New Partnership in the Americas Cannot Exclude the Top

President Obama wants to tackle Latin America's crisis of inequality from the "bottom up," as his presidential campaign repeatedly put it. To that end he has already requested a 50 percent increase in development assistance -- a total of $533 million to improve agriculture, education and economic opportunities. He has also asked for an additional $448 million for those hit hardest by the global recession and another $100 million for microfinancing.

These are welcome changes as part of Obama's pledge for a new partnership in the hemisphere. But a "bottom-up" approach glosses over a critical component in the fight to reduce inequality: the rich and their tax contributions.

In industrialized countries that have levels of income inequality comparable to those in Latin America, taxes help rebalance the wealth. According to Organization of Economic Cooperation and Development Secretary-General Angel Gurria, "Inequality in Europe is reduced almost by half, in the United States by more than a third, (but) in Latin America stays more or less the same."

While basic information about taxes on the wealthy in Latin America is heavily guarded, what we know is still revealing. OECD data shows that very little state revenue comes from personal income taxes: less than 4 percent in Latin America, as compared to 27 percent in industrialized nations. The data also reveals that Latin American countries make up for the shortfall with regressive, indirect taxes. It's exigent that these countries establish more progressive systems that tax more those who have more.

Nora Lustig, a fellow at the Center for Global Development, says top-tier income taxes and inheritance taxes in Latin America have been "negligible" for a long time. This reflects a history of class bias perpetuated by U.S.-touted economic prescriptions that don't use taxes to redistribute wealth. "The mantra in the '80s and '90s was: Use spending for redistribution, keep taxes neutral," Lustig says.

Some might argue that now is not the time to burden the rich. By the end of 2008, the world's population of high net worth individuals -- defined as those with $1 million to spare -- was down 14.9 percent from the year before, according to Capgemini and Merrill Lynch's 2009 "World Wealth Report." The number of high net worth individuals declined by 19 percent in North America between 2007 and 2008 and by 14 percent in Europe and Asia, the report says.

On the other hand, the rich in Latin America have fared much better: During the same period of time, their ranks dropped by less than 1 percent. The region also retained 2.4 percent of ultra-rich people relative to the overall wealthy population, a far higher ratio than the global average of 0.9 percent.

Unfortunately, few countries in the region have enacted comprehensive tax reform. The Guatemalan Peace Accords, signed 12 years ago, pledged to reform the country's tax system and double its revenue to 12 percent of gross domestic product. The goal hasn't been met, further delaying long overdue improvements in health, education and services for the poor.

Brazil, on the other hand, has the most effective tax system of the 19 countries surveyed by the United Nation's Economic Commission for Latin America and the Caribbean, producing revenue equal to 36 percent of its GDP. While Brazil's tax system still needs to address inequality more effectively, the country has been able to afford greater countercyclical measures during the current recession than Bolivia, Ecuador and Mexico, where tax rates are below average and revenues depend more on natural resources.

Mark Schneider, who during the Clinton administration was the assistant administrator for Latin America at the U.S. Agency for International Development, told Congress last year that to reduce inequality in Latin America, the three critical issues that should be addressed were education, rural development and tax reform. Yet, as he told a House committee, "Tax administration and tax reform have not been among U.S. foreign assistance priorities in recent years."

This could change. In her July 15 address to the Council on Foreign Relations, Secretary of State Hillary Clinton mentioned her intention to "elevate development as a core pillar" of what she has called "smart power." As such, U.S. policymakers are looking for ways to get more bang for their foreign aid bucks. "We are talking about reform versus just continuing the same road we have taken for years," said Democratic Sen. Robert Menendez, a strong advocate for more aid to Latin America.

No one knows how Latin American leaders would react to U.S. prodding on domestic economic policies. In years past, left-of-center governments have gained support by opposing Washington's meddling. But tax reform should already be on leftist leaders' agendas, and perhaps requiring progressive taxation as a condition for aid may not seem so unpalatable.