Sunday, February 10, 2013

Osborne is having a Laffer at us

As a break from the climate debate, I have been looking at the Laffer Curve.

This April, Osborne will cut the top rate of tax in the UK from 50% (50p in the £) to 45%. This will drop the tax take by some £3bn, so he will take £1bn back from pensioners, in the form of the Granny Tax. B*stard.

Osborne's reasoning is found here: "the 50p tax rate has caused massive distortions. HMRC find that an astonishing £16 billion of income was deliberately shifted into the previous tax year – at a cost to the taxpayer of £1 billion".

O dear. The poor little rich boys are doing tax avoidance, so we must not tax them so much.

He also argues that the 50p rate is highest in the G20, so it makes the UK uncompetitive. I'll have to check to see if this is right, because we cannot trust this Government to tell the truth. If it does turn out to be true, this is an argument for persuading the rest of the G20 to increase their rate, not for lowering ours. There is such a thing as a race to the bottom.

Underlying the Tories' tax reduction argument is the Laffer Curve, which is simple enough to understand.

If the tax rate is zero, government gets nothing. If it is 100%, everyone goes back to barter, and the government again gets nothing. Somewhere between these points is the optimum return for the Government. As the curve is drawn here, it looks like 50%, and given how thick politicians can be, that may be the reason the top rate was set at 50% in the UK. 

In fact, studies show (Paywall) that the optimum return is in the region of 70%. It looks more like this:

So there is no reason that the top rate of tax should not be advanced towards 75%  in the UK, providing it is allied with measures to stop tax evasion and avoidance, and efforts to get competitor countries to do likewise.

That's it. Back to the climate debate.


soft centre said...

The Laffer curve idea is ridiculously simplistic. The Reagan and Dubya Bush administrations both based their tax policy on it and ended up with record deficits.

Logic says if hardworking entrepeneurs are motivated solely by money they'll work even harder the more you tax them.

DocRichard said...

Thanks soft centre.
I have a post on homelessness here: