The tax relationship lies at the core of politics. Getting it right unlocks possibilities of all kinds. Getting it wrong creates blockages, resentments and anger (and sometimes revolutions). Reforming tax in ways that work and are legitimate will be a vital part of any kind of ‘just transition’ to a fairer, zero carbon future. But it's a topic most people would rather avoid.
Yet there is no doubt that our tax systems today are badly broken. Tax is loaded onto the small and the immobile while the big, the mobile and the rich often escape. Tax is loaded onto work – through income taxes of different kinds – and largely ignores land and wealth. Tax was meant to be shifted to ecological harms - but still hasn’t been. Tax is still national while production and distribution are transnational. A lvast amount of money - and not just from organised crime - is still hidden in offshore tax havens despite efforts to stop them.
Lack of political will or energy means that although these problems have been visible and discussed for at least a generation there has been relatively little reform. There have been attempts to rein in the ways that places as diverse as Switzerland and the Cayman Islands offered secrecy to the rich and the beginnings of a more serious discussion of how to tax digital firms. But most of the issues have been parked, seen as ‘too difficult’.
Many political fault-lines flow from this failure to reform tax – from ‘gilets jaunes’ to working class resentment. Much of this bitterness is justified. The US heiress Leona Helmsley famously once said that tax was for the little people (a view apparently shared by Donald Trump). In a sense her view has prevailed. The ultra-elite who have benefitted so much from recent economic trends have found many ways to avoid tax. This is particularly glaring in some parts of the world – like India, where in big cities desperate for basic infrastructures the ultra-rich pay little or no tax, or Italy where, again, for the wealthy tax has been optional.
Yet the need for tax to pay for infrastructures, care, health, education has not disappeared. So the more tax systems are unfair, uneven or just incompetent, the bigger the burden placed on everyone else.
So what can be done? Joseph Schumpeter once wrote that ‘the spirit of a people, its cultural level, its social structure, the deeds its policy may prepare – all this and more is written in its fiscal history, stripped of all phrases. He who knows how to listen to the message here discerns the thunder of world history more clearly than anywhere else.’ We badly need some more of that thunder.
Here I suggest in outline the architecture of a tax reform programme - rethinking what is taxed, how it is taxed, and how finance is used. A companion piece will share some work I have been doing on how public finances can be better organised to take the long-term seriously. I briefly cover: taxing global economic activity (with apportionment and tackling new forms of rent); digital (with turnover taxes and taxes for super profits); taxes on land and wealth; carbon taxes; simplification; new ways to make the link between tax and spending more transparent; personal accounts; and encouraging philanthropy through much higher marginal taxes on wealth above a threshold. These should all then make it easier to reduce tax rates on income and consumption.
Global tax for global economic activity:
For well over fifty years it’s been clear that nationally based tax systems don’t work adequately in a world of global production. Many have proposed solutions, some addressing the many complexities of transfer pricing. 25 years ago I co-authored one set of potential answers. We advocated international agreement around apportionment approaches (as used then by the state of California), estimating the share of a firm's global activity that took place in a particular location. It’s a crude approach but perhaps the only plausible one, and similar in principle to some of the plans for digital taxes. It has to go in tandem with much tougher international action to eliminate tax havens (many of which are still supported by the US and UK) which do so much to support organised crime. We also advocated taxes on the new forms of economic rent – computer operating systems, brand values, electro-magnetic spectrum and hit cultural products. In each case, carefully designed taxes shouldn’t reduce the production of the good (which is always the worry for taxes of this kind). The arguments are now accepted in relation to spectrum and, 25 years on, the world may at last be ready to consider some of the other ideas seriously.
I’ve just mentioned some of the ways in which the digital economy should be taxed – certainly for the commons on which it depends (such as electro-magnetic spectrum and wayleaves). A sophisticated tax regime would be able to tax many intangible items – from operating systems to hit films – once they had reached a threshold of turnover (since their marginal cost is zero). Taxes on overall revenue – of the kind being considered in Europe – are a crude but reasonable approach. Ideally any such taxes should be harmonised at least across US, EU and China – which is not as implausible as it may seem if, eg, the EU takes the lead.
