To tax or not to tax

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By Leith van Onselen

Warwick Smith, a research economist at the University of Melbourne, has published an interesting article in The Age today claiming that the Government’s focus on small government and expenditure cuts are ill-founded, and instead Australia should look to increase its tax take to fund essential social services:

Joe Hockey has been talking non-stop about how the country is running out of money for Medicare, for the ABC, for welfare and for education…

…If we look at the 20 countries with the highest GDP per capita we find quite a few have much higher rates of tax as a proportion of GDP…

Most of these high taxing, high GDP per capita countries have low unemployment, low inflation and score very well on various measures of life satisfaction and wellbeing. Their existence and their success prove Abbott and Hockey wrong and demonstrate that there is another path to prosperity, one that also leads to less inequality while maintaining very high living standards for the overwhelming majority…

We can easily pay for all the things Joe Hockey claims we cannot afford if we are prepared to increase government revenue. In my opinion, the first place to start would be tax expenditures (tax deductions or exemptions).

Treasury forecasts that next financial year we will spend over $45 billion in total on superannuation tax concessions, around $17 billion of which will go to the top 10 per cent of income earners.

We also spend over $8 billion a year giving concessional treatment to capital gains earnings and allowing negative gearing.

…there is plenty of cash to pay for Medicare, education and the ABC if Joe Hockey is prepared to look around.

Smith makes some valid points. To a large extent, the Budget is suffering from a revenue problem, brought about by tax cuts introduced as coffers were flowing from the once-in-a-century commodity boom. And now the boom is over, tax receipts have plummeted (see below charts).

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Certainly, a good place to start to restore the revenue side of the Budget are cutting back egregious tax concessions like superannuation and negative gearing, which overwhelming flow to higher income earners and/or serve no social purpose.
That said, the Budget is also facing a demographic time bomb as the baby boomer generation retires and the ratio of workers supporting non-workers declines (see next chart).
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Changing demographics means the tax base will shrink over time just as expenditures on age related pensions, medical care, and other items balloons.
In such an environment, it is entirely appropriate for the Government to seek to cut expenditure, so that assistance is targeted towards those in genuine need. The key is to ensure that the burden of adjustment is shared across the economy, rather than being concentrated on those with less political representation (e.g. the poor and vulnerable).
The entitlement system set-up during the Howard and early Rudd years was never sustainable once the temporary wealth from the once-in-a-century mining boom ended. And like it or not, Australia will need to tighten its belt, along with finding new revenue streams, including by abolishing egregious tax lurks.

36 Responses to “ “To tax or not to tax”

  1. Ino says:

    Cue NG sacred-cow huggers: and take it away in 3 . . . 2 . . . 1 . . . GO!

    • brad says:

      Without negative-gearing there wouldn’t be a single building in the entirety of Australia and we’d all be jumping on boats to try to get into Indonesia! We’d all welcome a stay on Manus Island just to have a fabric roof over our heads.

      How was that?

    • Mik says:

      We are already paying a lot higher taxes, well those thats buying houses are paying for the majority of us. would love to know what taxes on housing Sweden pay.

  2. Mr X says:

    12.5% GST would be the easiest to implement. I’m almost resigned to it already….

    • 3d1k says:

      And it fits nicely with the ‘share the burden’ message.

      Broaden it, increase it and then target some of the largesse in super and property.

      • AB says:

        I’d support an increase and a broadening of GST but I can’t see Abbott or Hockey proposing such an idea or raising taxes in any way.

      • interested party says:

        3d,
        “target some of the largesse in super”

        care to elaborate? What is your stance here?

  3. b_b says:

    Taxes do not fund anything.

    We issue currency when we spend, and un-issue when we tax.

    The role of taxes is to create unemployment. The unemployment create the real resources (people) for the goverment to meet its social goals.

    Rising unemployment is proof taxes are too high or spending is too low.

    • Ino says:

      >The role of taxes is to create unemployment.

      Excuse me, but – how exactly did you reach this conclusion?!!

      To be blunt – this kind of twisted meaning rhetoric is very much akin to the Tea-Party nuttiest wing in US.

      • b_b says:

        Unemployment is a monetary phenomenon. Before being introduced to a monetary system indigenous peoples were never unemployed. The introduction of taxes (like a hut tax) created a need for paid work. Unsatisfied demand for paid work is called unemployment.

      • spleenblatt says:

        Bill Mitchell ?

      • chrism says:

        It may be better to say that taxes do not fund anything; their role is to ensure the use of the government’s currency, influence behaviour and regulate aggregate demand.

      • b_b says:

        Chrism – I don’t disagree with your statement but i see that as more of any product.

        And WOW. Called a tea party nutter AND bill Mitchell in the same thread …. Must be a first.

