Blood from a stone

RBA Assistant Governor Luci Ellis gave an interesting speech yesterday.

For a little while now, the team at the Bank has been grappling with how one might reconcile apparently weak national accounts figures with the noticeably stronger labour market data.

One of the arguments she makes is that we’re paying too much tax. Mind you, she doesn’t quite say it in those terms.

When we think about household income available for consumption and saving, economists usually talk about household disposable income. This is income net of taxes, net interest payments and a few other deductions like insurance premiums. Income payable – the things deducted from gross income to calculate disposable income – increased by nearly 6 per cent in 2018. This was significantly faster than growth in gross household income.

Despite the relatively weak picture for household income growth, the tax revenue collected from households has grown solidly in recent years. It’s normal for growth in tax revenue to outpace income growth a bit: that is how a progressive tax system works. A useful rule of thumb is that, in the absence of adjustments to tax brackets to allow for bracket creep, for every one percentage point of growth in household income, taxes paid by households will on average increase by about 1.4 percentage points. That’s an on-average figure, though. The actual ratio can vary quite a bit.

In the past year, taxes paid by households increased by around 8 per cent, more than double the rate of growth in gross household income of 3½ per cent. So the ratio is more like a bit over two-to-one at the moment, rather than 1.4 to one. That is at the high end of the range this ratio reaches, but as this graph shows, it is not unprecedented (Graph 12). But this effect has cumulated over time, so that the share of income that is paid in tax has been rising (Graph 12, bottom panel).

Graph 12
Graph 12: Household Income and Tax

What is noteworthy is that for all of the past six years, growth in tax paid has exceeded income growth by an above-average margin, at a time when income growth itself has been slow (Graph 13).

Graph 13
Graph 13: Household Income and Tax scatter

There are likely to be several things going on here. Aside from the usual bracket creep, some deductions and offsets have declined, boosting the overall tax take. Interest rates on investment property loans are now higher than for owner-occupiers, but overall the interest rate structure on mortgages is lower than it was a few years ago. So landlords will have lower tax deductions for interest payments on loans on investment properties. At the same time, the significant run-up in housing prices in some cities over the past decade will have increased the capital gains tax liability paid by investors selling a property. Turnover in the housing market has declined. But as best we can tell, the price effect has dominated the effect of declining volumes, and total capital gains tax paid has increased.

Compliance efforts and technological progress in tax collection have boosted revenue collected from a given income. The Tax Office reports that its efforts to raise compliance around work-related deductions have boosted revenue noticeably (Jordan 2019). The next wave of this effort, focused on deductions related to rental properties, could result in further boosts to revenue.

Some of these drivers boosting tax paid could persist for a while, but they aren’t permanent. For example, the earlier period of strong housing price growth will only increase capital gains tax revenue if the asset was owned during that period. It can be expected to become less important, the further into history it passes. Similarly, increased compliance increases the level of tax paid on a given level of income. It is not a change in the trend growth rate in tax paid. That said, the effect could last for a while as efforts shift to different aspects of compliance.

Normally I’d be very sympathetic to this sort of argument – but it doesn’t quite make sense to me.

So changes to the tax system and greater enforcement of existing taxes has led to increased revenue to the government and consequently less revenue in the household sector. Maybe. But very often paying tax is a “nice” problem to have – especially compared to the alternative. All those people who have gotten jobs over the last few years shouldn’t be complaining that they have less to spend because of taxation. They are better off working and earning an income despite taxation. A lot of what we see in the speech is – as Ellis argues – how the tax system is designed to work.

Now I’m happy to concede that a progressive tax system distorts the economy and has all sorts of problems associated it it, but those issues are not new. Looking at the two graphs the current taxation  situation isn’t unique. Household tax to income has been higher in the recent past. The current relationship between growth in income tax paid and growth in total income is not unusual.

To my mind this is a crowding out problem. Too much taxation revenue is being being raised. Too much unproductive government spending is occurring. The answer to Ellis’ question is found in her speech when she says:

 Transport and renewable energy projects have been quite important. Public demand, both consumption and investment, is supporting growth.

