Image above by MartialArtsNomad.com
Leith van Onselen had a piece up yesterday countering a piece by Alan Kohler.
Now, commentating on a commentator who is commentating on a commentator who is commentating on rumors that a deficit levy may be introduced in the upcoming budget, where those same rumors include the fact that the Greens & Labor are likely to block any such change may seem a little pointless, but since I can smell a land tax argument coming, let’s have a peek.
The gory details:
extra 1 % tax on those earning over $80k p.a.
extra 2 % tax on those earning over $180k p.a.
Not being privy to the content behind the Business Spectator paywall, the main take away for me from the quote provided by Leith is that Alan would very much like to see a reduction in the middle-class welfare and tax cuts made by John Howard.
Alan Kohler,
The permanent income tax cuts and increased middle-class welfare given by John Howard during the temporary mining boom were reckless and now need to be reversed by his Coalition successor…
In my affordable housing submission, one of the points I made is that if you removed just one of the middle class welfare handouts (well, probably lower to middle class welfare) being the family tax benefit, you would save around $20.3 billion during 2013-14 which would then cover your $18.0 billion fiscal deficit for 2013-14.
And why is it difficult to eliminate the family tax benefit? Because we don’t have affordable housing, yet.
Anyway, let’s cut to the chase. Leith van Onselen says,
The first best solution is to shift Australia’s tax base away from productive enterprise (both individuals and companies) towards more efficient sources, such as land, resources and consumption. According to the Henry Tax Review, the marginal excess burden (i.e. the loss in consumer welfare relative to the net gain in government revenue) from the GST is just 8%, whereas it is near zero for taxes on land and resources. They also compare very favourably against the two biggest current sources of tax revenue – personal income tax (24% marginal excess burden) and company taxes (40% marginal excess burden) – offering the nation large productivity pay-offs from fundamental tax reform.
The Henry Tax Review link above goes to this KPMG report on the treasury website which is where the following bar graph comes from that appeared below the quote above on Leith’s post.
Now, what does the above say?
It says it was made by KPMG and marginal excess burdens sound bad and since the Petroleum Resource Rent Tax (PRRT) has less of them, a PRRT is probably better than corporate and labour incomes taxes.
As with all pro land tax arguments, the fall back position is the Henry Tax Review, or in this case a KPMG report for Treasury.
So to make this KPMG report an effective tool for a pro land tax argument you want to show four things.
- That a marginal excess burden is a bad thing.
- That the economic incidence of a tax matters.
- That the marginal excess burden of a labour tax is higher than a land tax.
- That a labour tax has a higher economic incidence than a land tax.
Let’s hear it from KPMG, page 17, on economic incidence:
The study also identifies the incidence of (or “who really pays”) each tax. The party paying a tax, and so carrying its impact, is sometimes different from the party who actually bears the final burden or incidence of a tax, after economic responses. For example, while company tax is collected from businesses, a business may pass the burden of the tax on to households through higher prices or lower wages. In that case, while the business would carry the impact of the tax, households would bear its economic incidence.
While a landlord who owns both a residential property leased to a tenant and a retail shop leased to a business may pay land tax, that tax can be passed on by the landlord to the residential tenant via rent and the landlord can pass the land tax to the business via rent and the business can then pass the tax to consumers via prices, thereby making the land tax payable to labour whether the labourer is trying to pay his rent or pay for his bread and milk at the local corner store.
Page 48:
Do you really think if all petroleum resource companies in Australia are paying a PRRT they will not pass it on to consumers in some way?
Do you really believe that when you pay your council rates (land tax) it is not coming out of your after tax income and directly reducing your ability to buy things?
Now for the marginal excess burden (MEB):
More specifically, the excess burden is defined as the reduction in welfare from imposing or raising a tax, after the additional tax revenue has been returned to individuals as a lump-sum payment (welfare is defined as the collective level of utility of Australian households, where the utility of each household is determined by the commodities and leisure they consume).
What is the marginal excess burden for land taxes and labour income taxes?
KPMG Econtech estimates that MEB is 8 cents in the dollar for land taxes (page 52) and 24 cents for labour income taxes (page 60).
Does KPMG Econtech show caculations for the above? No.
