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Keith Rankin: Straw Man

Straw Man

Keith Rankin, 1 November 2001

One of the favoured techniques of rhetoric is to describe something that you intuitively disagree with in such a way that your audience will feel obliged to share your disagreement. You construct a straw man for the purpose of knocking him down.

The 2001 Tax Review Committee's dismissal (in its final report) of a universal basic income (UBI) is an example of knocking down a straw man. In fairness though to Rob McLeod and his team, there are some advocates of a universal basic income who do understand the concept in much the same impractical way as Mr McLeod chooses to understand it.

So what is a UBI? It simply a universal tax credit - a f negative income tax - that is funded by a flat (ie proportional) income tax.

We have a progressive income tax system. By progressive, we mean that the fraction of our incomes that is taxed increases when our income increases.

There are two distinct ways of making an income tax system progressive. One is the graduated (ie multi-step) tax scale. New Zealand has, at present, a 4-step scale (15%, 21%, 33%, 39%). Most other countries have more steps, with a first step of 0%. The Act Party wants a 1 step income tax scale, popularly known as a flat tax.

The problem with a graduated tax scale is that, whenever the tax rate is cut, the vast majority of the extra spending power goes to those who least need it; the relatively affluent. Another problem is that people who work for no pay receive nothing when taxes are cut.

The alternative means to progressivity is to have a flat-rate income tax, combined with a basic income which is just a tax credit payable to all residents of working age.

For many workers, the choice of method will make little difference to their take-home pay. For example, a person on $38,000 per annum today will pay 15% on the first $9,500 of income and 21% on the remaining $28,500. That averages out to 19.5% of the $38,000 being deducted as tax. $30,590 remains as take-home pay. The same worker, if paying tax at a flat rate of 33% and receiving a basic income of $5,130, also receives $30,590.

For the basic income flat tax version to work, the tax rate must be somewhat higher than Rodney Hide or Richard Prebble would like it to be. The argument for a flat tax is different to the argument for a low tax.

A universal basic income has two parameters: a single rate of income tax and a dollar amount of basic income. The UBI described above is {33%, $5,130}. Act favour {20%, $0}. Someone else might favour {39%, $8,730}.

In fact, for all persons grossing over $60,000 per annum, we already have a {39%, $8,730} UBI. For example, a person grossing $100,000 per annum at present takes home

$100,000 times (1-39%) plus $8,730 = $69,730.

For a second example, a person grossing $200,000 per annum at present takes home

$200,000 times (1-39%) plus $8,730 = $130,730.

One advantage of a UBI over the present graduated tax scale is that it provides better integration of the tax system with the benefit system. Indeed, a basic income of just $7,500 could triple as an unemployment benefit, a student allowance, and a worker's tax concession.

Some people believe that a UBI should replace all benefits. Such a UBI, if it paid a basic income equal to NZ Superannuation, would be of the proportions - eg {50%, $11,000} - of McLeod's straw man UBI. A smaller UBI can still replace a large proportion of the total welfare bill. So in effect it is funded in large part by accounting for existing payments in a different manner.

So let's deal with the three objections to the basic income flat tax approach that is commonly known as UBI.

The first objection is the most interesting. It states: " a UBI provides people with money (which gives them purchasing power over goods) without supporting the production of the goods to be purchased with the money".

It turns out that this objection equally applies to today's beneficiaries and superannuitants, It also applies to interest on privately inherited wealth, and to any current difference between a worker's total tax and the tax she would pay if all her income was taxed at the company tax rate. At another level, this objection is trite, in that huge amounts of production take place in a modern economy without receiving payment. (Just think of the extent to which the value added by Scoop exceeds the payments Scoop receives.) All that the UBI does - or the present benefit system does - is partially redress the imbalances that arise at present from unpaid work and from the productive social and environmental capital that nevertheless does not pay a dividend to its collective owners.

The second objection represents more straw in the straw man. The report says: "New Zealand has few high-income people and many low-income people. Each dollar taxed off the few people at the top of the distribution has to be divided among many people at the bottom. This, in turn, means either the UBI has to be low or the tax rate to fund it has to be very high."

Compared to the present graduated tax scale and benefit system, a UBI may be less, more than or equally redistributive. It all depends on the parameters of the particular UBI that is chosen. This is an argument against a high UBI masquerading as an argument against a generic UBI. It is not an argument against a modest UBI.

At this point we should note another rhetorical device oft-used by high income recipients to forestall tax increases. It's not the proportion of high income people that matters; it's the proportion of the national income paid to the "few high-income people" that matters. In New Zealand, if 5% of the people have a high income, then perhaps 33% of the nation's income is paid to those 5%. If that 33% of GDP incurs say 15% more tax, then the tax take will be increased by 5%.

We are still missing the point. Most of the extra tax take is nominal only. It arises from a simple redefinition of a component of each worker's take-home pay. A modest UBI does not need to tax the rich a cent more than they pay at present.

The final objection to a UBI in the McLeod Report relates to something they call "churn". The report says of churn: "The people in the middle of the income distribution pay half their income in tax and receive the same amount back as UBI. Much of the high tax rates of a UBI scheme is required to take money from middle- and high-income people and give it back to them, worsening their incentives without increasing their net income. This means we get the costs of high tax rates without the benefits."

In fact, the introduction of a UBI would be almost invisible to most middle income earners. There would be a small change in the layout of their pay slips. That's all. Some would pay a higher marginal tax rate. Others - especially those at present receiving means-tested tax credits - would face lower effective marginal tax rates. (I, for one, have memories of facing 100% effective marginal tax rates.) The McLeod Committee speaks of churn as if workers would have to write out cheques to the IRD on a Monday, and receive similar size cheques from the IRD on a Thursday.

A UBI is a simple elegant and equitable way of blending income tax with income support. And it is, mathematically, the neatest way of implementing progressive income tax.

© 2001 Keith Rankin

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