      • spleenblatt says:

        Come on, it is you, billy blog, Fess up !

      • b_b says:

        I am not Bill Mitchell.

      • flyingfox says:

        @b_b

        I am not Bill Mitchell.

        No? JM Keynes reincarnated?

    • flawse says:

      Rising unemployment is proof taxes are too high or spending is too low.

      Nope! We just create debt and sell assets to pay for our consumption. We consume more than we produce. Even in your theoretical world that is a fact although unreconised by Magic Pudding Economics

      • b_b says:

        Flawse – we consume more than we produce because the price signals from the currency allows us to do just that.

        If the currency collapses (which seems to be on the wish list here), then we will produce more than we consume.

        Unless you think we should peg or cap our currency, it is a waste of time worrying about it.

    • Sweeper says:

      “The role of taxes is to create unemployment”

      And here was me thinking the aim of taxation was to raise revenue.

      • b_b says:

        Sweeper – nope.

        Why does a government need to raise revenue to spend a currency that it can issue freely?

        The analogy of a government being the same as a business or household is false.

      • interested party says:

        Sweeper,
        I have read somewhere ( sorry….memory eludes me) that taxes are solely to control and guide a population. And to answer the question on who would be doing that all you have to do is follow the money.
        http://www.youtube.com/watch?v=iFDe5kUUyT0

      • Sweeper says:

        Didn’t we have this conversation before b_b?

        If memory serves, you agreed that the only way a government could pay its bills in newly created base money was if the newly created base money took the form of interest paying reserves held by banks?

      • b_b says:

        Not sure if i agreed to that.

        But the payment of interest is no different to the payment for other government programs. The treasury makes the payment, and the banks received the reserves.

        The banks are incentivised to reduce reserves (because the RBA imposes a penalty), so they will buy the bonds instead. The money then goes back to the Treasury and the entire process starts all over again. It literally can go on forever.

      • flyingfox says:

        @b_b

        The banks are incentivised to reduce reserves (because the RBA imposes a penalty), so they will buy the bonds instead. The money then goes back to the Treasury and the entire process starts all over again. It literally can go on forever.

        Implying that banks do control the world. Also over time, the labors share of GDP will naturally decrease and therefore we will head towards a welfare state….oh wait…we are already here…and it’s not pretty.

      • b_b says:

        Banks do not control the world – far far from it…

  4. Capitalist says:

    Not once did you mention the economic cost of raising taxes.

    Warwick Smith mentions Sweden. The same Sweden with a VAT (our GST equivalent) of 25%. I would support that if it were mostly offset by the abolition of corporate tax and reductions in income tax.

    It’s east to point to other countries but avoid talking about how taxes are structured and how the benefits are paid out. It’s my understanding that higher incomes people receive many benefits from the government are thus satisfied in paying higher taxes.

    • “Not once did you mention the economic cost of raising taxes”.

      What about the economic cost of tax concessions, which you seem to support? Surely winding these back would improve efficiency, would they not?

      I often argue for taxes with low distortions, like land taxes, GST, resource rent taxes, and the like.

      • Capitalist says:

        Please elaborate on the economic cost of tax concessions. A tax concession is just a lower rate of tax. As taxes are reduced, the market becomes more efficient as the deadweight loss is reduced.

        The two you mentioned, superannuation and NG, have different impacts on their respective markets. Superannuation concessions mean more investment in private sector businesses. In aggregate I would say this is a much better allocation of capital than the result of more capital being diverted to government through less super tax concessions.

        NG means more investment in housing. Yes most of it goes into existing dwellings but that’s a result of supply restrictions not because of NG itself as Kirchner argued:

        “This reflects the fact that the flow of new houses is small relative to the existing dwelling stock. But it is about as relevant as noting that investors in the stockmarket mostly buy already held rather than newly issued shares. It is only supply-side constraints that prevent demand for existing dwellings from inducing new construction.”

        We are on the same page when it comes to more efficient taxes.

      • Pat20 says:

        “A tax concession is just a lower rate of tax.”

        More usually they are exemptions that narrow the tax base (eg GST and food) or lower rates for particular activities (eg investment housing, superannuation saving).

        They distort investment, saving, consumption etc decisions and give rise to deadweight costs. For example the NG related concessions will, at the margin, cause someone to invest in housing who, if faced with a more neutral tax treatment, may have invested in plant and equipment.

        Broadening bases and reducing rates will improve economic welfare by leading to decisions that result in better resource allocation across the economy.

        Broadening bases to spend more may leave us better or worse off, depending on the value of the spending (but would be better than increasing rates to spend more).

