It must be relatively unusual for a political party in office to change tax law, and provide extra budget funding, to enable research to be done towards that party’s next campaign manifesto. But such it appears to be with the High-wealth Individuals research project, the report on which was released yesterday, loudly championed by the Minister of Revenue, David Parker. Not many government department research papers – and that, we are told, is all it is – get a Foreword from a senior Cabinet minister.

Whether or not there was a strong case for doing the research in the first place using the coercive powers of the state, and whether there is – in the broad – anything very surprising in the report (I don’t think I’ve yet seen/heard anything), no doubt there will interesting tables and charts that flesh out our understanding of the selected facts at least a little.

Perhaps the first snippet worth paying attention to is this

That is quite a lot of money in total – measured, by chance, at the very peak of a huge asset price boom – but what struck me was that only 155 families had estimated net worth in excess of $106 million. Quite possibly no readers of this blog fit that category, but in the grand scheme of global wealth NZ$106 million (measured at the peak of an asset boom) was if anything less than I might have expected.(By contrast, at his talk yesterday Parker told us he’d asked some of his rich mates to guess what the average number would be and none had gone for a high enough number).

Perhaps not unrelatedly, it is worth remembering that we don’t tax families, we tax individuals, and most of the families studied in this report included two spouses/partners. The median individual wealth is going to have been quite a bit lower than $106 million.

All of which seems consistent with the fact that the New Zealand economy has not exactly been a staggering success in recent decades. Setting the tax debate to one side for the moment, in a successful economy one might have hoped that there would be many more really wealthy families, at least if that wealth had arisen from the creation and development of new businesses/products. Few begrudge Bill Gates the wealth created via Microsoft.

But there is some important stuff that wasn’t in the report, or in the political framing of it. Thus, David Parker made much of the poor put-upon wage and salary earner who pays tax on every dollar of earnings, in contrast to the 300 rich families. It was all such an evidently unfair system we were told.

There were some comparative OECD charts in the minister’s presentation. These two weren’t among them

Tax on property – as a share of GDP a bit above the OECD median – is defined here as

This chart was also missing (NZ second from the right). It includes any tax levied on business capital gains.

And, of course, in the minister’s framing there was no mention of the fact that New Zealand over the decades has had relatively low rates of investment (relative to OECD averages for countries with our sort of population growth) in land development, in building new houses, and in business investment more generally. What one aspires to have more of one generally should not seek to tax more heavily. And IRD even seems to recognise in the report that what one taxes more heavily one will get less of, noting in the Summary

For the Project population, much of their income is derived from business entities that they control. Failing to tax forms of income that are earned predominantly by those who are better off …… is also likely to impose other economic costs through influencing the pattern of investment in the economy.

The IRD is keen to assert that what they are doing in this study is measuring “economic income”, in their own words “items…that increase individuals’ economic resources and, therefore, well-being”

In principle that is fine. I have no problem with the notion that unrealised real capital gains add to the economic resources and future purchasing power of the owner (whether or not those gains should be taxed is quite another question). But increases in asset values that simply keep pace with general inflation do not add to future real purchasing power and are in no meaningful economic sense (including the Haig-Simons approach IRD is fond of) economic income. We don’t have an inflation-indexed tax system at present, but the point of this study was not to describe the current system, but to use analytical tools to get a sense of real gains to purchasing power.

Now, most capital gains in the period under study were well in excess of the general CPI inflation rate, and inflation itself was relatively modest (but inflation cumulates, and even 2 per cent per annum inflation is about 22 per cent in total over a decade), so adjusting for inflation – which could relatively easily have been done – might not have changed many of the headline-grabbing numbers very much. But it was just knowingly dishonest of IRD not to have made the adjustment and to have presented as real income what no economist will regard as real income. But it will have suited their political masters (and perhaps reflected their longstanding institutional unease with an indexed tax system). And, as readers will be well aware, inflation will have made a great deal bigger difference to the numbers for 2022 and 2023.

David Parker’s approach to tax is – perhaps in line with prevailing New Zealand orthodoxy in recent decades – that all forms of real economic income should be taxed alike (at his talk yesterday he even seemed attracted to a capital gains tax on unrealised gains, something I’m not aware that any country does on any sort of comprehensive basis). If you believe in that approach, I guess yesterday’s research results will be troubling (or grist to your political mill).

I don’t, and to the extent it matters (if one cares about productivity and wider economic performance over time) generally economic theory tends not to back such an approach either. Not only do I think there is a good case for taxing returns to labour much more heavily than returns on capital (one example of my advocacy is here) but there is also a good case for a consumption-focused approach to tax (tax people on what they spend not on what they produce/earn, ideally through a progressive system). Frame your research in terms of tax as a percentage of “economic income” and you will get one set of answers, but frame it as a percentage of consumption and you will get quite another. If I was looking for a “tax switch” in New Zealand – David Parker implied that he was, rather than looking to increase total revenue – I’d be looking to substantially reduce New Zealand’s ranking on that taxation on corporate income chart above (and yes, I do know about dividend imputation, so this isn’t a statement of detail but of direction – but more foreign investment, and foreign investors are most affected by NZ company tax rates, would generally be a good thing).

