It's true this Laffer Curve, really. Credit - Lawrencekhoo Creative Commons CC0 1.0 Universal Public Domain Dedication

One of the more contentious economic assertions is that of the Laffer Curve. The idea that tax rates can be so high that they bring in less revenue, not more. Thus lowering the rate can actually increase tax collection. The reason it’s contentious is simply that all too many just don’t want there to be a limit on how much they can charge people for tax. This despite the fact that the basic idea of the curve is simply a mathematical truth. All of the contention should be about which rates, not whether.

Which makes it interesting to see that Laffer Curve out there in the wild of the real economy:

George Osborne’s tax increases for the wealthiest home buyers backfired after a decline in the number of people purchasing property in the most expensive locations.

The government is collecting less stamp duty overall than before the changes were introduced by Mr Osborne, then the chancellor, with a total of £1.987 billion raised in the second quarter of this year from receipts in England and Wales.

The tax raised £1.999 billion in the third quarter of 2015, before Mr Osborne introduced an additional 3 per cent surcharge for second home-buyers and landlords.

Receipts were even lower in the first quarter of this year, at £1.883 billion.

We can talk about “the” Laffer Curve, a level of taxation for the entire economy which reduces income. Trying to tax 90% of GDP is going to run into problems with government trying to plan the economy to that extent long before the Laffer effects are really apparent. It’s this which makes the low tax economies of Hong Kong or Singapore work, not just the taxes but the laissez faire attitude towards markets. Or as we might put it, taxes aren’t the only thing governments do to screw up economies and thereby make us poorer.

However, the way we should really think of this is that there’s a Laffer Curve for each and every tax and they’ll all be different given the surrounding structure of the economy as well. Arguably the peak of the curve for taxes upon income (no, not just income tax) is around 50% to 55%. We’d expect it to be higher in a system where there are no allowances, whereby income can be transformed into lower taxed capital gains, say. Or where you can just change residence to avoid it. Thus US state income tax curves would peak lower than the Federal one, the UK’s be lower than that US Federal one.

But the peak for a consumption tax will be lower than that for income, no one at all thinks we should have a 50% VAT. That for capital gains lower than income and possibly consumption. And that for a transactions tax will be lower again. Which is exactly the result we’re seeing here.

The Laffer Curve is alive and well and it just is true that tax rates can be high enough to reduce tax collection income. In any rational system this thus puts a peak on what tax rates can be. Not that it actually works that way for politics isn’t rational. What we will tend to find is that tax rates are always just a little over that peak….

BTW, to argue that SDLT revenues have fallen just because fewer people are buying and selling – well, yes, that’s the point, isn’t it?

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8 COMMENTS

  1. One other thing about the Laffer curve.
    We might be able to find where the maximum is for any given tax, but for anyone besides Owen Jones and his like, the maximum isn’t necessarily the optimum – certainly not for the taxpayer and not for growth either.

    • That’s right. The Laffer curve doesn’t measure the point of total benefit (collection of “revenue” not being the only criterion). It simply measures the point at which no one benefits, not even the collector.

  2. Reading those figures, what came to mind was Tim’s continual caution that we need a control, some place where the stamp tax did not go up 3%. Other factors over the same interval to force sales to drop.

    One candidate factor is the uncertainty, not about Brexit but about its implementation. Will border-crossing continue to be easy? Will it be necessary?

    If I were a Brit and were situated to buy a second home, a 3% slap-on-the-cheek from Osborne, on the basis that my desires were frivolous, would make me consider alternatives, such as a second home on the continent, or a yacht with a stateroom in which to spend my weekends. The 3% doesn’t make the whole transaction infeasible, it is just something very visible to avoid, if only because most in the target population don’t want Osborne’s gambit to succeed.

  3. And, we should remember, that some tax rates are below the peak of their Laffer curve so that we could substitute an increase in that tax for a decrease in another one that has more impact on economic activity or general happiness. I should like to see an analysis of the impact of a 60% tax rate on the excess over £1m for anyone paid by a Premier League club regardless of their alleged residence (setthe threshhold at 20 visits of more than 90 minutes to the UK during the season – and then insist that you are including UK airspace. Then at 75%,ditto on bankers’ bonuses. Because I am sure most of these payments are machismo by their agents – I remember there were pages of newspaper copy about Beckham possibly not renewing his contract with Man U (before Ferguson threw a wobbly because he missed a training session to look after Brooklyn) and then someone actually asked him and he said “I want to stay at Man U – I ‘m just leaving the negotiation to my agent” – he didn’t actually care about how much he was paid.
    Going back to Tim’s point – if you part-own a house with your bank, say 50:50 and you want to move, then a 10% stamp duty on purchase and sale would reduce your equity share from 50% to 30%, maybe 40% if the pain is shared equally, and probably shift up thevinterest rate on your martgage on top of the £100k-200k up-front cost. That is a bloody big deterrent.

  4. It’s as though none of them have ever been in the basic economics class where you ask:
    Do I double my prices at the cost of losing two thirds of my sales, or do I halve my prices and triple my sales?
    They stubbornlly insist in the face of centuries of evidence that rising prices has no effect on sales.

  5. 9 days ago, insidehousing magazine reported that the London Mayor wanted Stamp Duty and the income from it devolving to the London Assembly, and to local authorities in the rest of the UK presumably. His complaint is that it was already devolved in Scotland and Wales.
    We should wholeheartedly support this.
    The article said that 2/5ths of Stamp Duty Land Tax in the UK was from London, so all things being equal, Sadiq might decide that he doesn’t need all of that extra income, and cut the rates. Then the income might increase and he won’t know what to do with it all ( perhaps cut council taxes ) and he will close his term in office thinking that he’s smashed it and become a miracle worker.

    • Any such windfall to any government will flow directly to new programs that could not be justified in their own right. No, silly, Sadiq will not “decide that he doesn’t need all of that extra income.”

      Having X collect a tax and “devolve” it to Y makes Y a separate constituency that bears no political pain for the tax being collected, and that will actively resist any attempt to repeal it.

      “You don’t lower taxes by raising taxes.” —John H. Sununu

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