Taxation, growth and employment

Friday, 09 July 2010 17:57
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"Taxation, Growth and Employment" is the title of a pamphlet produced by the right wing (we hesitate to use the term) think tank "Policy Exchange", which describes itself as "an independent, non-partisan educational charity. We work with academics and policy makers from across the political spectrum. We are particularly interested in free market and localist solutions to public policy questions." Using "centre-right means to progressive ends", it advocates "the wider use of market forces and the promotion of individual responsibility are ideas traditionally associated with the centre right. But we are interested in how these tools could be used to achieve progressive ends - to give new opportunities to groups that don’t have them today."

It is a useful critique of all existing taxes which provides useful ammunition for presenting our own case. But what are we to make of this?

Taxes would have no effect upon growth if the following two conditions held:

a) if behaviour did not respond to taxation — if people bought the same things, produced the same things, worked the same hours, and so on, regardless of how taxes were arranged.

b) if the uses to which the resources confiscated in taxation were put were equally as growth-producing as the uses to which they would be put in the absence of taxation. It is almost certain that neither of these conditions will hold. No taxation system is completely “neutral” in the sense that it does not encourage or discourage any distortions to behaviour. And the uses to which tax revenues are put is most unlikely to be exactly as productive as the use they would have been put to without being taxed — they may be more productive (e.g. if it is really the case that the private sector processes involved significant market failure whilst the government processes do not) or they may be less productive (either because the government use is misguided, being less efficient, or because the priority of the government use is not growth-promotion but something else such as re-distribution of wealth); they are unlikely to be precisely equally as productive.


Clearly Policy Exchange can not have considered the impact on behaviour of a tax on the rental value of land (LVT), such as the Campaign proposes. There is no deadweight loss from LVT, since there is no discouragement against engaging in economic activity. But what about the effect of the confiscation of the resources ie the stream of rental income?

Land ownership in Britain is exceptionally concentrated, and the flow of rental income consequently ends up in relatively few hands. What happens to that income? Some of it is invested and adds to productive capacity. Some is re-spent into the economy, creating effective demand. Some is simply used to acquire further land holdings, which adds nothing to productive capacity or effective demand since land is not a product of anyone's labour.

But when a few people have far greater incomes than is needed for the enjoyment of a basic decent standard of living, then the surplus tends to be spend on luxuries which generate relatively little in the way of employment, especially when compared to the way the same amount would be spent if it was widely distributed.

This is the situation under land enclosure, and there is a further consequence. Land enclosure gives rise to a pool of what is generally referred to as "structural unemployment", with wages tending to get driven down to a bare minimum. The effect is that the economy suffers from a chronic shortage of demand, as was noted by J M Keynes. This state of affairs is then aggravated by the imposition of labour-related taxes, which, whatever they are called, function as payroll taxes and encourage employers to minimise the size of their workforces.

There then arises the need to support the resulting permanent pool of unemployed through a system of welfare, the cost of which tends to rise over time, to the point that it eventually becomes unsustainable. This is the approaching situation in many if not the majority of first world countries.

What if land rent is confiscated?

What is land rent is confiscated? If one takes the view that there is no need for government other than to collect the rent, then the only thing that could logically be done with this pot of income would be to distribute it equally to every citizen. We would argue that this would be more effective in creating demand than under the present situation where the pot is divided up amongst relatively few.

That is not of course the only option. Money could be spend on maintaining and renewing infrastructure, or invested in research in science and engineering, or in education or a host of other ways. So long as the money was not squandered in vanity projects, this investment would also promote the benefit of the economy.

Other possibilities involve a bit of both. Tax revenue is essentially part of the economic rent of land and so the replacement of existing taxes by LVT would lead to a rise in the LVT tax base.

Collecting land rent also gets rid of the present problem with pensions. Private funded pensions are essentially drawn from investments, the revenue from which consists substantially of land rent. Since existing taxes are also at the expense of land rent, taxpayer-funded pensions could also perfectly well be funded instead from the LVT revenue stream.

It will be interesting to see what response, if any, comes from Policy Exchange on this matter, whose attention has been drawn to the above comments.

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