A historic tax increase signals Australia's new direction

For all of Joe Hockey’s warnings that the age of entitlements is over and that his first budget will begin the painful process of winding back entitlements like the age pension and family support payments, the most significant government leak about what may be in the budget is the proposal for a  temporary income tax ‘levy’.

The fact is that the levy, which would be set at 1 per cent for people earning more than $80,000 and 2 per cent earning more than $180,000, is in reality an increase in income tax.

Even if the government argues that it is only temporary and will be abolished when the deficit is under control -- whatever that means -- the fact that a Coalition government is contemplating a tax increase is of historic importance.

For at least the past 30 years, governments in Australia have operated on the basis that any increase in taxes is political poison. Indeed both Labor and Coalition governments have been in the business of delivering tax cuts, not just income tax cuts but company tax cuts and cuts in capital gains taxes.

The fact that the Abbott government is now contemplating an income tax increase is both surprising and illuminating.

It is not clear just why Tony Abbott and Joe Hockey would countenance an income tax increase when their political rhetoric -- and some would argue their success at the last election -- has been about lowering taxes and getting rid of taxes like the mining tax.

It is not about deficit reduction. What it represents is a dawning recognition, that liberal capitalist economies have a fundamental revenue problem and that the problem is structural and likely to become more acute over time.

The era of low taxes and tax cuts may well be over and if that’s true, the ‘temporary levy’ in the budget -- if the government holds its nerve -- will inevitably be a permanent tax increase.

This comes at a time when there is a major debate amongst economists, certainly in Europe and America and amongst commentators on the left and the right -- not so much about the reality of rising inequality in modern capitalist societies, for there is widespread agreement that inequality is increasing at alarming rates -- but over the causes of this inequality and what should be done to address it.

I am not sure whether the senior economists in Treasury and the Reserve Bank, the industry economists at our banks and industry groups and academic economists have read Capital in the Twenty-First Century by the French economist Thomas Piketty, but it would be surprising if many of them haven’t read it.

Certainly in America and in Europe, Piketty’s book has led to furious arguments about the future of liberal capitalism.

In the US, Nobel Prize winning economists Paul Krugman and Robert Solow have reviewed the book and have both agreed that it is a landmark work. It will, they argue, fundamentally change the debate about the future of capitalism.

That may be true, but what is remarkable about Piketty’s book is how quickly it has become essential reading for pundits and commentators in newspapers and think tanks and amongst the political class. Across the political spectrum.

Like many of these commentators and pundits, I have not read the whole of Piketty’s book, but I have read extracts and it is clear that as good as the book may be, its impact is as much about timing as anything else.

I am not an economist and will not pretend to understand the Piketty thesis in all its complexity, but on one level, what he is arguing is relatively easy to summarise.

Piketty argues that far from being a recent development, economic inequality, where the owners of capital are progressively fewer in number and control an increasing share of national wealth and income, is a long-term characteristic of capitalism.

According to Piketty, this trend towards what Paul Krugman has labeled a new Gilded Age was interrupted and even reversed from time to time by major cataclysmic events like the two world wars, but this trend is inexorable and inequality is on the march once again.

Modern democratic market economies are headed towards a level of income inequality not seen since the 19th century. And the ownership of wealth -- in part because it can be passed on tax free from generation to generation -- will be more and more concentrated in the hands of family dynasties.

You can see why this sort of stuff might exercise the minds of ideological warriors of the left and right -- on the left, there are those who reckon Piketty has sounded the death knell for capitalism and on the right, he has been labeled just another Marxist peddling a discredited form of socialism.

But it is interesting that some conservative thinkers -- some of them believers in small government and low taxes -- are seriously engaged with Piketty’s analysis of capitalism and where capitalism may be heading.

It is meaningful that commentators like David Brooks in The New York Times accepts much of Piketty’s  analysis of inequality in  modern capitalism. What he doesn’t accept are Piketty’s policy proposals.

Piketty argues that the only way to ameliorate the accelerating trend towards an increasingly impoverished middle class and of wealth concentrated in the hands of a relatively few family dynasties, is an international agreement for a global wealth tax.

No conservative would accept such a sweeping proposal, though Brooks, in a throwaway line in one of his columns, argues that Picketty has made the case for “a beefed up inheritance tax.”

The debate about inequality and its consequences is heating up in America and in Europe, in part because of Piketty’s book, but that debate has hardly started in Australia. It will undoubtedly happen.

Tony Abbott and Joe Hockey, by suggesting that there might be an income tax hike for some people in the budget, have implicitly told us that the ideology of lower and ever lowering taxes is dead. The challenges of declining revenues have to be addressed and this might involve new taxes and tax increases.

The ‘temporary levy’ is a small and timid first step in this process what’s more, if Picketty is right,  income tax increases are entirely the wrong way to go. So is there a conservative in Australia -- in government or amongst commentators -- like David Brooks, who would argue that at the very least, taxes on capital gains need to be looked at and that some form of inheritance taxes should be on the agenda?

As tentative as the suggestion of a temporary increase in income tax may be, Tony Abbott and Joe Hockey have opened up the possibility of a real debate about inequality and its political and economic consequences.

If the levy is introduced, it will represent a broken promise, and so it’s inevitable that Labor will focus on that and the broken promise slogan that Tony Abbott used so effectively against Gillard will now be employed by Bill Shorten against Abbott.

Fair enough, but eventually Shorten and the Labor Party need to think about what increasing income inequality and the development of a tiny elite, most of it made up of family dynasties, means for a progressive political party.

It is the greatest challenge facing Shorten and the Labor Party.