Should we simply raise taxes to fix the budget?

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By Leith van Onselen

The Australia Institute’s (TAI) Richard Denniss has written a spirited article in The AFR today arguing that the Budget could easily be restored back to surplus if the 3% of GDP decline in revenues experienced over the past decade were restored via undoing tax cuts and concession implemented during the Howard and Rudd eras:

The Commonwealth budget is bleeding cash. The problem has virtually… everything to do with the decisions of the Howard and Rudd governments to introduce permanent, and massive, cuts to the revenue base when the economy was booming along nicely. Nearly a decade on, the price we are paying for their generosity continues to grow…

[Meanwhile]…the cost of tax concessions for superannuation continues to grow by about $5 billion per year and will soon top $50 billion…

Similarly, the cost of the 50 per cent discount on tax payable on capital gains costs the budget about $4.3 billion a year and, in so doing, creates enormous incentives for firms and individuals to engage in financially lucrative, yet economically wasteful, financial engineering…

Denniss also goes on to explain how the Abbott Government’s commitment to spend tens of billions of dollars on new joint strike fighters and submarines, along with $5 billion per year on the Paid Parental Leave (PPL) scheme, are at odds with the Government’s cost cutting program.

Denniss 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, it is an inescapable fact that the Budget is 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 a 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). For example, slashing Newstart from its already rock bottom level, while at the same time allowing wealthy retirees to draw generous benefits via the pension and Commonwealth health card, is the entirely wrong approach.
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 in light of Australia’s ageing demographics. Like it or not, Australia will need to tighten its belt, along with finding new revenue streams, including by abolishing egregious tax lurks.
Unconventional Economist
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Comments

    • casewithscience

      I agree – but if you just print money then people will require higher wages to maintain the standard of living (cause we know vendors are going to ask for higher prices). Are you prepared to see 4-7% YoY wage increases?

      • migtronixMEMBER

        100% YoY, 2000% YoY! Anything that will finally wake up these brain dead morons to what “value” “money” really has. Then we can exequte bankers and politicians…

      • Opinion8red, wondering what your definition of inflation is. Supply for money > demand for it?

      • Jake89, I think the word “inflation” (like so many in economics) is so chronically misused as to be counterproductive (confusing), in the absence of exactly defining one’s meaning at the time of using the word. That’s why I wrote “inflationary effects on prices” in this instance, due the context of @casewithscience’s comment.

        If government “printed” (interest-free) tokens are spent in the right way, there should be no increase in general prices. Here’s one real world example:

        http://www.webofdebt.com/articles/infrastructure-crisis.php

        Personally, I view the economy in a Gesellian manner. In a warped world where the functions of currency (medium of exchange, unit of account) and money (store of value) have been deliberately-and-deceptively conflated, by attaching positive interest/usury to otherwise worthless tokens (ie, it is now perceived as having “time-value”, so is worth “saving”, thus, withdrawing from economic circulation, to “earn” the “interest” offered), then in consequence of this artificially contrived conflation of functions, the true nature of reality is that goods produced — which are subject to entropy (shelf-life, deterioration, superceding) — they demand “money”, rather than “money” demanding goods. The producer/seller of goods is fundamentally disadvantaged in the marketplace versus the holder of “savings”, because his goods are subject to entropy. Interest-earning tokens are not similarly subject to entropy — they are an abomination, that can grow forever.

        EDIT: This also helps explain yet another reason why interest-bearing “money” creates an artificial shortage of currency in circulation, that is, aside from the fundamental one, which is that each loan only creates principal, not the interest owed as well, hence total debt owed is always greater than total money supply available to settle the debts.

        People are incentivised to “save” the currency to “earn” interest. This forces the fundamentally-disadvantaged producer of real goods to continually lower the price of his goods, potentially to loss-making levels — because his goods are deteriorating at all times, whereas “money” is not — in order to encourage a “saver” to spend his intrinsically-worthless tokens.

      • Oops, missed the point I wanted to make with that edit — that artificially-contrived shortage of currency in circulation is what drives everyone to consume the world’s finite resources in endless “competition” with each other; whether that be in order to be a producer (thus, able to demand/attract “money”), or, simply in order to obtain more money from others, with which to repay debt.

        No matter which way you skin it, in the long run, usury-based money only results in bad outcomes for our planet, and the human species as a whole. Even for the 0.01% who benefit most from their system.

    • We need some tax to create demand for $AU and to provide space for govt spending. But taxation also has other effects which can be desirable.
      Taxes can be used to reduce demand eg cigarettes, competing imports.
      Taxes can be used to capture rents which otherwise create perverse incentives and bubbles. eg Land Tax, capital gains tax,
      Taxes can remove loopholes or concessions which create bad incentives eg. removing negative gearing.

      We need a lot more tax capturing rents and also removing bad subsidies (super, negative gearing).

      Balancing the budget shouldn’t be on this list.

      • migtronixMEMBER

        Nah!! Competition should take care of that if govs want to effect “demand” they can get in the game themselves not bloody extracting wealth from the community and giving it to mates at good rates. BS.

        As for demand for AUD? What are you talking about? If they gave you AUD1mil to run an IT operation for them will you reject it because its not being taxed?!?!

  1. The only way we will get another fiscal surplus cycle is if we have another private credit boom cycle.

    Ain’t gunna happen.

    • +1.

      Deficits forever. Current estimate $14 billion per annum annual usury bill, rising forever.

      Game over. The usurers have won.

      Until the revolution.

      • migtronixMEMBER

        @Case: What?!?!? Sh!t no I’m all for free markets and theres nothing free/liberal about interest bearing credit creation monopolists! FFS!

