Taxes, growth and right-wing ideology

No one would ever accuse Jacob Rees-Mogg of being up to date. But that applies as much to the Tory backbencher's politics as his Edwardian dress sense.

Polling evidence suggests the British public are unambiguously ready, for the first time in a decade, to pay more tax to fund better public services. The most recent British Social Attitudes survey shows a larger proportion of the public now favour an increase in taxes to pay for better services than the proportion who feel that taxes and spending should be kept where they are.

A specific YouGov poll on the NHS suggested that 66 per cent of the public would be prepared to pay more in income tax to ease the pressure on health. And that even apparently includes a majority of Conservative voters. But Rees-Mogg seemed unaware of all that evidence yesterday, as he preached from the traditional right-wing gospel of tax cuts.

"This country is as highly taxed as a percentage of GDP as it has been since the early 1970s, late 1960s," he told LBC. "I don't think the Conservative party is here to increase taxes. Philip Hammond seems to think otherwise but he hasn't yet presented a budget and he may find there is not a lot of support for tax increases."

And then came some economic theorising.

"I think you make money available to the NHS by growing the economy and I think you grow the economy by lower tax rates. I think you stifle the economy by higher tax rates."

Let's unpack this. Is Rees-Mogg right that taxes are now very high by historical standards? Not really. The share of national income collected in tax receipts will be around 37 per cent this year. Back in 1981 when a 12-year-old Rees-Mogg was threatening to sue the Today programme the tax share was up at 41 per cent.

A larger share of national income was also being taken in the "early 1970s, late 1960s".

It's true that the tax share is considerably higher today than the trough of 31 per cent it scraped in 1994 under John Major. But that was a previous time when public services were almost universally considered to be grossly underfunded. Right-wingers like Rees-Mogg are fond of claiming that taxes can be unsustainably high. But they can also be unsustainably low.

The tax take today as a share of GDP is higher than it was a decade ago, before the financial crisis. But that's largely driven by demographic factors. Health spending is up as the age profile of the population has matured and more people inevitably require care. State pension pay outs have also increased as the pensioner population has grown. The rest of the public sector has suffered an enormous squeeze under the coalition and now the Conservatives.

What about boosting growth through lower taxes? Well, we have some evidence to refer to here. The main rate of corporation tax has been slashed from 28 per cent to 19 per cent over the past eight years. Yet the recovery of business investment has been abnormally weak relative to the wake of other recessions.

The income tax threshold has also been steadily raised. While consumer spending has been reasonably robust, it has certainly not been sufficient to deliver strong wage or GDP per capita growth. This has been the weakest recovery from a recession on modern record.

As for growing the economy in future, there is not a single credible economic forecast showing that Brexit - of which Rees-Mogg is a fervent supporter - will do anything but damage the UK economy. Slower growth will hit the public finances, making less money available from tax receipts for the NHS, not more.

Finally, do higher tax rates stifle growth? The latest data from the International Monetary Fund shows that of 39 advanced economies 25 had higher tax shares than the UK in 2017, among them France (54 per cent), Norway (54 per cent), Finland (52 per cent), Sweden (49 per cent), Germany (45 per cent) and Canada (39 per cent).

Did these relatively high tax countries grow far more slowly than the UK since the millennium? Not at all.

And average annual GDP growth rates in Canada (2 per cent) and Sweden (2.2 per cent) have actually been higher than in the UK (1.7 per cent). Serious economists who have looked at even larger historical datasets find no clear association between lower taxes and higher growth.

There are many reasons why a country can fail to deliver for its people economically. Excessive taxation is probably one of them. But the obsession with which the likes of Rees-Mogg make the case for lower taxes - lower at all costs - reflects more about their own ideological preferences than anything in the available economic evidence.

The truth about your housing wealth? You didn’t earn it

Way back in the mists of time when "Red Ed" Miliband proposed a tax on homes worth more than £2m, no less than Michael Caine considered the idea terribly unfair. "I feel sorry for all the older people who've worked hard all their lives and their London suburban house falls into this category," the actor told the Daily Mail in 2014.

Sir Michael spoke for Middle England. The link between the price of one's house and one's personal effort in the eyes of most homeowners is as strong as tungsten.

But that doesn't mean that the link actually exists. According to a new report by the Resolution Foundation around 80 per cent of net property wealth growth since the early 1990s has been a consequence of a rising housing market, rather than active savings decisions by households.

This equates to around £2.3 trillion of windfall property value appreciation. For homeowners born in the Forties and Fifties the average "passive" benefit is around £80,000. For those born in the Sixties the average windfall is £60,000. The Resolution Foundation report makes it clear that UK overall wealth accumulation is considerably driven by property, which has been largely inflated by a housing boom. If we're serious about tackling high UK wealth inequality (which seems to be rising still further) we can only do so by tackling housing.

