Governments claim to base economic policies on principle, yet results often betray muddled guesswork. Principles have been established for centuries.
It is senseless to impose a tax that renders a marginal business unviable – the yield from that business would be zero. Similarly, since tax rates of 0% or 100% yield no revenue it is important to find rates that optimise yield. It is equally principled that, following a grant of planning permission, a share of the rise in land value should go to the local communities to pay for the infrastructure that makes the planning gain deliverable.
The principle underlying all this – tax should reflect ability to pay – was understood by Adam Smith, who abhorred the idea of tax by stealth. He wrote: “The subjects of every state ought to contribute towards the support of the government …… in proportion to their respective abilities. The tax which each individual is bound to pay ought to be certain, and not arbitrary”.
A morass of tax rules
Our society is far more complex but that hardly justifies the barely comprehensible fiscal dog’s breakfast that we contend with today – primary legislation, over 8,300 pages, has doubled over the past decade.
This maze conceals the scale of Britain’s tax burden which jumped 1.2 percentage points last year to reach 37.2% of GDP compared with 26.8% in America.
Advocating principle is fine but it is useless without a receptive ear. Over 25 years ago I was lucky enough to find myself sitting next to The Honourable Al Ullman, Chairman of the Ways and Means Committee of the US House of Representatives, and Democrat Member for Oregon.
In 1980 we were both honoured with awards “for distinguished services” from the Hartford University Centre for Study of Professional Accounting – in his case for services in the field of taxation, in mine for authorship.
Ullman was then steering his “Tax Restructuring Act 1979” through formal hearings. The Act’s purpose was to restructure the federal tax system by introducing Value Added Tax. He asked me what I thought of VAT after experiencing it in the UK. My response took him by surprise.
I told him that VAT was a disastrous tax that pushed up prices by more than the tax; that it was inherently inflationary; imposed a huge burden on businesses required to administer it; would spawn a massive sub-economy of fraudulent trading; and that its differential rates were a classical instance of government interference in peoples’ normal spending preferences.
Saving USA from VAT
He listened, nodded and invited me to Washington to be grilled by his own team of Ivy League economists. “If you can persuade them, they’ll persuade me!” Two days later I flew to Washington to meet Al’s think-tank – a formidable bunch who had familiarised themselves with VAT legislation, wherever enacted.
Yet they missed the principle: VAT is not a tax on value added. Although calculated by reference to inputs and outputs, the effect of passing it on down the production chain results in it being borne by the only party that adds no value – the final consumer.
To distinguish good from bad taxes, it is critical to recognise the difference between the mechanics of a tax and its incidence. I explained that a genuine tax on added value was what they should be introducing: added value alone reflects taxable capacity (ability to pay). It is neutral regarding employment, which it treats as a “share” rather than a “cost”.
Al recognised the principle. My adventure in Washington ended when he held up his copy of the Act, ripped it in half and declared: “This is an important day. America will be spared VAT – I always felt there was something wrong with that tax!”
At the next election Al lost his seat in Oregon and died a few years later. It is rare to find a politician interested in principle. He was such a man.