Governments around the world are being dragged, in some cases kicking and screaming, into doing something about their budget deficits. The difficulty is that the public will neither pay more tax nor countenance any cuts to entitlements and services. Hence, recent state budgets have been using euphemisms such as ‘efficiency dividends’ and ‘trimming the fat,’ while senior politicians rush to reassure electorates that public service job losses will not affect frontline services.
However, such cloak-and-dagger methods can take you only so far, especially if (like the United States) you’ve got a trillion-dollar hole to fill. Perhaps, the thinking goes, where dissembling fails envy might succeed. After all, everyone knows that the super-rich are rorting the tax system; all we need to do is raise their taxes so they pay ‘their fair share’ and everything will be OK, right?
In reality, it doesn’t work like that.
First, raising tax rates doesn’t necessarily increase tax revenues because of the disincentive effect taxes have on economic activity. Higher taxes may decrease economic activity and so may actually lower the overall tax take. Both a zero per cent tax rate and 100% tax rate will generate no revenues.
Second, we operate in a global marketplace where people and money can move around freely.
When new French President François Hollande backed a 75% tax rate on those earning more than €1 million earlier this year, wealthy French families started moving to other countries. Similarly, almost two-thirds of the people earning more than £1 million a year left Britain when the top tax rate was raised to 50% in 2010/11.
Third, the revenue gained from tax hikes on high income earners is not enough to fix fiscal profligacy. In the United States, where the budget deficit exceeds $1 trillion a year, President Obama’s proposed tax plan (which increases tax rates for the rich and reduces deductions) will only raise $1.56 trillion over 10 years.
This is barely 15% of what is needed to close the budget gap. Higher taxes on the wealthy (however righteous they feel to some) are simply not the answer.
What is needed to balance budgets in the United States, Europe and Australia is a reform of reckless, poorly targeted spending, the replacement of inefficient taxes (and tax deductions) with efficient ones, and structural reform to reduce the churn of middle-class welfare. Budgetary reform is economic reform, and the key theme must be restoring efficiency.
It’s time to cease trumpeting weasel words and unfunded promises, end the largesse for special interest groups, and forget the politics of envy. It’s time to get serious about the economy.
Simon Cowan is a Research Fellow at The Centre for Independent Studies.