When  you move large amounts of resources from positive net present value activities to negative net present value activities you can’t expect the economy to keep humming.

This entry was posted in Taxation. Bookmark the permalink.

28 Responses to Blood from a stone

  1. stackja

    Governments will always find things to spend tax money on. Kev 07 did!

  2. teamv

    Your last sentence really nails it Sinc.
    We are ploughing billions into duplicate infrastructure with a worse output than what we had before.
    You don’t drive growth by investing in waste.

  3. Bruce of Newcastle

    Nicely complementary with Labor’s latest promise to increase mandatory super to 12%.

    – They’re taking another 3% out of wukkas’ salaries.
    – That 3% is going to give a big and very valid excuse for no pay rises for a year or three
    – They then are going to grab back that 3% in the form of the franking refund heist, and the removal of negative gearing
    – Then they will be socially engineering the wukkas into putting all that super into ALP controlled industry super funds which are exempt from the franking credit rip off.
    – And the money is locked away for decades with real chance of being stolen legally or illegally.
    So not only will employee salaries underperform as a result of this policy but the net tax take will again rise.

    Brought to you by the wukkas’ friends in the Labor movement.

  4. Roger

    When you move large amounts of resources from positive net present value activities to negative net present value activities you can’t expect the economy to keep humming.

    Is a tipping point identifiable?

    Rahn suggests 15-25% of GDP, but we’re still within that bracket.

    Given that some public spending is unavoidable, what is optimal for economic growth in the private sector? It seems to me governments – not to mention tax payers! – should be vitally interested in that question.

  5. Roger

    They’re taking another 3% out of wukkas’ salaries.
    That 3% is going to give a big and very valid excuse for no pay rises for a year or three

    While price of beef mince is expected to just about double due to Labor climate change policies.

    Let them eat steak?

  6. Tel

    Public demand, both consumption and investment, is supporting growth.

    Vacuous, meaningless statement.

  7. Mark M

    If only the RBA had called one of their household taxes a carbon (sic) tax, the economy would be saved by now, not to mention planet Itsacon …

    The Reserve Bank has warned it will have to take the impact of climate change into account when setting interest rates.

    https://www.abc.net.au/news/2019-03-12/reserve-bank-warns-of-impact-of-climate-change-on-the-economy/10893792

  8. teamv

    Tel: spot on.

    Every survey that asks about support for action should also come with a compulsory response for how much would you be willing to pay for said action.

    The responses would show just how meaningless the call for action is.

  9. Keith Forwheels

    As time goes on hard working people who can afford too will chose to work less, close or downsize businesses, spend less and generally stand aside until a time comes when their efforts are not penalised, and the governments of all types and policital persuasions stop treating them and their taxes with such gross indifference and lack of respect.

    Many will also, eventually, seek jobs within the public service or the many organisations which are largely publicly funded, where they can be paid significantly more for similar private sector work for a fraction of the effort, no risk and with conditions & benefits that most small business people and their employees can only dream about.

  10. Percy Popinjay

    Brought to you by the wukkas’ friends in the Labor movement.

    Not to mention the impact of Teats’ and Turtle Bowen’s demands for an increase in the minimum wage and the reversal of the decision to reduce some penalty rates.

    labor – so useless they couldn’t even properly set up a tame industrial relations regulator/sheltered workshop stuffed to the gills with ex labor hacks.

