Opinion & Commentary
Meanwhile, back at the root and branch review
While the Commonwealth budget is centre-stage at the moment, backstage the root and branch review of the tax/transfer system grinds on towards its December 2009 reporting date.
The rivers of red ink and mountains of debt that form the current fiscal landscape could hardly have changed more since the review was launched twelve months ago. Remember the surpluses that ran as far as the eye could see?
Different conclusions can be drawn as to what this fiscal transformation means for the outcome of the review.
One is that reform will be harder to achieve because the budget will be too weak to pay for it. Although tax reform does not have to be synonymous with tax reduction, the wheels of reform roll more smoothly when greased by a net overall tax cut, with winners far outnumbering losers. In fact, the last tax reform (the GST package) strained to ensure there would be no losers at all.
An alternative view is that a dismal fiscal outlook facilitates reform by feeding a crisis atmosphere and highlighting the need for fundamental change. This is the school of thought that says ‘never let a good crisis go to waste.’
The worry is that the fiscal position and the crisis atmosphere will be used to justify the wrong kind of reform.
There are doubtless some in government, egged on by a number of commentators, who see the review as a timely opportunity to help the budget back to balance by squeezing more revenue out of (mostly well-off) taxpayers and cutting transfer payments via a means testing blitz.
A revenue-raising bias with a redistributive tilt would fit neatly with the view of those who, from the outset, wanted to enlarge the public sector and make the tax/transfer system more ‘progressive.’ Events since the review was launched have played into their hands by lending superficial credence to the notion that tax cuts were part of the ‘neo-liberal’ cocktail that ultimately blew up the global economy. Tax cuts, according to this fairytale, merely rewarded the misdeeds of the well-paid managers and financial sector operatives who have created the global crisis. Spite joins envy as a principle of taxation.
Such sentiments are already shaping tax policy in countries such as the United Kingdom. If Australian policy goes down the same path, not only will it fail to correct the fiscal imbalance, it will also be harmful to longer term economic prospects by crushing incentive and enterprise. There is a high price to pay for the warm inner glow that some people get from redistribution.
Others viewed the opportunities presented by the current review differently. It was seen as a chance to scale back both tax and transfers; as a microeconomic reform that would enhance productivity and workforce participation by sweeping away the most economically harmful taxes and applying the low rate/broad base principle to the others; and as an exercise in badly needed simplification.
Specifically, it was hoped among other things that company tax would be cut; the personal income tax scale lowered and flattened; inefficient state taxes removed or redesigned; and the maze of tax offsets, deductions, rebates, concessions and exemptions cleaned up.
These objectives are as pressing now as ever. Tax/transfer reform should be viewed as a supply-side reform that will expand productive capacity in the long term. Policymakers will need to move on from their current preoccupation with short term demand management and lift their gaze to the long term.
The question is how to pursue a long term vision without making the short term fiscal position worse. That can be done, first, by closing the structural budget deficit with policies that make government spending a smaller share of the economy, not by making tax a bigger share.
Second, commit to a package of reforms but implement it over a long period and phase it in such a way that it doesn’t make the short term fiscal position worse. Aim for bipartisan agreement so that the integrity of the reform program will survive a change of government.
Third, recognize that short term revenue losses from reform will be partly recouped in the longer term as the benefits of greater economic efficiency and growth accrue. One doesn’t have to believe in voodoo economics to accept there will be a growth dividend. Even the GST reform package factored in a growth dividend to revenue.
Fourth, make the most of the triple virtue of tax base broadening: it helps pay for lower tax rates; it promotes economic efficiency; and it reduces the complexity that accompanies offsets, rebates, deductions and the like.
The mantra of tax reform for a stronger economy has long been ‘lower rates; broader bases.’ The worry is that the government will focus on the short term exigencies of the budget and hear only one half the message.
Robert Carling is a Senior Fellow at The Centre for Independent Studies.
