Taxation: not so taxing after all

By Kelvin Tai - Economics and Management Student @ Harris Manchester College, Oxford

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Nothing is certain in life but death and taxes. I would like to address the last part of this common refrain in this article and perhaps dispel the common stereotype of taxation policy as a mundane topic. Taxation is the mechanism by which a government raises revenue and, as I will discuss later below, imposes an extra cost on certain activities.

A colourful variety of taxation exists. There is taxation through the direct collection of funds, where individuals and businesses pay the government. There is taxation through seigniorage, where the printing of money by the government imposes a tax on all holders of the currency by devaluing existing holdings (while the value held by the government is increased through the printing). Milton Friedman also argued that conscription could be seen as an implicit tax on those compelled to serve:

“This is the extra cost to him that must be added to the cost borne by the rest of us… When he is forced to serve, we are in effect imposing on him a tax in kind equal in value to the difference between what it would take to attract him and the military pay he actually receives. This implicit tax in kind should be added to the explicit taxes imposed on the rest of us to get the real cost of our Armed Forces.” (Friedman 1967a, "Why Not a Voluntary Army?" in The Draft: A Handbook of Facts and Alternatives, ed. Sol Tax. Chicago: University of Chicago Press, p. 204)

In addition, there is the differentiation of taxes between those that are progressive – taxes that reduce wealth inequality – and regressive taxes that do not.

Taxation is often understood as a method of raising revenue by governments to fund public goods. These are a class of goods that are non-rivalrous and non-excludable, which means that economic agents in the free market will rationally wait for someone else to pay for it. You would not pay for a streetlamp on the sidewalk if someone else would, so by that logic no one else would, despite the benefits it could bring.

Furthermore, taxes can be a mechanism of redistribution or fiscal stimulus, where the implementation of progressive taxes place a higher tax incidence on those who earn more (think of a higher percentage of income taxed for higher income brackets). The revenue raised can then be channelled via subsidies or welfare benefits to the impecunious.

However, taxation is also a way for the government to shape society and nudge behaviour. The UK government announced a tax on soft drinks with a sugar content exceeding 5g per 100ml in 2016. While the government has raised hundreds of millions of pounds through the tax’s implementation (promised towards fighting obesity in schools), there is an added benefit in deterring the purchase of soft drinks with a high sugar content as well as incentivising manufacturers to reduce the sugar they add.

Taxes often reflect societal beliefs and norms; and there have been calls to update tax laws to better represent modern conventions. This year, the “tampon tax” was abolished in the UK, removing the VAT on women’s sanitary products. This is surely a step towards greater gender equality by highlighting such products as essential instead of them being considered a luxury.

Today, the tax code is evolving in myriad forms and it is hardly certain if it will continue to be as “certain” as some make it out to be. Taxes on digital companies are currently being implemented in many countries to better reflect the profits raked in by these novel business models that previous tax codes may not have accounted for. Such taxes are levied on advertising activities that generate revenue within a country, even if the tech company is located in another jurisdiction. This is especially critical in boosting government coffers pummelled by COVID-19. The economic implications of these taxes and how they shape societies will definitely worth watching over the coming months and years.

Further reading:

1. Westberg, B. (2014). Taxation of the Digital Economy - An EU Perspective. European Taxation, 54(12), 541-544.

2. Adam Briggs. (2016). Sugar tax could sweeten a market failure. Nature, 531(7596), 551.

3. Bosch, N.M., Van der Klaauw, B, Koning, P.W.C., School of Business Economics, & Economics. (2018). Empirical studies on tax incentives and labour market behaviour. 2018.