We can’t balance the books by taxing the wealthy

Expecting the rich to pay for the cost of lockdowns could backfire disastrously if revenues simply shrink

How to pay for Covid? The question has to be asked at some stage, even if in the midst of an ongoing pandemic it cannot be the Government’s uppermost concern. Continued fiscal support for the economy must for now take priority.

But with the promise of an effective vaccine, and therefore return to a kind of normalcy sometime next year, it is nonetheless one that demands attention.

Already we are seeing some quite unnerving suggestions, including a tax raid on capital gains from the Orwellian-sounding Office of Tax Simplification, and a whole raft of proposals for tax increases by the Left-leaning Resolution Foundation think tank. Both focus much of their attention on the most obvious target – the wealthy and the better off.

No doubt many of these could indeed “afford” to pay more without much of an adjustment to their lifestyles, but that’s not the point. If the economy is to stand any chance of climbing out of the hole that lockdown strategies have dug for it, the focus must be wealth creation, not confiscation.

Tax reform that undermines growth merely leaves the Exchequer with a greater share of a shrinking pie, and is therefore ultimately at best a zero sum game – a levelling-down agenda rather than a levelling-up, or as Winston Churchill famously called it, “the equalisation of misery”.

Tax reform that stimulates growth is of course the holy grail of all Chancellors; few succeed. But on the whole, it is perhaps best not to start by attacking your wealth creators.

A tax system that is ever more reliant on a relatively small group of the better off, with not much interest in the system of entitlements they are paying for, is, moreover, eventually likely to become quite unstable. It’s a “bread and circuses” form of construct, which in time will lose its democratic legitimacy.

Analysis of income tax payments by HM Revenue and Customs shows that, in 2017/18, nearly a third of all income tax was paid by just 417,000 individuals earning £150,000 a year or more – a tiny, 1.3 per cent of all income tax payers.

Around 43 per cent of UK adults pay no income tax at all. The position is starker still on the Continent, where more than half of residents in both France and Germany pay no income tax.

These statistics do, admittedly, give a slightly misleading impression, in that income tax, though in most countries the biggest single source of taxation, is plainly not the only one. Everyone pays VAT and other sales taxes, however poor they are.

It is also true that many wealthy people considerably reduce their marginal rate of tax by managing their affairs so as to take much of their income in the form of capital gains or dividends, where tax rates are lower.

Even so, it is reasonable to ask how much more the wealthy can be taxed before it becomes counterproductive, or worse, brings the whole house of cards tumbling down in a mass exodus of investment and talent. These are not risks that can be taken lightly with the country on the verge of leaving the relative protection of Europe’s single market. If anything, the Government should be using its newfound freedoms to become more tax competitive, not less so.

So how to square the circle? Start by recognising that there is already a very substantial tax on wealth now deeply ingrained in the economy; it’s called negative real interest rates. Since the Government borrows at these rates, and then has the Bank of England monetise the resulting debt, it amounts to an ongoing transfer of wealth from the private sector to the state, a stealth tax on savings, or a form of confiscation if you like, which is naturally focused on the better off, as it is they who own the bulk of the corresponding deposits.

It follows that governments can also expect inflation to do at least some of the heavy lifting in restoring the public finances, not just because of central bank money printing, but also because, as Charles Goodhart and Manoj Pradhan observe in their book, the Great Demographic Reversal, the global labour force is set to shrink markedly over the years ahead with an ageing population, driving up wages and prices, which, in turn, reduces debt relative to GDP.

Nonetheless, some rather more direct way of paying for the health and social care costs of this aged demographic needs urgently to be found.

If there is one thing the pandemic has exposed it is that rationing healthcare to save money, which is in effect the system we have in Britain, is not only amoral but also a false economy. These costs need to be separated from the rest of the tax system and hypothecated into a form of social insurance, payable by all on a sliding scale right down to very low levels of income.

This would undoubtedly entail an increase in the overall tax burden, but it is the only hike I can think of that the country as a whole might, if sold correctly, actually buy into, and wouldn’t obviously do the economy harm.