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Should we reduce taxes?

30 October 2019

There are at least four reasons often given in favour of reducing taxes, but do any of them stand up to scrutiny?

A dubious distinction

Denis Healey, who died in 2015, was famous for his bushy eyebrows and for his stint as Labour Chancellor of the Exchequer. He was also the last Chancellor to raise the basic rate of income tax, in 1975. At that time, the tax-take as a percentage of GDP was three percentage points higher than now. So, every change to the basic rate of income tax since 1975 has been a cut.

There are four reasons that might justify tax cuts, according to Jesús Ruiz-Huerta, Professor in Economics at King Juan Carlos University, in a recent newspaper opinion column.*

Tax is unpopular

The first reason, which seems to be evidenced by recent history, is to increase your political party’s popularity at the polls.

Let’s examine this further. The Conservative government’s attempts since 2010 to balance the books through cuts and austerity have not been popular. Protests against cuts in public services have been a common feature of the decade. There has been a chorus of public disapproval of companies with offshore profits, of corporations who use artificial schemes of avoidance, and especially of the US tech giants who are accused of using their international clout to pay amounts of tax in the UK (and other countries) which appear to be disproportionately small compared to their levels of activity. Steps are being taken, but these alone will not raise sufficient funds to restore the desired level of public services. At some point, the political establishment is going to have to grasp the nettle and remind the ordinary basic-rate taxpayer of the link between public services and the amount of tax that is deducted from his wages.

The money is safer in the hands of the private individual or organisation than those of the government

This boils down to suspicions of inefficiency and corruption. MPs expense scandals, and frauds in local government have not helped. Unfortunately, the operation of our political system often results in eloquent amateurs occupying positions of power. Public trust can only be restored by the rigorous imposition of professional standards and ethical codes on our politicians.

This also raises the question of privatisation of public services. When services are run inefficiently, the arguments for privatisation become more persuasive. Currently it would appear that public sentiment is swinging against privatisation.

Reducing taxes is an incentive that boosts economic growth

This theory is the brainchild of Arthur Laffer, an economic adviser to Ronald Reagan. It was debunked by the eminent economist J.K.Galbraith in his 1992 book ‘The Culture of Contentment’. Galbraith says “no-one in his right mind would take seriously the curve and conclusions of Professor Laffer.” Yet Laffer’s ideas are still quoted by present-day politicians. The Laffer Curve works like this: there are two points on a graph. Point one represents an economy where no taxes are levied at all. Obviously the tax revenues are nil. Point two represents an economy where 100% of GDP is taken in tax. In this case, there is absolutely no incentive to work or to go into business. So the level of activity is nil and so is the tax revenue. Therefore the argument goes that somewhere on the curve there must be an optimum point where the rate of tax yields the maximum revenue. The problem is that there is no evidence that can be used to find this point. Laffer himself, lacking data, drew the curve freehand!

Reducing taxes draws business from our competitors, and deters our entrepreneurs from migrating abroad

This has to be true, but it clearly becomes a race to the bottom, and is unsustainable. More international co-operation is needed to avoid tax revenues being lost by this kind of competition but the sentiments of the British public are certainly not currently in tune with internationalism.

I regret that this short essay has become rather rhetorical. There are plenty of questions but no obvious workable answers. One thing is certain, tax will always be a feature of our lives. So if you wish to pay the right amount, whilst still claiming all the exemptions allowed by law, consult our experts; complete our contact form.

*Published in El País, 6 September 2019 under the title “Bajar los impuestos”. Available to subscribers – subscription free of charge – here.