There are a multitude of reasons why UK house prices are so high relative to incomes and homeownership rates are falling. Excessively rigid supply-restricting post-war planning controls, particularly the misnamed "green belt", around big cities, are a major culprit. Indefatigable nimby campaigns of opposition by existing homeowners when new developments are proposed also harmfully suppress supply.

Sclerotic local authorities that no longer build social housing, big corporate builders with little interest in constructing new homes in sufficient volume, a financial system set up to lend for residential property purchases but not business investment, politicians who offer cynical subsidies to demand: all these contribute to the mess.

But a significant driver is our irrational and grossly distorting property taxation system. The council tax is inexcusably regressive. Stamp duty is only levied on transactions, discouraging people from moving when they otherwise would. There is no VAT on newly built housing.

High-value property is undertaxed. Homeowners face no capital gains tax. And David Cameron and George Osborne removed family homes worth up to £1m from the inheritance tax net.

Bank of England chief economist Andy Haldane got into trouble last year for pointing out what everyone knows to be true: that you'll tend to get better returns from property than from a pension.

Given such obvious financial incentives, it should come as no surprise that so many of us are obsessed with property as an asset class, that we are so prone to boom-bust cycles, where we bid up prices ever higher and stretch the link with economic fundamentals to breaking point.

As the Resolution Foundation report shows, while residential property wealth has been spiralling as a share of GDP, property taxes have been flat. The problem with Ed Miliband's mansion tax is not that it was unfair, but that it wasn't fair enough. The regressive council tax system should be reformed so that all property - not just £2m houses - is taxed at a flat rate on its market value.

The Grenfell Tower tragedy has exposed the property inequality gulf that exists in modern Britain with brutal clarity. We see unsafe, overcrowded and oversubscribed social housing lying next to under-occupied multi-million pound Kensington townhouses whose value has exploded in recent decades.

Ed Miliband's 2015 crucifixion over his mansion tax proposal seems an aeon ago. In the wake of the conventional wisdom-scrambling following the General Election, there appears to be a healthy new willingness among the political classes to consider solutions that were for so long written off as economically logical but electorally impractical.

But as the "dementia tax" property-based backlash showed, the argument still needs to be made, the case laid out persuasively. "You didn't build that," cried Barack Obama during the 2012 Presidential election, making a point about the degree to which private US businesses rely for their economic success on stateprovided infrastructure such as roads and bridges.

"You didn't earn that," could be an equivalent progressive rallying cry when it comes to the long-overdue reform of the taxation of British housing wealth."

There appears to be a healthy new willingness among the political classes to consider solutions that were for so long written off as economically logical but electorally impractical

If we want an adequate health service we will need to pay more tax

Imagine a large barrel that we pull apart, reconstruct and expand (at considerable expense) every year. Imagine we need to store a certain amount of precious liquid in that barrel. Now imagine that the amount of liquid we need to store each year is rising faster than the volume of the renovated barrel. The result is overspill and flooding, which makes everyone unhappy. Here we have a description of the NHS crisis.

Politicians have "protected" public spending on health since 2010. That means public spending on health has been rising in line with economy-wide inflation (unlike most other government departments, which have had to bear significant real-terms cuts). We spend more than £145bn of taxpayers' money on health, around 7.5 per cent of our GDP. That's up from just 3 per cent in the 1950s. NHS spending as a share of overall public spending is approaching 20 per cent, double the proportion of 30 years ago.

And yet there are reports of record A& E waiting times, warnings of "permanent winter" in the provision of health services and new plans for cuts. According to a BBC analysis, NHS managers around England are proposing to scale back hospital services in nearly two-thirds of areas.

What is going on? Why are we spending so much but still seeing such pressures? The answer is that the demand for services is rising faster than the new capacity of the NHS.

The UK population is ageing and older people, on average, have greater healthcare demands than younger generations. The proportion of residents aged over 90 has almost tripled since the early 1980s. The ratio of pensioners to the working-age population is projected to rise from around 30 per cent today to 37 per cent by 2040. By the way, this dependency ratio will go even higher if the number of new EU immigrants (who overwhelmingly tend to be of working age) falls sharply due to Brexit.

On top of this, heathcare inflation has outstripped general inflation since the NHS was founded and is likely to continue to do so as new drugs and high-tech medical equipment come onto the market. In short, the volume of liquid is growing faster than the size of our barrel.

Now imagine there's a house next door. The volumes of liquid the neighbours need to deal with are rising too. They too have fast ageing populations. But they have built barrels which are much larger than ours. Germany spends 9.4 per cent of its GDP on public healthcare, France 8.6 per cent.

There are various ways we in Britain can address the problem of overspill. We can try and reduce the amount of liquid we have to deal with. We can take try to encourage people to adopt healthier lifestyles so they require less healthcare when they reach old age. Yet that's not going to help much in the immediate term.

We can try to make the barrel bigger through driving productivity increases in the health service, making existing resources stretch further. But that's easier said than done. And productivity increases are often unpopular. Nothing unites a community more effectively than a threat to close a local hospital.

