How much income tax did you pay last week, even within a few hundred dollars? You don’t know. Approximately how much GST did you pay last week? Again, you don’t know. Australians’ utter and rampant cluelessness about the amount of tax they pay is the single biggest reason our governments have ballooned to such monstrous and inefficient sizes.
“Fiscal illusion” is the reason voters do not have an apoplectic fit every time politicians proffer yet more open-ended, feckless spending schemes, that history shows are guaranteed to be delivered late and over budget.
By accident or perhaps design, governments have become masters of obscuring the true tax burden from voters, tricking them into seeing value in government spending where they should observe gross inefficiency. Keynes, whose name is routinely invoked to promote yet more spending, wrote in the 1920s that a level of taxation at 25 per cent of national income was probably “the maximum tolerable proportion”.
It is around one third today in Australia, and almost half in Europe. But Keynes may well have been right. Governments were far smaller then and yet to learn how to spend big and seem small.
When income tax was introduced in Australia in 1915 only the richest paid and even then only a rate of 3 per cent. Crucially, taxpayers received a bill from government and paid in a lump sum at the end of the financial year.
In 1942 government forced employers to withhold their workers’ income tax payments and send them directly to government – what we call PAYE in Australia. Now even the poor pay up to a third of their income in tax.
“The individual who does not have possession of income before paying it out cannot ‘sense’ the real cost of public services in a manner comparable to that experienced in a genuine act of out payment” writes James Buchanan, one economics Nobel laureate long seized of the impact of ‘fiscal illusion’.
The Treasury writes: “the PAYE system was more convenient for taxpayers, created a more even flow of revenue for government, and improved compliance as evasion was more difficult with income taxed at source”. More convenient for taxpayers, how considerate!
No decision has been more lethal to prudent government, here and elsewhere, than withholding workers’ income tax at source – an idea ironically pioneered by a young economist Milton Friedman in the United States Treasury in the 1940s.
Another masterly technique is to levy a small tax nominally meant to pay for something popular. The Medicare Levy, perhaps the biggest fraud on the Australian community, is levied at 1.5 percentage points on personal incomes but raises under $10 billion a year, around one sixth of the federal government’s rapidly growing total health spending. It has no connection with actual health spending whatsoever.
‘Company tax’, which is set to raise over $70 billion this financial year, is another classic. Companies pay as much tax as your pet does – zero. Dispassionate economic studies consistently shows that the burden of company tax falls mainly on workers through lower wages and greater unemployment. Shareholders suffer lower dividends and consumers pay higher prices too.
Given a choice, why are politicians drawn to lifting rates of consumption tax, such as Australia’s GST, rather than income tax? The cost of paying a consumption tax is overwhelmed by satisfaction of buying goods or services.
“The individual is likely to be quite ignorant of the amount of [consumption] tax that is paid, and in some cases unaware of the tax altogether especially when it has existed a long time” Buchanan writes.
Economists rightly moan about Australia’s massive stamp duties on property transfers, which cripple labour mobility and stifle sensible exchanges of assets. But it makes perfect sense for bloated governments to levy taxes on transactions that bring joy, in turn swamps any pain from paying the tax.
Australian governments extract over $400 billion a year in tax – around $17,500 for every man, woman and child – but few people ever actively transfer a cent to the government’s bank account. Australia’s having over 120 taxes may be irrational, but it ensures taxpayers can only calculate their own contribution tax with great difficulty.
Imagine if nothing changed except the manner of tax collection. Rather than being “considerately” relieved of your earnings before you receive them, at the end of the year the government sends you a bill for between and third and near a half of your annual earnings to the government.
Imagine also if every few months the government sent you a bill for 10 per cent the value of everything you had bought.
If the government cannot raise the same amount of tax perhaps the existing system is immoral.
If the Medicare Levy were a genuine reflection of Australia’s spiralling health costs and the rate commensurately adjusted every quarter. Would the Gillard government’s plan to expand public dentistry be so popular?
The best taxes are not necessarily ‘efficient’ ones but simple, clear, salient ones.
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