Government policy impacts on business and entrepreneurs and in these years (decades?) of high public deficits, there is a huge danger of self-defeating tax policies.
High tax kills because it reduces the incentives and perceived fairness - and statistics indicate that it doesn't even increase the money going into the public purse.
It is easy to spend other people's money.
Dead easy...and that's the problem.
UK On The Brink
So we have a national debt in the UK of about 80% of GDP when our Prime Minster Gordon Brown has spent the previous decade lecturing us on the Golden Rule for sustainable public finance of a MAXIMUM of 40% of annual GDP.
In the USA it is even worse with debt close to 110% of GDP.
In the UK current Chancellor of the Exchequer Alistair Darling commits to reducing the deficit by 50% over the next four years.
But it's smoke and mirrors.
He's not talking about national deficit but the ANNUAL deficit.
In the UK the estimated shortfall between taxes and public spending for 2009 is estimated at £178 billion.
Or with a population of about 60 million, about £3,000 for every man, woman or child in the country.
In broad numbers, the government has cash coming in of £400 billion but it is paying out close to £600 billion.
And the deficit that Alistair Darling talks about cutting is the annual difference - so if things work out well - we will only be borrowing an extra £90 billion in 2014.
No wonder the credit agencies are worried.
It's like a company making a huge loss this year and saying to it's bankers "Give us more money and we will do whatever is necessary to cut our annual losses in half in four years time."
Hello. Wake up and smell the roses.
Of course because of the UK election, we have false statements with both Labour and Conservatives tinkering at the edges.
Not facing up to the enormity of the challenge.
The gap must be closed and that means spending down and taxes up.The Perils Of High Tax
One things for sure.
It is much easier to get in this mess - because everybody loves high spending and low taxes - than to get out of the mire.
Spending cuts will hurt.
Higher taxes will hurt.
But the country must be very careful that high taxes - while providing nice sound-bites to people on low income - don't have exactly the reverse effect than intended.
In the UK, the top rate of income tax is going up from 40% to 50% on the 6th April 2010.
At one level, it sounds fair enough.
If you earn it, then even at 50% on taxable incomes about £150,000 you still get to keep half of what you get paid.
Historically the 50% is quite low - until Margaret Thatcher reduced the top rate 22 years ago, it was at 60% and in the seventies it had been as high as 83% (with a 15% surcharge on unearned income).
But let's have a look at what happened when top rate taxes reduced and consider whether the reverse happens as taxes increases.
According to HMRC estimates for the 2009/10 tax year quoted in The Sunday Times:
- The top 1% of earners pay 24.1% of taxes
- The 1 to 5% of earners pay 19.0% (making the cumulative for the top 5% paying 43.1% of income taxes)
- The 5% to 10% pay 10.2% (cumulative for top 10% equals 53.3%)
- The 10% to 25% pay 17.7%
- The 25% to 75% pay 26.2%
- The bottom 25% pay 2.8%
The numbers are shocking and can be seen in two ways.
- more tax on the top earners will raise a lot more money
- or as the Laffer curve suggests, the more you tax the top earners, there is a powerful disincentive to take action and risks.
The rich have got three choices - pay the extra taxes, reduce their income or take more advantage of creative schemes to escape the tax framework.
The first increases tax revenues but the other two reduce it.
Which is why history is interesting as it sows what happened when tax rates reduced.
- In 1978/9 the top 1% paid 11% of income tax (with the eye-watering 83% rate)
- In 1986/7 the top 1% paid 14% (with the reduced but still painful 60% rate)
- In 1990/1 the top 1% paid 15% (when the top rate was reduced to 40%)
- In 2009/10, the estimate is for the top 1% to pay 24.1%.
The numbers are alarming.
And it is not just the top 1% either.
The top 5% have seen the tax take jump from 24% in the late seventies to 43.1% and the top ten increase from 35% to 53.3%.The Moral Dilemma
I can't say I enjoy paying tax but I do see it as a public duty to help the less fortunate in society.
I've scoffed at some of the fancy tax reduction schemes...in fact they make me feel quite queasy.
It is right the the well off should pay much more tax than the less well off.
But what is not right, is if squeezing the rich reduces rather than increases the tax take.
Especially when the country is in financial trouble and needs to get the deficit down to manageable levels.
Although I have contempt for the Gordon Brown of the last five years, I had respect for the Gordon Brown who preached prudence, the Golden Rule of 40% and has three times signed up to the manifesto pledge NOT to raise the 40% higher income tax rate.
Political posturing will not do the country any good but I don't see the Conservatives who are the likely next government talking about reversing this damaging policy.
More political posturing because they don't want to be seen as the party who are giving tax cuts to the wealthy while cutting the public spending that props up the living standards of the poorer parts of the economy.