There is considerable media speculation that the Federal government is considering raising the GST rate to 15% and possibly broadening its base in return for personal tax cuts for low- and middle-income earners. An example of this speculation can be found here. It is claimed that this scenario is one of the options under consideration in the Federal government’s Better Tax Review.
But is it the best option? As Christopher Findlay and I argued in our recent article in The Australian (available here), governments should raise the revenues they need through taxes that distort the choices of their citizens least – in economist’s jargon, taxes which generate the least “excess burden” per $1 of tax revenue raised. We estimate that the current total excess burden that we bear is at least $70 billion per annum – about 29 cents per $1 of tax raised. Therefore, if tax reforms can reduce that total excess burden, they are certainly worth considering. To do so, we should replace existing taxes with high marginal excess burdens (MEBs), such as stamp duties, with taxes that have the lowest MEBs.
Broadening the bases on existing taxes (eg., by extending the current GST to health and fresh food and by removing land tax exemptions for some) has the least (in fact, a negative) excess burden, as it corrects for the distortions to our choices that taxing some of our purchases and not others already cause. However, unless the rationale for doing so is explained well and citizens in need are catered for, it is politically difficult to do.
Taxes on incomes from immobile resources (e.g., land) have the next-lowest MEBs. Raising the GST rate has a moderate MEB. But as it is not the lowest, it should not be the first cab off the rank.
While personal taxes have a high MEB that the GST on average, the MEB is likely to be lower at low personal tax rates; therefore, swapping a higher GST rate for lower personal tax rates for low- and -middle-income earners may not reduce the total excess burden by much, if at all.
Whenever economists argue that health and fresh food should be taxed or that we shouldn’t cut personal tax rates for low-income earners, they are met with howls that they don’t care about citizens in need. This confuses means and ends. I, like many economists, believe in the end of helping citizens in need much more than we do now. However, that is best done through direct, targeted means (e.g., direct income support) than through the tax system. By reforming the tax system to minimise its total excess burden and at the same time improving our direct support of citizens in need, we can get the best of both worlds – we’ll all be better-off, including citizens in need.