Taxation and Growth

The proposition that taxation stifles growth feels like it should be true. A business that is being heavily taxed won’t have as much to invest in its future growth. For the past forty years at least, the idea has been generally accepted, and successive governments have acted accordingly. However, at the macro level, the evidence suggests something quite different. There have been several studies of the long term effects of different levels of taxation. Data from the UK, the United States, Europe and OECD have all shown similar counter-intuitive correlations.

The latest, an American Congressional Report, (Gravelle, J G and Marples D J, (2014), Tax Rates and Economic Growth, Congressional Research Services Report for Congress, January 2nd ) reviews American taxation and growth over the sixty years from 1950. Between 1950 and 1970 the average top marginal income tax rate was 84.8% and GDP growth 3.86% pa. From 1971 to 1986 average top marginal iincome tax rate was 51.8% and GDP growth 2.94%. From 1987-2010 the rates were 36.4% and 2.85% (Source: Bureau of Economic Analysis (BEA) and the Urban-BrookingsTax Policy Center. (BEA is a principal agency of the U.S. Federal Statistical System.)
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Capitalism to the Rescue

There are an increasing number of live initiatives for making the capitalist system more sustainable and equitable. Improving environmental, social and governance performance would be steps in that direction. Transparency in terms of measuring and reporting progress would also be important. Including content on sustainability and equitable governance in the mandatory curriculum for all secondary, further and higher education students might start to change the general understanding of these critical issues. Creating an alternative system of ethically focused capital markets and enlightened financial institutions might challenge the financial sector to a more enlightened capitalism role.

These initiatives are all positive and worthwhile. But if the generally held core belief persists, that a successful economy depends on people all seeking to maximise their own material self-interest, such innovations will remain niche, if they remain at all. Their impact would be both limited and short-lived.

The original purpose of the capitalist system was to fund industrialisation. That generated the economic gains for entrepreneurs and their stakeholders and the industrial infrastructure paid for by taxes, as well as providing for the common good by improving health, education and general living standards.
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