Finally, we can, collectively, pay more in taxes to fund bigger increases in the overall size of the barrel each year. In next month's Budget, Chancellor Philip Hammond is likely to increase public resources available to fund elderly social care, helping to relieve some pressure on the NHS. There may even be more money pledged for the NHS directly. But no one expects the Chancellor to outline the kind of structural upward shift in the national tax take that would be necessary to get us out of this bind.

To some extent this is a failure of political leadership. Conservative ministers have trumpeted real-terms protection for the NHS budget, while presiding over a severe de facto squeeze on funding. But the blame goes wider. As a society we're in denial about this necessary trade-off between meeting a rising demand for healthcare and keeping tax rates at their current levels. And until this changes, expect the NHS crisis to continue lapping around our ankles.

Republicans are doing the right thing on tax reform, albeit accidently

"The greatest treason", suggested TS Eliot in Murder in the Cathedral, is to "do the right deed for the wrong reason". That feels like a description of the corporate tax reform plan being pushed by Republicans in the US Congress, as they hope to win the backing of the freshly-installed President Donald Trump. For the plan's main Republican sponsor, Kevin Brady, the objective seems to be kicking the ass of the rest of the world.

Brady wants to create a system "that doesn't favour foreign products over American products" and has described the reform as a way of levelling the playing field for US exporters who are, he claims, currently being subject to outrageous discrimination through the Value Added Tax systems of foreign countries, including Britain.

Talk about the "wrong reasons". The idea that there is foreign discrimination against American exporters through VAT - something also believed by Trump's economic advisers - is nonsense. This charge is based on a fundamental misunderstanding of how a VAT works. Furthermore, there is also zero reason to expect this particular corporate tax reform to give American firms any kind of lasting advantage when it comes to exports.

Indeed, we find ourselves in the paradoxical situation where a reform being presented by deluded rightwing American politicians as a way of sticking it to cheating foreigners actually represents the world's best chance for lancing the boil of rampant tax evasion by multinational companies.

It is the right thing being pushed for the wrong reasons. To understand why, we need to look at the plan in more detail.

The Republican plan would replace the US corporation tax, an annual levy on a firm's reported profits, with a new levy on a company's domestic cash flow. It means taxing a company's domestic sales at a certain rate, probably 20 per cent, after it has subtracted its domestic costs such as workers' wages and the amount the firm has spent on investment in new factories and equipment.

The objective would be to tax a company's economic activity in America, which means that it would be able to reduce its tax bill by the value of its exports, while imports would be part of its taxable liability via a "border adjustment tax". That probably sounds mind-numbingly complicated, but the principle is actually quite simple: it means taxing the firm's value-adding and substantive economic activity in the country where that activity actually takes place. This is most people's idea of what a tax on corporate income is supposed to do.

Many have objected that US firms that import heavily will be placed at a major tax disadvantage. Yet this impact would be entirely offset by a rise in value of the US dollar, which would follow the implementation of the reform, and which would increase the purchasing power of importers proportionately. And for all Brady's rhetoric and the protectionist-sounding border tax, the effect of the reform would actually be neutral on America's terms of trade with the rest of the world.

But the great advantage of this reform is that it would eliminate the incentive for multinational firms to dodge their US corporate taxes through accounting tricks, such as registering profits at subsidiaries abroad and relocating their corporate headquarters to tax havens. No matter where they based their headquarters, multinationals would be liable for a hefty US tax bill if they sold plenty of products and services in America.

And if America, the world's largest economy, were to institute this reform, there would be a powerful incentive for other countries - including Britain - to implement a similar reform. Everyone who complains about multinationals making massive local sales but paying negligible local corporation tax - everyone from Theresa May to UK Uncut - should be hoping that Congress adopts this legislation, and that our own Parliament emulates it.

There are, it is true, potential transitional snags. Some believe that the unilateral reform of US corporation tax in this way would open America to a potential legal challenge for breaking the rules of the World Trade Organisation. The impact on income inequality is unclear, although there is no compelling reason to believe that it would be any more socially regressive than the existing corporation tax.

This reform would certainly present some risks, some potentially hazardous financial side effects. Yet there are also risks in trying, in vain, to patch up the current loophole-ridden "source-based" corporate tax system, which Mike Devereux, the UK tax expert whose proposals have heavily influenced the Republican plan, and who first proposed the reform back in 2001, describes as "fundamentally broken". There are political risks in failing to respond effectively to widespread and justified public anger over flagrant multinational tax dodging by the likes of Apple, Google and Amazon.

Back to the paradox. Republicans care little about the iniquities of tax havens. They want firms to pay more in corporation tax in the same way that Donald Trump wants judges in Washington to influence immigration policy. And they seem terribly confused about the reform they are championing and about what it would entail, not least the progressive outcomes. Yet, for all that, what they have ended up pushing is the right thing, not just for the US but the world. Treason or not, we should wish them good speed on this one."