  11. Cynic of Ayr

    What annoys me is the experts reluctance to either admit or acknowledge, that tax paid by corporations is tax paid for by the customer of those corporations.
    Example Woolworths. Woolworths sell stuff for a margin of profit. Out of that margin, expenses are paid. Of the remainder, some is paid out as Share Dividends, and the rest is liable is liable for income tax. (I know that’s a bit simplistic, what with the row over franking, but simplistic is adequate here.)
    ALL of the money for expenses and tax come from the Margin Money. The Margin Money comes from the customers. Where the hell else can it come from?
    Same with high Power prices. Woolworths customers pay for the high cost of Woolworths power bills.
    Same with the absolute stupidity of Julia Gillard, when she said, “The big polluters must pay.” The big polluters, her tiny mind she thought, were transporters. Yes, the transport that delivered to Woolworths, whose customers paid the carbon tax of the transport company.
    Out of Woolworths expenses, are Woolworths suppliers, who, like Woolworths make a margin, have expenses etc etc. Their tax is paid for by Woolworths customers too.
    So, Corporate Tax goes up a bit, prices go up.
    Electricity prices go up, prices go up.
    Transport cost go up, prices go up.
    Every single expense is paid for by the end user. You can follow this all the way up the train, as well as down, to Woolworths customers paying the Farmer’s tax as well.
    GST is paid by the last one to get the goods.
    Woolworths customers pay a hell of a lot of tax via Woolworths! A hell of a lot more than just Income tax.
    Care to comment Sinc? You may have a better handle on this, but keep it simple.

  12. Entropy

    Public demand, both consumption and investment, is supporting growth the GDP figure.
    FIFY

  13. Percy Popinjay

    Cynic – in economics, it’s known as “the incidence of a tax”. Falls on the economic agent that ultimately pays the tax (i.e. the consumer). However, there is also a cost to producers, who may experience reduced demand for a more expensive good or service (due to a new tax), without an equivalent return on the price increase (which of course, goes to the government).

    I’m pretty sure there was a post here a while back that covered this in detail.

  14. Confused Old Misfit

    However, there is also a cost to producers, who may experience reduced demand for a more expensive good or service (due to a new tax), without an equivalent return on the price increase (which of course, goes to the government).

    Nevertheless:

    Every single expense is paid for by the end user.

  15. Confused Old Misfit

    Every single expense is paid for by the end user.

    Or the producer goes out of business or ceases to produce/supply that good/service.

  16. Genghis

    Yup and now I am going to lose 30% dividend imputations. That is a fair wack of my disposable income. Less purchases and entertainment, more closed shops and unemployment. Good on ya Billy ‘brightside’.

  17. Deplorable

    How long before Teats will bring in inheritance taxes, gift taxes, control of your superannuation money so you cannot draw down lump sums. Any superannuant who votes for Teats or Slomo has rocks in their heads. I am getting ready to drawdown 100% and close SMSF. I am stuffed if I will have any government telling me what I can do with what is mine. Centre right parties only for the Senate.

  18. Squirrel

    The federal government is, to a considerable extent, a gigantic churn machine, and the people who are paid to run that machine (and all the ancillary tasks related to it) are increasingly being better paid than those in the productive, contestable sectors of the economy.

    Both sides of politics have squandered the easy revenues of the boom years on vote-buying, and the bureaucracy which inevitably goes with it, and have likewise taken a laid-back approach to controversial reform, including in relation to over-regulation and bureaucratic duplication.

  19. Cynic of Ayr

    Percy:
    Ta. Read that. I sorta got lost a bit where the 30 cents in the dollar came from. I assume it’s the cost of collecting the tax. i.e. Tax collectors. LOL, now we have the situation where tax collectors are paid to collect tax, and pay tax themselves. You could stretch it, and say they’re paid to collect their own tax.
    OK, the trust of my post was that the poor old end user, which in this country would mainly be the wukkas. (Pinched that from Bruce of NC.)
    The problem, IMO, is that much of the tax collected is wasted. Just.fucking.wasted!
    Julia Bishop could waste Millions of Dollars on projects that never gave anything back, and were nothing but showing off.
    Gillard wasted Millions on the Clinton Foundation.
    Rudd wasted millions on Pink Batts and such nonsense.
    Every day, millions are paid to people to “look into matters” and report to the government” Said reports are them filed and forgotten.
    Who can forget Latham give that insipid twat from the American Studies Institute (or something) and Latham said he was too dumb to see the election of Donald Trump coming.
    Funny, I Binged “Australia Institute American Studies” looking for the correct name, and I got a jillion Institutes in Australia, all studying some vague subject, that no one gives a toss about.
    Turnbull and Morrison are not far behind, if indeed, they aren’t in front. Libs been if Government since Abbott landslided them in, and they’ve done nothing to address spending, except increase it. Now that taxes are higher than ever, Morrison is bragging he’s brought in a surplus. Note to Morrison, “Increased taxes are not ‘savings'”.
    The late, great Kerry Packer, luv or hate ‘im, said it brilliantly when the wanking parliament got him in on some inquiry talkfest, designed to make the Pollies look good, but ended up making them look like dills.
    From memory, “Anyone who doesn’t reduce their tax to the legal limit has rocks in their head. Like, it’s not as if you morons spent it wisely!”
    Thanks for your effort Percy.

