There’s been an interesting discussion going on around Ozplogistan about increasing public support for high levels of taxation and public expenditure, and the reasons for this increase. But reading a new CIS report by Sinclair Davidson, I’ve discovered, to my surprise, that it’s all my fault!
I’m not entirely alone. Peter Saunders’ introduction blames the ‘campaign of vilification and obfuscation waged by socialist politicians like Wayne Swan and socialist academics and journalists like John Quiggin ’ and the ACTU gets a mention as well. But I certainly get mentioned as prominently as anyone.
In fact, my little book Taxing Times is the only academic work on tax policy that is mentioned in the piece more recent than Henry Simons 1938 book, Personal Income Taxation, which is attacked in a footnote. In fact, it appears as if Davidson is entirely unaware that the vast literature on tax incidence even exists. When he comes to estimate the impact of the GST, for example, he refers to a remark by Adam Smith that the burden of consumption taxes is roughly proportional to income and makes this the basis of his analysis.
The title of the report is Who Pays the Lion’s Share of Personal Income Tax? and, to be fair ,Davidson manages to get the answer to this question roughly right. Since upper-income earners, by definition, get most of the income, and since the tax scale is progressive, most personal income tax is paid by those with high (reported taxable) incomes. I wasn’t surprised by this, but perhaps some people might have been.
But as everyone with even an elementary knowledge of the subject is aware, the income tax is the only significantly progressive element in the tax system. Davidson quotes me (correctly for once) as asserting that, when other regressive taxes are taken into account, the tax system is roughly proportional. Davidson then attempts to take account of the GST but, in the absence of any knowledge of the literature or the relevant data sources such as the Household Expenditure Survey, makes a total hash of it, relying as I’ve noted on a passing remark by Adam Smith as the basis for his analysis. He doesn’t even mention other regressive taxes and appears to be unaware of their existence.
Davidson is also apparently unaware that the whole issue has been analysed properly, by Ann Harding and Neil Warren of NATSEM, who presented a comprehensive analysis of Who Bears the Tax Burden in Australia (PDF file) back in 1999.
Their key finding is:
the impact of the whole system is progressive, with tax burdens rising from 36 per cent of the total income of the
poorest one-fifth of households to 51 per cent of the total income of the most affluent one-fifth of households. The progressive effect of income tax is thus substantially, but by no means fully, offset by indirect taxes.
I’d say that this is “roughly proportional”, though judgements might differ on this. Harding and Warren show that the tax scale is roughly proportional over the middle three quintiles, but mildly progressive at the top and bottom. Certainly their findings are radically different from the picture painted by Davidson.
My claim that the incidence of taxes is roughly proportional is strengthened when tax avoidance is taken into account. Since income tax is more easily avoided than others, and avoidance opportunities are mostly available to the top quintile, it’s safe to assume that their actual effective tax rate is lower than that implied by the tax scales, which are used as the basis of the Harding-Warren analysis.
This, by the way, is a topic on which Davidson really excels himself. Near his conclusion he says:
Swan gives the impression that individuals with multi-million dollar base salaries are common. In the 1998/9 financial year the ATO reported only 431 individuals who earned more than $1 million. By its vagueness in defining who in particular the ‘rich’ are38 and using extremely high income individuals as examples, the revenue lobby sows confusion. If, according to John Quiggin, tax is voluntary for anyone who can afford a good accountant, then Table 2 indicates that the top 25% of income earners in Australia ‘voluntarily’ pay 64.1% of the net tax.
The quotation given by Sinclair is from Taxing Times and refers to a period in the 1970s when the Barwick High Court upheld a wide range of tax avoidance schemes and goes on to refer to the various measures that were introduced subsequently to address the problem, but Davidson makes it appear that I am talking about the contemporary situation when tax avoidance, while still significant, is much less blatant.
More significantly, Davidson has forgotten that his entire analysis is based on taxable incomes declared to the ATO. To the extent that tax avoidance is taking place, his analysis misses it completely. There could be 1000 people with an income of more than $1 million, or 10 000 for all he knows. Of course, tax avoidance isn’t easy to define or measure, and I don’t claim to have a good measure, but it’s easy to find plenty of very rich people with low taxable incomes, starting, notoriously with Kerry Packer.
Coming back to the real analysis of the topic by Harding and Warren, their data does indicate that the bottom quintile pays a somewhat smaller proportion of their income in tax than the rest of us. Of course, this is as it should be. But notice that a rising average tax rate implies a high marginal rate, and this is compounded by withdrawal of welfare benefits. If we’re concerned about incentives, this is where we need to look.
fn1. As I recall, this book sold about 500 copies. But I get little cheques for Public Lending Rights that seem to indicate that people are borrowing it from libraries. So maybe the message is getting through. Or perhaps I’ve managed to convert large numbers of Fin readers to socialism.
fn2. I’ve been noticing a decline in quality control at the CIS for some time. Although they still turn out some good-quality research, there’s been some real rubbish lately, such as the study on speeding by Buckingham that turned out to have been cribbed from the talking points of a UK lobby group. Still, this piece marks a new low – even the IPA has rarely published work as shoddy as this.
fn3. Opportunities for evasion are more evenly spread across the income distribution.