Economics Snapshot - The Impact of Tax and Benefits on Inequality
Progressive income tax and cash welfare benefits help to reduce the gap between the richest and poorest households in the UK. In 2007/08, original income (before taxes and benefits) of the top fifth of households in the UK was £72,600. This is approximately 16 times as great as the figure of £4,700 for the bottom fifth. After taking account of all taxes and benefits, the top fifth had an average final income of £52,400 per year compared with £14,300 for the bottom fifth of households, a ratio of four to one.
The latest figures for the impact of tax and benefits on the UK income distribution reveal the importance of cash benefits such as Income Support, Pension Credit, Child Benefit, Incapacity Benefit and Retirement Pension as a means of redistribution. play a major role in reducing income inequality. Of the total amount of cash benefits received, the bottom two quintile groups together receive 57 per cent. Cash benefits represent around 58 per cent of gross income for the bottom quintile group and 36 per cent for the second quintile group, falling to 2 per cent for the top fifth of households.
Direct taxation, with the exception of Council tax and Northern Ireland rates, is progressive; that is households at the lower end of the income distribution pay smaller proportion of their income in direct tax compared with higher income households. As a proportion of their gross incomes, households in the bottom quintile group pay an average of 11 per cent in direct taxes compared with 25 per cent for those in the top quintile group.
In contrast indirect taxes are found to have a regressive effect on the final distribution of income. Overall the latest figures from the ONS find that income inequality in the UK in 2007-08 was little changed from the year before. This BBC news article provides more background.
Air passenger duty - a tax too far?
Airlines and trades unions representing those employed in the aviation industry are lobbying the British government for a rethink about the proposed increases in air passenger duty (APD).
The duty is currently £10 for short-haul flights and £40 for longer journeys, costs which airlines pass on to passengers. Under the government’s plans, the tax will rise to £85 for Australia and £60 to the US by November next year. The revised APD will be based on four bands set at intervals of 2,000 miles from London. This BBC news article provides a useful background on some of the key economic and social arguments relating to the duty and the views of different stakeholders.
Tax paid exceeds the minimum wage
A report in the Daily Telegraph finds that taxpayers each contributed over £7 an hour to the Treasury in the form of personal taxes last year - a figure higher than the minimum wage. The tax base is shrinking as more people experience unemployment and the number of business failures rises. This puts increased pressure on remaining taxpayers to stump up the cash to pay for government spending. Given the cavernous gap between state spending and tax receipts, we are fast reaching an inflexion point when millions of taxpayers say enough is enough. The rising tax burden must eventually have a negative impact on work incentives and on enterprise. Indeed the Treasury seem to have recognised that the recent hike in top rate taxation to 50% for high income earners will bring little or no extra tax revenue - certainly compared to the £175bn (+) budget imbalance.
“Presuming each of the 29.3 million taxpayers in the country works an eight-hour day, and takes the standard four weeks off plus bank holidays, they contributed on average £7.27 for every hour that they worked. In the previous year, 31.6 million taxpayers contributed £6.63 an hour.”
First hints of the brain drain effect
The government’s decision to increase the top rate of income tax from 40% to 50% is pure political opportunism from a party that has given up any realistic hope of power at the next election. Cue a chance to stick a few poorly aimed knives into the body of up and coming entrepreneurs for a measure that will raise a little extra revenue but which will also do huge long term damage to enterprise in the British economy. From next year anyone earning more than £150,000 a year will pay 50% income tax. The move replaced the 45% tax bracket threatened in the pre-budget report last November. Here are the first signs of a brain drain effect taking hold. And even more worrying is the threat of a brain blockade - as highly skilled people in industries such as technology, medicine, industrial research and so son may now shun coming to the UK in favour of competing locations. Those with a cushion of wealth are best placed to relocate, in a digital age the barriers to conducting business off-shore are so much lower. The Telegraph provides a handy guide for those searching for an atlas and airline timetable this weekend.
USA triples the tax on cigarettes
I will resist the temptation to roll out the usual cigarette puns .... smokers fuming over tax rise etc etc ...but the news that the Federal tax on puffing away has risen so much remains of interest to economists....
The US government has introduced a huge rise in the tax on cigarettes - reported here by the BBC. For a 10-pack carton, the tax leapt to 10.06 dollars from 3.90 dollars.
It is a good example of how large scale increases in indirect taxes are needed to have a significant impact on demand and the timing of the tax hike is also interesting - is it better to raise taxes during an economic slump when household budgets are under great strain? Does this give people just the right incentive when they might be considering cutting back or stopping altogether? Note too that the article mentions how the extra tax revenue will be used - to pay for health care for uninsured children - an example of ‘earmarked’ or hypothecated taxation at work. Always assuming of course that the tax jump does lead to more revenue coming in.
Keep in mind that this is a federal tax and that individual states can (and do) levy their own supplementary duties on packets or cartons of cigarettes. With the combined city, state and recently raised federal tax, smokers in New York City pay about $10 per pack - $4 higher than in many southern states and a clear incentive for smuggling!
Higher taxes, health warnings, bans on smoking in public has reduced per capita consumption in the USA from almost 4,300 annually in 1965 to below 1,700 now but the market remains highly profitable.
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