What we talk about when we talk about tax

At the heart of the Commission of Audit debate are competing ideological assumptions that should be teased out before voters are asked to decide “how far the Abbott cuts should go”.

Why? Because as well has having a lot to gain from the suggested reforms, Australia has more to lose than just about any country in the world.

The current phase of jumping up and down from the left condemns Tony Shepherd’s report as ‘right wing’, primarily because its main purpose is to ‘roll back the frontiers of the state’, as Maggie Thatcher might have put it. Well okay, that’s right-wing enough. But the modern Liberal Party (and the Nationals) contain many strains of right-leaning politics -- the cozy liberalism of Robert Menzies reinterpreted as classical-liberalism, conservatism, and the ‘neo’ forms of both.

Without getting too philosophical, the main ideological tension in the Shepherd report is between a theoretically elegant kind of neo-liberalism and a pragmatic old-fashioned style of conservatism (one suspects the two are constantly at war within the cranium of Tony Abbott).

The competing thoughts could be summed up simply in these two propositions:

–  the ‘dead hand’ of the state is preventing Australia fulfilling its economic potential, so big reforms are needed;

– we’re the richest buggers in the world, so let’s not fool around too much with the policy settings that got us here.

As argued previously, a lot of the explosive debate we’ll see in coming months will stem from a simple number -- ‘24’ is the number representing the first proposition and something like  ‘26’ matches the second.

That is, the Shepherd recommendations want to hit a target of 24 per cent of GDP for tax receipts, and ultimately cut expenditure to below 24 per cent to allow federal debt to be paid down and a small fiscal buffer be built up. That’s what John Howard’s government did, though as noted last week, his magic number was more like 25 per cent of GDP (the blue part of each column in the chart below).

It’s important to note that when we talk about Australia as a low-taxing country by OECD standards, the real picture is the total of state/local/federal taxes -- a bit over 30 per cent during the Howard years, and more like 27 per cent during the Rudd/Gillard years. State taxes account for around 4 per cent of GDP, and local taxes (rates) hover around 1 per cent of GDP.

Note too that ABS methodology means its tax figures vary somewhat from Treasury data in federal budgets, but essentially tell the same story -- a good long-run average is 30 per cent of GDP being spent by the public sector and the rest spent/saved by the private sector.

None of that is particularly controversial. But things do get heated on the right of politics when neo-liberals and old-fashioned conservatives attend the same barbeques.

“Why,” a Burkean-conservative might ask, “can’t we tax and spend at the same level Howard and Costello did? That seemed to work pretty well.” Political philosopher Edmund Burke, a key figure in the founding of the Anglo-American conservative tradition, had a profound respect for the wisdom of experience. If it works, conserve it. Or as we say today, if it ain’t broke, don’t fix it.

On the other side of the right, neo-liberal-style thinkers have argued doggedly over the past few years that it ‘is broke’ and needs fixing. That view is clearly shown in the charts in the Commission of Audit report (some of which appear in Alan Kohler’s Thursday article). Government expenditure is diverging from tax receipts, and left unchecked will produce unending deficits and a crippling national debt. It’s impossible to argue that’s not the case -- demographic trends, health costs and the pension make it so.

So the Burkean at the BBQ will be told by his/her neo-liberal interlocutor, “cutting is the only solution, because raising taxes to Howard-era levels will crimp private-sector demand and be a drag on the economy ... and could you pass me that prawn?”

Well, call me old-fashioned, but here I’m a little sceptical of the book-learnin’ behind the neo-liberal agenda. The intellectual traditions started by the likes of Friedrich Hayek and Milton Friedman are thrilling, sophisticated theories on paper, but in the real world have to be tested against the material facts. Which economies are doing best, and to what extent was ‘rolling back the frontiers of the state’ a key driver?

This is where it gets tricky. To settle the debate over whether we could be richer or not without the dead hand of the state on our shoulders, one needs a point of reference. There are several commonly used measures: GDP per capita, personal wealth per capita and more complex indices such as the ‘human development index’ used by United Nations economists.

Nominal GDP per capita isn’t much good, because when the terms of trade are skewed one way or the other, abnormal exchange rates give a false picture of how wealthy a county is. For that reason, GDP corrected for purchasing power parity (PPP) is a much better measure.

In Australia right now, we average 6th place in terms of nominal GDP across two data sets published by the World Bank and IMF. In PPP terms, we do worse. A key factor there is how expensive it is to rent/buy a house in Australia -- truck-loads of nominal dollars are needed to buy what in the US or Spain costs a lot less. On the World Bank and IMF scales we average 10th. Could do better.

So far, then, the neo-liberal (who, in a ‘greed is good’ tradition has eaten all the prawns) has a pretty strong argument. By taxing and spending too much -- thereby creating a bloated public sector -- in PPP terms we have fallen behind a long list of countries, including Singapore, the US, Switzerland and Canada.

It follows, does it not, that cutting tax receipts can only help us catch up? (Singapore’s total tax-to-GDP ratio is around 14 per cent, the US 27 per cent, Switzerland 29 per cent, and Canada 32 per cent).

Perhaps. The sceptical Burkean might hit back with the ‘human development index’, which factors in longevity (as a proxy for good health), educational attainment, gross national income and, in recent years, measures of inequality.

On that scale we jostle for the number one spot with Norway. Not 6th or 10th. Number one.

Add to that last year’s Credit Suisse survey that showed Australia having the highest median wealth per adult citizen of any nation, and we can pretty well boast that we’re the richest and most ‘developed’ population on earth.

Just imagine how rich we’d be if the dead hand of the state was lifted! There’d be enough prawns for everyone.