      • Capitalist says:

        @Pat20 You are right in that tax concessions channel funds towards those activities instead of others (agree with the NG housing instead of plant and equipment example). However I would say that the deadweight loss reduced by NG is greater than any gain by facing a neutral or non-preferential tax environment.

        I agree with the rest of what you said. In general I assume government spending to be less efficient than private investment which is what NG and superannuation is.

      • KeenEyeKen says:

        I’m not sure I understand your point on NG reducing dead weight loss. How do you mean? What market failure does it address?

        Private efficiency > Public efficiency. I understand the dogma, but I’m yet to actually ever see any evidence of that. Govt’s have a habit of being slugs, sure… but I’m pretty sure that Lehmann Brothers dished out a good whack of inefficiency… I’d hazard a guess that private inefficiencies (like Lehmann) could completely overwhelm small order public inefficiencies, by order of their nonlinear nature (i.e. when they blow up, they blow up big).

    • KeenEyeKen says:

      oh, Capitalist…. you’re being a little inconsistent

      Taxes distort… yes… but they’re a fact of life, like death. Our aims should be in minimising those distortions.

      Giving certain taxpayers differential treatment inherently places certain/cherrypicked activities ahead of others – further distorting the process.

      Tax expenditures/concessions have a time and place, but they should be absolutely minimised in return for a lowering of the overall tax base.

      That is both notionally fair, and as efficient as possible.

      • Capitalist says:

        I would like everyone to pay less tax as you and I both agree that this minimises distortions. Instead of advocating the removal of concessions, everyone should get the same concession (effectively lower taxes).

        NG already applies to everyone who wants to borrow and invest.

        Superannuation should be taxed at a reduced rate because of the compulsory nature of it. If you think it’s inequitable then argue for no taxes for low incomes people. I’ve already explained above how higher taxes on super will reduce investment which will cause long-term harm to the economy.

      • KeenEyeKen says:

        My gripe with NG is that it’s not quarantined.. we’ve created a system that perpetuates loss making industries (i.e. established housing) by allowing cross subsidisation with personal income… That’s distorting the efficient allocation of capital (both human and financial). Quarantine it against future gains within the asset class!! BUT, if you do it with housing, do it with ALL asset classes.

        “Super should be taxed because it’s compulsory”. Okay, fair point.. “Concessions to low incomers on equity grounds”, fair enough, hard to argue against. But…”higher taxes on super reduces investment causing long-term harm”..That’s a truism. The distortion occurs in its preferential treatment of superannuation as the investment vehicle-of-choice. Who’s to suggest that other investment vehicles (i dunno, lets say venture capital) arent just as preferable as super, yet are sucked dry becuase they dont have an well organised lobby group.

        Super concessions have little more than an income tax dodge for the wealthy elderly that does little/nothing to reduce the overall allocation of resources to investments. They’re going to invest anyway, that’s what rich people do…

  5. spleenblatt says:

    No. The winning line of approach in this game is to focus on the expense side of the ledger. With the aid of some suitable lobbyists to facilitate your decision making you cut cut cut cut cut cut cut cut cut cut out all of those expenses you can politically get away with (the lobbyists can help you here, too – bring them under the umbrella of a commission of audit or something like that to take the sting out of it a bit. Maybe you could even get the Productivity Commission to put some recommendations on their letterhead. At the very least, make sure Alan Jones and Andrew Bolt have been properly briefed).

    While you’re doing this, take a good look at that balance sheet engorged with inefficient assets (your lobbyist friends will facilitate the appropriate classification and reallocation of those assets to the private sector). Now, all of those cuts to services and reductions to interest repayments have alleviated some budgetary pressures, but wages are still too high, so let’s facilitate wages downward a bit where it helps the most, and let’s facilitate ourselves out of some of this expensive regulation our competition doesn’t have to deal with, and …

    Bingo ! You are now leaner, more competitive, and in a fantastic position to increase the income side of the equation over the long-run.

    This may cause a bit of disruption to demand and asset prices in the short-term what with people having less income, so it’s best to maintain interest rates as low as you can, keep immigration strong; please ensure above all that capital has the proper incentives. Oh, and do keep at least one eye on inflation – you can blur it a little bit to make it seem less scary.

    But under no means, no means whatsoever, do you try to alleviate the pressure via the taxation component of the income side of the ledger. This increases the risk of undesirable aggregate capital allocation outcomes (your personal lobbyist representative can help clarify these for you).

    Well, if you absolutely have to, I suppose you could make the punters pay more in duties and GST. Above all, make sure the user pays.

  6. Lori says:

    Economist have to go back to school and start learning political economy. Then we will be able to clearly explain why Hockey is so much concerned about the budget deficit and Medicare and ABC and education spending etc……. and why he doesn’t even mention some explicit subsidies and “helps” to some undefined, in modern economics, groups.