  20. Tezza

    Your last sentence is about half the story, Sinc – think renewable energy, NBN, schools, universities etc. The other half is that of course the tax to income ratio has been higher than usual for a while. Inadequately-corrected bracket creep is the main reason the budget is finally coming back into the black.

  21. Pyrmonter

    ‘Transport and renewable energy projects have been quite important. Public demand, both consumption and investment, is supporting growth.’

    Where of course our political (and activist) class – in all quarters – has succumbed to the idea that the General Will (at least as represented by biddable voters in seats sufficiently marginal to matter) matters more than the ostensible ends at which such schemes are aimed: further transport infrastructure does not necessarily lead to better mobility; nor do renewables necessarily reduce CO2 output. Any competent student having completed an introductory undergraduate course in Economics should be able to say why, and how using prices would generally be better means of achieving those goals. Given how many of our political class have taken those classes, it’s depressing to contemplate how far interest and popular ignorance can trump rational economic policy.

  22. Boambee John

    Cynic of Ayr

    Who can forget Latham give that insipid twat from the American Studies Institute (or something) and Latham said he was too dumb to see the election of Donald Trump coming.
    Funny, I Binged “Australia Institute American Studies” looking for the correct name, and I got a jillion Institutes in Australia, all studying some vague subject, that no one gives a toss about.

    United States Study Centre, Sydney Uni.

    Known to Gerard Henderson as the Useless Studies Centre.

  23. Tim Neilson

    Notice that the tax-to-income ratio declined markedly under Howard and Costello.

    I know it’s fashionable on this blog to deride them, but they did look after Howard’s Battlers in a lot of ways.

  24. Peter Greagg

    Tim Neilson
    #2972234, posted on March 28, 2019 at 8:27 am
    Notice that the tax-to-income ratio declined markedly under Howard and Costello.

    I know it’s fashionable on this blog to deride them, but they did look after Howard’s Battlers in a lot of ways.

    Well I don’t agree with everything the Horward Government did, but I thought they were the best I have seen in my 67 years on fiscal policy and personal income tax.

    Adding to Tim’s point on average income tax rates, over most of the Howard/Costello period 80% (or more) of income earners faced a maximum marginal income tax rate of 30%. Of course, this was possible because they cut spending hard in their first budget. Who could forget the outrage by the usual suspects, including the riot at Parliament House, when the cuts were announced (https://en.wikipedia.org/wiki/1996_Parliament_House_riot)?

    I should also point out that at that first Budget of Howard and Costello in 1997/98, that surplus was the only the sixth one since 1974/5, which shows how hard surpluses are to achieve.

  25. Peter Greagg

    Oh, and I should have made the point why a low maximum marginal income tax matters — the lower that is, the more likely an economy will increase hours worked (through both more jobs, and more hours worked by those already in work) because the workers get to keep more of the fruits of their labour.

  26. Cynic of Ayr

    Boambee John:
    United States Study Centre, Sydney Uni.
    Known to Gerard Henderson as the Useless Studies Centre.

    Ta.
    (It was fun to watch that twit squirm!)
    GH is correct, but the dills are still there, still sucking money up, and a marked focus of my point about wasted money. Morrison probably doesn’t know they exist. That’s how firm a grip these blokes have on expenditure.

Leave a Reply

Your email address will not be published. Required fields are marked *

This site uses Akismet to reduce spam. Learn how your comment data is processed.