No, Australia doesn’t have a revenue problem

Many commentators think taxes need to increase to ensure the tax-to-GDP ratio is ‘restored’ to historical levels. But their arguments are wrong.

The tax-to-GDP ratio is currently well above the 10-year average, and about equal to the 20-year, 30-year and 40-year averages (see details here). The mistake that the commentators made is (unsurprisingly) cherry picking data.

For example, the former Secretary to the Treasury, Dr Ken Henry, said taxes are currently too low compared to 2002. However, this is an abnormal year, due to the introduction of the GST. We could equally say taxes are currently too high compared to 2011, after the GFC, or 1993, after the recession we had to have.

Instead, it is much better to average the tax take over many years, including high tax and low tax periods.

And on that basis, tax increases can’t be justified. In fact, the tax-to-GDP ratio is forecast to be well above historical averages by 2018-19, and using this measure alone we should be seeing large tax cuts by then — around $24 billion per year in today’s money.

But this is the wrong debate. It is bad policy to try to target the tax-to-GDP ratio, particularly because we would have to increase taxes in a recession. This is a terrible idea – it would make the recession worse. And given we are currently in a mild slowdown, this argues for tax increases now. Increasing taxes now would be almost as bad as increasing taxes in a recession. And unfortunately substantial tax increases are scheduled to occur as noted earlier.

But even with these unwise tax increases, the Budget deficit doesn’t disappear by 2018-19. So how can we deal with that problem? Through spending restraint as long advocated by the CIS, particularly through the Target 30 campaign. This is a better approach than tax increases based on fallacious historical comparisons.