One of the more prominent entries into the public policy debate of late has been the Grattan Institute’s Game Changers report, which is an attempt to prioritise the various reform options that the federal government could pursue, and highlight those policies which would deliver the greatest economic dividend. It’s a worthy report, although I disagree with much of it, partly for the reasons set out by John Quiggin.
In the wake of the report’s release, the CEO of the Grattan Institute has been on a roadshow to promote it, including recent events with Paul Kelly in Sydney and George Megalogenis in Melbourne. I’ve listened to the podcast of the Sydney event, and one of Daley’s arguments in particular rankled with me. Daley repeatedly claimed that equity shouldn’t be a consideration when you’re designing a tax system, and that instead you should leave redistribution purely to the welfare system. In Mr Daley’s own words:
One of the things that Ken Henry articulated really clearly, and I think very well, in his address to the tax forum last year, was to say ‘do not try and engineer regressiveness or progressiveness through the tax system. The purpose of the tax system is to collect tax. The purpose of the welfare system is to deal with regressiveness.’”
I strongly disagree with this and I think it misrepresents Ken Henry’s comments.
At the Tax Forum, Ken Henry suggested that fairness shouldn’t be a consideration for each and every component of the tax system. He did not suggest that equity should be ignored when you’re designing a tax system, and should instead be left to the welfare system.
Here’s a quote from Ken Henry’s speech that John Daley referred to:
…the fairness of a tax and transfer system should be assessed in respect of the incidence of the system as a whole. More importantly, there is a very strong argument for insisting, as the review panel did, that equity objectives should be pursued only through the personal income tax and transfer system obviously taking full account of the incidence of various other components of the tax system but not affecting the design of those other components of the system. [emphasis added]
See that? Dr Henry isn’t suggesting that equity should be left to the transfer system, but that it should be left to the personal income tax and transfer systems. Big difference. He also says that you should design the personal income tax and transfer systems “taking full account of the incidence” of other elements of the tax system. What this means is that if the rest of the tax system were to become more regressive, say by an increasing emphasis on consumption taxes, then you might want to make the personal tax and transfer systems more progressive to offset that.
The tax review that bears Ken Henry’s name doesn’t come close to claiming that progressivity should be left to the welfare system and ignored when it comes to taxes. Instead, equity is the first design principle that the Review identified:
The tax and transfer system should treat individuals with similar economic capacity in the same way, while those with greater capacity should bear a greater net burden, or benefit less in the case of net transfers. This burden should change more than in proportion to the change in capacity. That is, the overall system should be progressive. Considerations about the equity of the system also need to take into account exposure to complexity and the distribution of compliance costs and risk.
Leaving equity solely to the welfare system wouldn’t accord with this principle. Instead, under a system that let welfare do all the redistribution, the tax and transfer systems would only be progressive up to the income level at which individuals ceased to be entitled to transfer payments, beyond which the system would be proportional or regressive. There are reasons to think this would be undesirable even on efficiency grounds, and its effect on equity would be to dramatically increase inequality of disposable incomes.
I hope I’ve misunderstood John Daley’s comments, but the fact that he repeated them a couple of times makes me think that I haven’t.