Tax cuts meld good economics with good politics
The test of a good politician is whether they can craft out of their own political self-interest policies which also serve the public interest. By that test the Howard Government falls pretty short.
If you recall, within about a year of taking office it was unclear where it was really going. Amidst widespread uproar about lack of ‘vision’ John Howard took the biggest political risk of his life and announced tax reform.
Since then with a few notable exceptions like a package to push more single mothers into the workforce and labour market deregulation the Government has mainly improvised. Its response to an unprecedented economic boom has boiled down to a handout here and a handout there.
There’s plenty of that in the Budget, though many of the handouts seem better crafted than those of previous years. A $700 voucher for tutoring kids who are not meeting national literacy and numeracy benchmarks and rewards for schools lifting performance against those benchmarks makes more sense than slipping $800 into apprentices’ pockets as we did a couple of years ago.
But the tax cuts were music to my ears. Here’s why.
If you want to cut personal tax so as to maximise economic growth here are some pointers.
Firstly, tax cuts to the ‘battlers’ might be politically motivated, but they offer the most economic ‘bang for the buck’. Most high fliers are already working pretty hard and the evidence suggests that cutting their tax won’t increase their work effort much.
By contrast, lower paid workers’ work effort tends to be more sensitive to take home pay, particularly because it affects decisions about whether to work at all. You see the highest disincentives to work are experienced by lower income earners. As their income rises, not only do they pay tax but their welfare and family benefits are withdrawn.
This budget has helped out in two ways. It’s lifted the second threshold at which the 30 per cent personal tax rate cuts in from $25,000 to $30,000. Its also expanded a tax credit the Low Income Tax Offset. That will bring thousands more workers into the workforce, cut the number of jobless households by thousands and recoup around a tenth of the tax cut’s annual Budget cost of $5.3 billion. That’s doing well by doing good.
Given how much the Government has cut taxes for those on higher incomes in the past (including extending its predecessors’ outrageously generous superannuation concessions to the wealthy), there wasn’t much of a case for cutting taxes to those on higher incomes this year. But if you want to get those aspirational juices flowing, the most cost effective way to do so is by lifting thresholds rather than by cutting rates. Why? Because reducing rates lavishes most of the revenue foregone on the super rich.
And the Government has lifted the top threshold from $150,000 to $180,000. Extending this tax cut ‘all the way’ by eliminating the top marginal rate could have cost around 10 times as much. And over a third of the revenue foregone would have gone to those earning more than $1,000,000 per annum. I doubt all that money would have created nearly as much value in additional work from them as the same amount spent lowering taxes to those lower down the scale.
But the biggest economic gain could eventually come from something that some economic hard heads will think of as no more than a bit of window dressing.
Thanks to this budget the ATO will ‘pre-populate’ our tax returns with all the information it collects – on PAYG tax, interest, dividends, family allowance and other benefits received – and then get us to make any additional amendments we want to make. And we can do it all on line.
It’s unclear how much this piece of commonsense will save in the short term because we don’t know how many people will simply sign, send and forget all the hassle involved in claiming a few hundred dollars of deductions.
But here’s an idea I’m hoping one of the parties has the nous to take to the election. Before giving us all more tax cuts of the usual variety, give us all a lump sum deduction of a few hundred dollars in lieu of work-related expenses. That way most tax payers won’t need to bother keeping all those receipts in a shoebox and making their own tax calculations. The ATO computers can do it all!
According to the back of my envelope, the economic benefits of doing so could top a billion dollars in reduced compliance costs all for a much cheaper price than the tax cuts in this Budget. It’s a long overdue reform. Where once we led the world in economic reform, many countries have already done something like this. And, to get back to where I started, it’s a reform where politicians can do well by doing good. I expect the electorate would really appreciate the benefits. It’s about time.