Quote of the day - tax incidence ain't what you think it is...

From John Cochrane's blog:

The top two things our politicians say they want to encourage are jobs and home ownership. Jobs are perhaps the most highly taxed economic activity in the economy, and by this calculation houses come in a close second

So, for all that we want jobs and homes, the tax system makes those jobs and homes more expensive. Cochrane also points out that the incidence of wealth taxes depends on the interest rate - where the level of tax equals the interest rate (or yield or whatever measure of return to property investment you're using) it's effective rate is 100%.

So it makes more sense to tax the returns rather than the sum invested (or indeed its actual, estimated or putative value) and, life being what it is, this is what we do most of the time. Now this might all seem a bit obscure but, if people respond to incentives (like the economists say) then it is the actual incidence of a tax that matters not the rate or the person who writes the cheque.

And, since I'm here and talking about taxes on property, let's talk about business rates. Any, even passing, conversation about business (and especially retail) ends up with a discussion about business rates. Just about everybody says that the tax is to varying degrees unfair, not flexible, and impeding investments. The problem is that every proposal for reform (like this one from Centre for Cities) amounts to tinkering rather than a change to the way in which businesses are taxed.

And we should remember that businesses want to pay less tax because they simply represent a cost to the business with the result that they either reduce returns (see above for why this matters), lower wages or raise prices. As Cochrane pointed out - we want jobs, business and a thriving high street but, at the same time, don't realise that the tax system reduces the incentive for people to do the things that make these investments happen.


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