Land and wealth:
Although advocates of land taxes have been around for a long time, and there has recently been a revival of interest in the 19th century ideas of Henry George, most tax systems still greatly under-tax land and wealth. Effective lobbying has pushed back even modest plans for wealth taxes. But small wealth taxes – eg 1% a year – are unlikely to have big effects on location decisions. Moreover, there is a new twist in the story. As I’ve shown (in work with Indy Johar) one of the surprising features of an economy more based on intangibles is that much of the value created is captured by landowners, particularly owners of land in the hearts of cities like London, New York or Paris, as a windfall, even though they have done nothing to generate the value they benefit from. As I point out one of the biggest beneficiaries of the UK’s creative economy is the Duke of Westminster. So we need simpler overall taxes on wealth and not just income, but also more smartly targeted taxes to capture some of this rent, learning from the experience with other taxes to capture land value windfalls.
Few now dispute that significant carbon taxes have to be a central part of any 21st century tax reform. There are plenty of detailed proposals now in circulation – this is one part of the tax agenda where orthodox economics feels quite at home. The challenges are mainly political, including the detailed design of packages of reform to provide transitional relief to compensate some of the losers and counter the inevitable ferocious lobbying from the oil industry and their fellow travellers.
Complexity tends to favour the rich and well-advised. This is why the case for periodic simplification is so strong, including flat taxes on all incomes (potentially combined with a flat allowance organised as a universal basic income). Progressives have in the past opposed flat taxes, which sound, well, unprogressive. But as part of a broader package of reform, and combined with either generous allowances or some form of UBI (which used to be described as a negative income tax), they make a lot of sense, particularly in a period when many people’s incomes are so lumpy and unpredictable.
Tax is a political relationship. But today the link between taxes paid and what is received is opaque and murky. This is why there are strong arguments for making it easier to see where tax goes. Some forms of hypothecation do this well – like the BBC licence fee that helps to protect our media system from the corruption and misinformation that has so undermined others. Although economists have good reasons to be sceptical of too much hypothecation, it can play an important political role in legitimating key services, and keeping them focused on the public they serve (and may be vital for services like the NHS and a future national care service). But even where there is no hypothecation there needs to be much more active communication to taxpayers of where their money actually goes, with annual tax forms setting out with clear visualisations how many pounds, dollars or Euros went respectively to pensions, health, defense and education. Research shows both that the public is very misinformed on where their money goes, but that when they are well-informed they tend to be broadly supportive.
I have long favoured personal accounts that manage the many contributions to government and the many receipts people receive (and within government I developed quite a detailed plan for doing this which was never executed in the UK, though other countries, including Singapore and Denmark, have gone some way in this direction). This is partly to contribute further to transparency. But it also opens up many more ways to introduce flexibility in finance, for example with governments offering loans for university or first mortgages secured on lifetime earnings, can be far more efficient than separate systems for each kind of financing scheme.
Philanthropy and excessive wealth
In my book ‘The Locust and the Bee’ I suggested a radical solution to the profligacy that has accompanied the massive concentration of wealth over the last few decades. I argued that it is wasteful, unfair and socially damaging for the very rich to accumulate wealth far beyond their needs. Its effect is to tie up parts of the housing market in big cities and large stretches of land in ways that mean they provide very little value to anyone. The alternative I proposed would set thresholds on private-held wealth ‘while allowing freedom for privately directed wealth. In other words, over a set level wealth would be heavily taxed unless it was placed in a foundation for charitable investment. Recognition would be encouraged; profligacy would not.
This is a kind of wealth that also better fits the golden rule. We will willingly see some accumulation of wealth and recognition for hard work, luck, or talent. But nobody likes to see waste. This is also a solution that better fits the productive spirit of capitalism, which favors putting money to work rather than letting it lie idle. Such an approach—bringing wealth to life—might encourage a new era of patronage of the arts, of technological invention, and of social philanthropy. Donors would still benefit from recognition—and the status that comes from exuberant patronage. But the things they paid for would become a lived value for others.’
I argued that this would retain much of the incentive for entrepreneurship but without the wasteful downsides. This is probably still far too radical an idea for the times: but I continue to believe that any economy which encourages wealthy people to maintain dozens of homes and cars which they rarely use is profoundly inefficient. At some point norms will change. It would of course require some international alignment if the tax levels were to be at all high, though, taxes that targeted wealth over a given threshold ( eg at 1, 2 or 3%) would probably have relatively little effect in terms of pushing wealth offshore.
These are just a few of the elements of a possible tax reform agenda for the 2020s. No-one likes paying tax. But without a healthy tax base no society can thrive, and taxes can be a powerful tool to reduce socially damaging activities and encourage socially useful activities.
Three centuries ago Louis XIV’s finance minister Colbert famously commented that “the art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing.” That remains true today and getting tax right is one of the most important parts of the art of politics. Just saying ‘it’s too difficult’, as so many politicians do, isn’t good enough.