National’s tax cuts: Prior to the release

It now appears that National is going to scale back its tax cuts (ht Big News, Kiwiblog, The Standard) – stating that poor economic conditions have made larger cuts uneconomical. There are two ways I can read this:

  1. The economy is only temporarily weaker so we can cut taxes more later,
  2. The economy is structurally weaker than we expected but the level of spending we want to make is unchanged, therefore we cannot cut taxes as much,

The first way doesn’t make sense (as tax rates should be independent of the economic cycle, they are “structural”). We have discussed this before here.

The second reason is defensible, but if this is the case then the structure of their package seems a bit strange. They still want to give the $50 a week tax cut to an average person worker, so they are reducing the tax cut to high income earners. This will increase the progressiveness of the tax system further, which may increase equity but will definitely reduce economic efficiency (relative to a flat tax cut scheme – as it increases effective marginal tax rates).

Given that Labour states that focusing on equity is one of their primary goals, and National has been stating that it will improve economic efficiency, this sounds more like a Labour party policy than a National party policy. How can National say that it is going to “grow the economy” compared to Labour, when its tax policy does not add any growth impetus and its spending policy is pretty much the same?

If National is differentiating themselves from Labour, then I think they need to advertise it because I can’t see the difference. (Apart from the fact that National said they won’t mess with the Reserve Bank Act – for an economist that is a big issue where I think National wins, but I don’t imagine this will get non-economists particularly excited).

Of course, we will have more details about the potential for National’s tax policy to “grow growth” once it is release. Once the policy is out we will comment on whether National is threatening to be as fiscally irresponsible as Labour has been – by the sounds of things it appears that the demands of politics will lead them down that way.

  • adamsmith1922

    I suspect that the approach may be more politically sound than economically sound.

    Labour have managed to confuse the electorate and National over this point, coupled with the fact that much of the population is over dosing on middle class welfare. Many regard any reduction in public spending as evil, further they do not accept that there are spending quality issue.

    Yet in Aussie some commentators suggest Rudd should move to get rid og middle class welfare

    http://adamsmith.wordpress.com/2008/10/07/7947/

  • “Many regard any reduction in public spending as evil, further they do not accept that there are spending quality issue”

    Indeed, I completely agree. However, I am not sure that National really has a plan for “improving the quality of government spending”. Call me cynical, but I think the institutional structure of many government departments isn’t suited for the efficient use of funds.

    If National came out with policies that said “we will increase the transparency of government spending” and actually said what they were (Treasury showing some key statistics, quantifying outcomes) then I think that would provide a substantial boost to their credentials as economic managers.

    “Labour have managed to confuse the electorate and National over this point”

    I agree that Labour have “spun” the issue. However, I think the electorate understands the point better than we often give them credit for. Labour says the trade-off is 10c for a doctor – National needs to show that they are exaggerating the trade-off and then let the electorate make their own choice.

  • Steve Pierson

    It’s average worker, Matt, not average person. Average person’s income is 27K from memory, average worker 46K.. and the medians are lower than that too. National will be targeting just the average worker, probably lifting that 33cent threshold or cutting the 33cent rate. Everyone beneath that threshold already, ie most taxpayers, will get nothing.

  • “It’s average worker, Matt, not average person”

    Agreed – sloppy writing on my part. I fixed it in the post

  • “Everyone beneath that threshold already, ie most taxpayers, will get nothing.”

    It isn’t a lolly scramble – the government isn’t “giving” people money, they are just reducing the amount of the surplus they extract from the production process between workers and capital.

    I think someone should tax a look at the average tax intake per person per income bracket and the average government spending on those tax brackets – that would be interesting.

  • What would be really radical and, with a lot of work, cost-neutral would be to incorporate the working for families payouts into tax allowances. So, for example, a family gets, say, a $5,000 tax allowance for the first child… and so on. This would have the advantage of being totally transparent and, if applied to everyone, would go a long way towards reducing the high marginal tax rate problem.

    It would also greatly reduce the bureaucracy associated with working for families.

    I’m not an economist. So this may be a stupid idea. But I’ve always thought family tax allowances are a much neater way of delivering the right mix of support and incentives.

  • “This would have the advantage of being totally transparent and, if applied to everyone, would go a long way towards reducing the high marginal tax rate problem”

    True, it would solve the EMTR problem because without abatement you don’t need to worry about abatement rates 🙂

    There are two issues I would keep in mind with this sort of policy though:

    1) Participation: Extra transfers will reduce participation rates.
    2) Cost: A scheme that is universal will be costly

    The thing I like about your scheme though is the transparency – you are saying that there is some positive externality to having a child (that is valued at $5,000) and you are correcting for that. It is clear what the policy is, and what instrument you are using to achieve it.

    In a sense it reminds me of the GMI (guaranteed minimum income) concept for income taxes.

    http://en.wikipedia.org/wiki/Guaranteed_minimum_income

    This type of policy is very popular among many economists.

    “I’m not an economist. So this may be a stupid idea. ”

    Trust me, economists constantly have stupid ideas. Not being an economist does not disadvantage you in any way 🙂