Thursday 9 June 2022

Faith-based economics


It is an article of faith for the Conservative and Unionist Party that the answer to all problems is to cut taxes, by which they really mean taxes on income, whether personal (income tax) or corporate (corporation tax). So when inflation is high, the solution is to cut taxes so people have more money to pay the bills, and if there is deflation, the solution is to cut taxes so people have more money to spend. If the Tory Party is united, it’s time to cut taxes, and if it’s divided it can magically be reunited by cutting taxes. The possible inconsistency in arguing that the same solution can be applied to diametrically opposite problems can safely be ignored – we are, after all, talking faith not fact here.

What they never mention is the caveats and corollaries which come with tax cuts. The first, and most obvious, of those is that income tax cuts only benefit those who pay tax in the first place. Many of those who are struggling the most in the face of rising fuel and food costs are on incomes so low that they pay little or no income tax; a cut of 1% of nothing is still nothing. Conversely, those who pay the most £s in tax gain the most pennies back if the rate is cut – who would ever have expected that a Tory policy would provide its greatest benefits to the most well-off? The second is that another of their articles of faith (equally poorly grounded in fact) is that government expenditure must be limited by the amount of tax revenues received; tax cuts must therefore also lead to spending cuts. It is, again, not exactly a coincidence that those most impacted by cuts in government spending will be those least able to fund alternatives.

When it comes to corporate taxes, their argument is that businesses which retain more of their profit will have more money available to invest, and that investment drives growth. Whilst investment can indeed drive growth, the evidence that businesses with greater retained profits will invest that extra cash is not exactly overwhelming. Many will simply choose to give that money to their shareholders, in extra dividends or share buy backs, having effectively externalised the costs of the public services which they use by passing them on to the rest of us. If there were good investment opportunities available, which would produce a better return than keeping the money in the bank or returning it to shareholders, they would be making the investment anyway, and borrowing the money to do so. And it is often the businesses which are struggling, for whatever reason, which most need to invest in new products, equipment, or processes; businesses which make little or no profit do not benefit from cutting taxes on profits. The people who do are shareholders – who would ever have expected that a Tory policy would provide its greatest benefits to the most well-off?

There is another article of the Tory faith worth referring to here – and that is the infamous Laffer Curve. This purports to show that there comes a point where tax increases have a negative impact on government revenues because people are incentivised to find ever more creative ways of avoiding or evading tax. For those who follow the true faith, this ‘proves’ that tax cuts can lead, counter-intuitively, to increased government revenue. There is just one problem. There is no – zero, zilch, nada – empirical evidence to support the Laffer Curve theory. It's junk economics, especially in the way the Tories seek to apply it. Indeed, such research as has been done tends to support the rather more blindingly obvious, and completely intuitive, conclusion that a government which cuts tax rates will end up collecting less money.

It is, unfortunately, far from unique in the history of man and economics to discover that a government basing its economics on articles of faith rather than empirical facts ends up pursuing policies which somehow, miraculously and entirely coincidentally of course, end up benefiting its own supporters.

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