Five points on the income tax cut debate

The debate about income tax reduction is getting a bit silly — as these things tend to do when it becomes a partisan political matter. So I wanted to bring some facts to the discussion.

1/ The tax take has been growing fast: between 2011 and now the tax take has grown much more quickly than compensation of employees. This is something the RBA’s Luci Ellis noted on 26 March, in her speech What’s up (and Down) with Households.

2/ Average tax rates have gone up a LOT: the chart below shows a simple approximation of the average rate of income tax (from ABS 5206 table 20). It’s not exact, and misses a few things, but it’s a good approximation. As you can see, the average rate of income tax went up a lot in the 30 years between 1960 and 1990, peaked at ~28%, and has since cycled between ~21% and ~27%.

Due to the faster growth of taxation over the past eight years, the average effective tax rate has increased by ~5 percentage points of income to ~26%.

3/ Bracket creep is a bigger deal than you think: To give you an idea of how important the increase in the general level of wages (mostly due to inflation) is over time, I’ve used the ABS’s Average Weekly Earnings report (ABS 6302) to calculate the average rate of income tax that would have been historically payable under the 2018/19 tax schedules.

Holding the tax system constant for the past ~25 years you can see that the rate of income tax paid by the average earner would have risen by ~13 percentage points to ~21%. So constant inflation of the tax schedules is needed to keep the incidence of taxation rising over time. That’s what’s being debated right now.

4/ This is affordable: while I laughed* at sections of the budget papers — it is true that this is affordable. What’s being discussed is a policy to basically hold the tax take stable at a rate that’s a little above the current level. You might have a problem with the distribution of the tax cuts, but the case for aggregate tax relief seems pretty sound to me.

*I laughed at the claim that this budget is ‘locking in lower tax rates’ and a ‘structural reform to deliver permanently lower taxes’. It is true that these changes will stop the average rate of income tax from rising for a time … but eventually the average person will make 200k. Only indexing the threshold would ‘lock it in’.

5/ The budget should be moved into structural deficit in a downturn: concerns about fiscal sustainability strain credibility — particularly when they come from people who (appropriately) drove the budget into structural deficit in the prior downturn. When harsh winds blow, you should move the fiscal stance into structural deficit. That’s what we did in 2008, and it was helpful. If you are worried about the outlook, you should be open to doing so once again.

So, if you were really worried about the outlook, you wouldn’t be worried about tax cuts that merely leave the budget in structural surplus over the forward estimates. Those who have genuine concern about keeping people in jobs should be in favour of deeper tax cuts. This is a serious issue: unemployment ruins health, breaks up families, and in some sad cases ends lives.