The formula they give is
KPMG are just giving us EB as 8 cents and 24 cents, rearranging the formula to find change in welfare gives EB x change in tax revenue.
So if we collect an additional dollar in tax revenue from a land tax and times it by 0.08 we have an excess burden of -0.08 or negative 8 cents.
And for and additional dollar of income tax times 0.24 gives a reduction in welfare of 24 cents.
However, since we know that if you have to pay an extra dollar in tax from your income tax, your ability to spend money on ipads and iphones reduces by a whole dollar, not 24 cents and if you have to pay an extra dollar in land tax you have one less dollar to buy ipads and iphones, or if your landlord passes the extra dollar increase in land tax to you via your next rental increase your ability to buy iphones and ipads is still reduced by a whole dollar, what on earth are they going on about?
Since the definition of “change in tax revenue” above also includes changes in tax revenue from second order effects from any change in tax, we learn that everything will be revealed from their computer model, namely, the MM900.
There are no working examples in the report of marginal excess burden or excess burden being calculated first hand, we are asked to believe that their computer model can work it out, correctly.
Let’s look at some assumptions going into their computer model.
For example, higher labour income tax directly reduces the real after-tax wage, reducing the economic return to work. This leads to lower labour supply, but higher leisure. Lower labour supply leads to lower incomes, reducing levels of consumption and saving. Page 31
If your tax rate increases by 1%, can you choose to work one hour less per week? If your tax rate decreases by 1% can you choose to work one hour extra per week?
If all tax rates in Australia across all income brackets increase by 1% are we all going to work 1 hour less per week, thereby reducing GDP?
No. Well in the MM900 anything is possible.
Any tax placed on a type of land will not change the supply of that land. With the fixed supply of land to the market, the land rents that users will be prepared to pay will be unaffected by the tax. This means that the burden of the tax will be fully borne by the land owners. Page 35
Where does this magical ability come from that allows a land tax to not be passed on to someone else?
Residential land owners are either home owners paying the land tax out of their after tax wage, thereby placing the tax on labour and reducing their ability to buy goods and services in the economy (their welfare), or they are landlords and the land tax increase can still flow through to the price for rentals.
If landlords all choose to sell their properties because they can’t pass on the increased land tax then only home owners would own residential property and they would all be paying the land tax out of their after tax wage, thereby reducing their welfare.
Hello David. Thanks for this interesting take, but I have two points:
1. Rents will fall under a land tax. Huge quantities of land are currently hoarded by developers and others looking to leach capital gains; a land tax will force this land to be sold to people who will use it. Land is also hoarded by state and federal governments; the prospect of getting tax revenue for it will push it into circulation also. Owners of empty and unused rooms and properties will also be more likely to make them available.
Higher supply and unchanged demand will mean lower prices whether landlords like it or not. Some landowners who rely on rent and/or the phony wealth attached to the paper value of land may take a bath, but land tax will present a huge relief and opportunity for everyone else. It will be a chance for all of us to spend on things other than mortgage debt, which will stimulate the productive economy.
2. The MEB of land vs labour tax are not equivalent. The MEB cost of labour tax is explicitly in the disincentive it creates for work. Land tax creates no such disincentive, and insofar as it affects the availability of land, it does so positively as noted.
Thank you for your comment, Mark.
Firstly, I don’t hold the view that a labour tax has to create a disincentive to work. With our current system in Australia, I would assume there is some disincentive regarding going up into the next income bracket. But to me, the simplest solution is to move toward a flat labour tax.
If we switched to the majority of our tax revenue coming from land tax, we still need to gather the same amount of money as we were from the previous taxes to meet the annual spending commitments of our Government.
When speaking with a proponent of land tax recently, he stated that wages and rents go hand in hand. When wages decline so do rents and vice versa. He had references for that view but I haven’t looked into it yet.
If our after-tax wages increased because of the introduction of a land tax, we would have more money free to lease better rentals, which would increase demand. But there would also be more supply as you mentioned because people would be more likely to sell their properties due to the increased land tax.
Hence, for me, it’s unclear whether rents would ultimately rise or fall by switching to a land tax.
As for land tax creating no disincentive to work, that point would become irrelevant if we had a flat tax.