Martin Seale

It is clear that the issue of taxation will be important in the coming general election.  The Chancellor, Jeremy Hunt, will present a tax cutting budget in March and the Conservative Party will present itself as the low tax party.  It is worth therefore discussing the role of tax in the UK.

When evaluating a proposed tax, attention should be focused on how that tax will move resources from the private sector to the public sector.  How much revenue a tax removes from the private sector is a minor issue.

Governments levy taxes on their citizens.  When this happens, money is transferred from a citizen’s account to some government account.  The citizen has less money to spend.  The government has more money to spend.

Or so we are told.  It is true that the citizen has less money to spend.  But it’s not necessarily true that the government has more money to spend. 

A Eurozone government, like the Irish government, will have more money to spend if it levies taxes.  The Irish government is a currency user.  It uses euros as its currency but it has limited power to create euros.  That power resides with the European Central Bank over which the Irish government will have limited influence.

For the UK government, the situation is quite different.  The UK government uses the pound sterling as its currency and the UK government is the monopoly issuer of this currency.  The UK government has a limitless supply of pounds to spend on expenditure approved by Parliament.

This fact raises an interesting question.  Why does a currency creating government levy taxes if it has a limitless supply of pounds at its disposal and does not, therefore, need the money?  The answer to this question is important if we are to understand the purpose of taxation and to evaluate any particular tax.

Taxation is required by a currency creating state, like the UK, because it frees up resources and makes them available to be purchased by the state.

To evaluate whether any tax is good or not, don’t ask how much money it takes from the private sector.  Ask instead what resources a tax will make available so that they can be bought by the state sector.

Let us apply this principle to a specific tax.  The Labour Party has stated that it will levy a tax on private schools if it forms the next government.  It claims that this tax will raise some £1.7 billion in revenue and that it will then spend this money on state schools, employing more teachers and refurbishing the schools.

How will the Labour Party’s proposed tax on private schools move resources from the private to the public sector by making them available to be purchased by the state?

The following argument could be made.  The tax would lead to an increase in the fees charged by these private schools.  Some current customers would not be able to pay the increased fees and would be forced to stop using the private schools which would in turn need fewer teachers.  Teachers, currently employed in private schools, would become unemployed and available to be employed in state schools.

It’s an argument that has a certain prima facie logic.  It would, however, be somewhat fortuitous that imposing VAT on private schools would lead to exactly the right number of teachers becoming redundant as were required to bring the level of education in state schools up to the desired level.

On the matter of refurbishing state schools, the argument that the VAT on private schools, would allow such refurbishment to take place is weak. 

If there were no unemployed builders, it would be fortuitous, bordering on miraculous, that an imposition of VAT on private schools would make unemployed the number of builders that would be required to refurbish state schools to the desired standard.

Of course, if there were already unemployed builders with the required expertise, then they could be hired immediately by the state without any imposition of a tax on private schools.  Taxes only need to be levied if the resources that the state requires to implement its policies are currently being used by the private sector.

In peacetime, taxes are the preferred method for moving resources (including labour) from the private sector to the public sector.  In times of national stress, such as wars and pandemics, taxes will be considered too slow a tool.  More direct methods may be used.  For instance during the 2^nd world war it was necessary to guarantee that the state had the resources to feed its armies.  Ration books were introduced.  These defined exactly how much of various types of food an individual could buy.  That left the rest of food produced, available to be purchased by the state. 

When evaluating the relevance of any tax proposed by a political party, focus on the resources the tax will release from use by the private sector, rather than the revenue it will remove from the private sector.  The Workers Party has proposed a wealth tax in its recently published manifesto.  It talks about raising some £17 billion in revenue.  The implication is that the state will now have £17  billion to spend that they did not previously have.  But a currency issuing state, like the UK, is not financially constrained.  It has limitless funds as the monopoly issuer of Sterling.  It is, however, resource constrained.

Rather than talking about the spending power that will be removed from the private sector, the Workers Party should explain how the tax will cause resources, including labour, currently used by the private sector to become unemployed and available to be purchased by the state to implement the policies that it considers important.

For instance, they could argue that some of those currently employed in building hi-spec yachts for the wealthy could become unemployed and could then be moved into producing hi-spec scanning devices for the NHS.  This raises the issue of how quickly workers in one industry could become productive in another industry.  It will take time to retrain yacht makers to become NHS equipment suppliers. Or, to use another example, it will take years to develop competent house insulators so money would need to be fed very carefully into the sector to avoid inflationary effects and it may be necessary to tax property developers to release the requisite labour force.

These are the kind of issues that need to be investigated when evaluating the efficiency of any proposed tax.