      • casewithscience

        @Mig

        Are you sure, your proposal would give free reign to individuals to engage in activity without substantial obligations to repay interest. That sounds pretty socialist to me.

        Capitalism, as the name implies, does require some aspect of capital dynamics.

      • migtronixMEMBER

        @case: What frigging capital? You can’t make capital up out of thin air for crying out loud.

      • Are you sure, your proposal would give free reign to individuals to engage in activity without substantial obligations to repay interest. That sounds pretty socialist to me.

        Really ? Which part of it involves “social ownership of the means of production”.

      • migtronixMEMBER

        @drsmithy: Exactly! The only things that is socially owned is the means of credit generation.

  2. Australia has one of the lowest total tax takes as a percentage of GDP of all OECD countries:
    http://en.wikipedia.org/wiki/List_of_countries_by_tax_revenue_as_percentage_of_GDP

    A small rise in tax rates is as good a fix as cutting expenditure. In fact it is probably better as expenditure cuttting would likely hit those with the highest propensity to spend marginal income, whereas increased tax rates would likely hit those with the lowest propensity to spend marginal income (all in very broad general terms, of course).

      • migtronixMEMBER

        They’ll only end up giving the money back to the developer! Tax the bejesus out of government for gods sake so they stay out of our lives…

      • The elites would rather see everything crash and burn before their wealth takes a hit………Bring on the revolution, Its time to ram the pitchfork squarely up their clacker’s 😀

    • I don’t think we want the coalition trimming any more, they have some weird ideas about whats expendable. Like somehow cutting the ABS to the bone is helpful.

      Maybe if they got a clue first.

  3. Hunson Abadeer

    Denniss misses a key point – Tax reform isn’t just about raising sufficient revenue. We need to raise productivity growth, which can be achieved by changing the tax mix rather than just increasing taxes.

    The Treasury chart that shows productivity growth as a portion of national income growth shows how important this is.

    • Agreed Hunson. We’ve got ~6% of GDP in deadweight losses – currently spilled on the ground – available at no cost if we change out tax bases.

      It is all there in Australia’s Future Tax System.

  4. UE, you have capably outlined the problem and the solution as usual. I feel like the perpetual cynic though. I just can’t see the government cutting the right expenditures or amending the right taxes. Over recent decades our political class have demonstrated an inability to act in anything other than their own best interests, and in almost all instances have taken the opposing stance on policy to that of their political adversaries, regardless of merit.

    It is easy to think change will be eventually forced upon us, and it probably will. But which changes? Until their incentives are adjusted and a change in priorities is forced upon our leaders, I struggle to see any changes being the best ones.

  5. I understand that a railway in the 90s (think it was the Ghan) was paid with a Bill of Exchange. No borrowing, no debt. The government has the means to address expenses without borrowing or taxing (conventionally speaking).

    See also the way WWI was funded without borrowing.

      • migtronixMEMBER

        You’re right Op8:

        During and immediately after World War I, America’s cobelligerents borrowed some $10.350 billion ($184.334 billion in 2002 dollars) from the U.S. Treasury. These funds were used mainly to finance payments due the United States for munitions, foodstuffs, cotton, other war-related purchases, and stabilization of exchange. Of that sum, $7.077 billion represented cash loans extended prior to the armistice; $2.533 billion was advanced to finance reconstruction after the armistice; and postarmistice relief supplies and liquidated war stocks amounted to an additional $740 million. Total foreign indebtedness—including interest due before funding of the original demand obligations but excluding loans to Czarist Russia, for which no hope of collection remained—came to $11.577 billion ($206.186 billion in 2002 dollars).
        In turn, the U.S. government borrowed from its own citizens, mostly through Liberty Bonds paying 5 percent interest. During the period of economic disorganization in Europe following the termination of hostilities, the administration of Woodrow Wilson agreed to grant the debtor nations a three-year postponement of interest payments. But it indicated that eventually the debtors would be required to repay the loan

    • migtronixMEMBER

      abso-frigging-lutely! Bills of Exchange are perfectly suitable as are Letters of Credit.

    • I don’t know if pollies are so dumb/ignorant to realise the abilities at their disposal, or so corrupt as to have to “borrow” funds from megabank or offshore and be hit with interest repayments.

      Balancing the budget is easier than Hockey probably realises.

  6. You should probably update your charts. If you look at the PEFO projections for tax revenue as a percentage of GDP, it recovers to 23.7 per cent by 2017-18 on a no policy change basis. And it continues to grow after this time if fiscal drag is not returned.
    This suggests that spending at the levels exerienced during the Howard years could probably be accommodated. The issue is really whether we can fund big new spending commitments like the NDIS with the existing revenue settings. Probably not, so do we just allow fiscal drag to raise the additional revenue, make room for new spending by reducing spending elsewhere or look for new revenue sources (eg a GST with a higher rate or broader base, scale back the superannuation concessions or expand the use of land and/or rent taxes).

  7. Thanks to inflation and bracket creep, the effects on the budget of cuts to income taxes are never permanent. On current inflation and wage estimates, income tax receipts will exceed their highest ever proportion of GDP some time this decade.

    Howard and Rudd (and subsequently Gillard) failed to build on the introduction of the GST by further broadening the tax base and making it less prone to cyclical variation, but the income tax cuts didn’t seem so bad at the time. It’s easy to be wise afterwards.

    PS, this is not to say that I disagree with some of the other criticisms in the article. The overall thrust is sensible.

    • migtronixMEMBER

      Exactly! The creep that is inflation consumes all before it — that’s why the wealthy get tax rebates because they know on which side the bread is buttered and want the inflation to go on forever; just as long as it doesn’t come out of their pockets…