbitantly compensated positions as long as they could.  Indeed, prosecutors contended that the partners paid themselves an extra $125 million cash from funds they borrowed for the ostensible purpose of making long-term capital improvements.

Unlike the rest of us, CEOs; managing partners at investment banks, accounting agencies, and mega-law firms; movie producers; hedge fund managers; and other top dogs, decide how much they get paid.  Low top marginal tax rates incentivize them to take as much for themselves as they possibly can as quickly as they can.

Nowadays, when considering high risk high reward actions, the CEO class may muse: Maybe this strategy will bankrupt the firm within a few years.  Maybe the investment model I’m following in my contrarian high-risk hedge fund kills in a bear market but could die when prices go back up.  For now, I’m going to rake in as much as I possibly can.  To paraphrase Bill James on the late Billy Martin’s managerial strategy: “Tomorrow may be a dream or a nightmare or it may never be.  I’m going to win today.”

Here’s where the beauty of ultra-high taxes on the extravagantly compensated comes in.  Facing a tax bite in excess of 80% or 90%, the elites may deem the game is no longer worth the candle.  Long-term thinking is no longer a sucker’s game.  Better for the firm to be strong and vibrant for decades during which my family and I will be very amply compensated than to risk everything for one big pay check that’s mostly going to go to the government anyway.

There’s another big benefit to nearly confiscatory tax rates for top income earners.  If they turn out to be crooked, they do far less harm to society at large since our government ultimately winds up with the bulk of their ill-gotten gains through their tax payments.  We can use these revenues to weave a tighter and more generous safety net, hire Americans to improve our infrastructure, and build a great society.  One final benefit from ultra-high taxes on the ultra-highly paid, a financially secure citizenry contemplating venal sins is less likely to call for heads to roll in the Place de la Guillotine or anywhere else.