For all that, I am not one of those who is adamantly opposed to a capital gains tax in principle. It wouldn’t affect me personally, I don’t mix in the circles of the 300, and I fully accept that there are elements of a “fairness” argument to be had. I’m certainly not someone who would change my vote on the matter. In general, I summarise my CGT position as one of profound ambivalence. One could be put in place, but a well-designed and politically realistic one would not raise much revenue over time, all while adding to the structural procyclicality risks around fiscal policy (sucking in most revenue when revenue is abundant and drying up almost completely when times are tough and other revenue is depleted). And since most of the political angst around capital gains in New Zealand is not about the likes of Bill Gates (or Rod Drury) but about escalating land values, those issues could – and should – be dealt with directly by systematically freeing up land usage and collapsing the artificial scarcity central and local government restrictions have created. As it happens, in this government the minister of land use rules in also the Minister of Revenue, but does one hear David Parker advocating policies that would collapse peripheral urban land prices to the best alternative agricultural use price? No, he (and opposition parties) will run a mile for the very idea) and experts tell us that the legislation he is now piloting through the House may actually worsen the situation. The rigged land market is scandalous, a true moral evil. But governments refuse to fix that.

And then there is the political conundrum. Most real-world CGTs emphasise realised gains, but if you do that then the people you hit are the asset holders most likely to be forced to sell at some point. As Parker himself recognised, the richer you are – and the bigger vehicles you hold your wealth in – the more likely you are to be able to defer a CGT almost indefinitely. In his younger days, Adrian Orr used to regale us with tales of mates of his who were firemen (or the like) with a couple of investment properties. A realisations-based CGT – actually like the extended brightline test – will catch them, but it will bear much less heavily on Parker’s 300 families.

Perhaps that means Parker will be trying to get his Labour colleagues to run with a wealth tax or death or inheritance taxes. They don’t have the particular problems that go with a CGT, but they have others (personally, I have no real problem with a moderate inheritance tax with fairly high thresholds, but I’d be really surprised if such a tax were to raise much money – although perhaps for advocates the revenue would not be the point).

Rather than run through afresh all the issues around good CGTs – loss-offsetting, double-taxation, efficient markets approaches to asset pricing etc – I’m going to end by cutting and pasting from a 2017 post, which I also used when the TWG reported in 2019.

Rather the block quote it, all that follows to the end of this post is direct from that 2017 post:

Going through some old papers to refresh my memory on capital gains tax (CGT) debates, I found reference to a note I’d written back in 2011 headed “A Capital Gains Tax for New Zealand: Ten reasons to be sceptical”.  Unfortunately, I couldn’t find the note itself, so you won’t get all 10 reasons today.    But here are some of the reasons why I’m sceptical of the sort of real world CGTs that could follow from this year’s election.  Mostly, repeated calls for CGTs – whether from political parties, or from bodies like the IMF and OECD –  seem to be about some misplaced rhetorical sense of “fairness” or are cover for a failure to confront and deal directly with the real problems in the regulation of the housing and urban land markets.

Anyway, here are some of the points I make:

• in a well-functioning efficient market, there are typically no real (ie inflation adjusted) expected capital gains.    An individual participant might expect an asset price to rise for some reason, but that participant will be balanced by others expecting it to fall.  If it were not so then, typically, the price would already have adjusted.  In well-functioning markets, there aren’t free lunches.    It also means that, on average, capital losses will be pretty common too, and thus a tax system that treated capital gains and losses symmetrically wouldn’t raise much money on average over time.   A CGT is no magic money tree.   And there is no strong efficiency argument for taxing windfalls.
• if you thought, for some reason, that people were inefficiently reluctant to take risk, there might be some argument for a properly symmetrical CGT.  In such a system, the government would take, say, a third of your gains, but would also remit a third of your losses (the overall risks being pooled by the state).    The variance of an individual’s private after-tax returns would be reduced, and they might be more willing to take risk.   But, in fact, no CGT system I’m aware of is properly symmetrical –  there are typically tough restrictions on claiming refunds in respect of capital losses (one might only be able to do so by offsetting them against future gains).  There are some reasonable base-protection arguments for these restrictions, but they undermine the case for a CGT itself.
• All real world CGTs are based on realised gains (and losses to an extent).   That makes it not a pure CGT, but in significant part a turnover tax –  if you never trade, you never pay (“never” isn’t literal, but tax deferred for decades discounts to a very small present value).    And that creates lock-in problems, where people are very reluctant to sell, even if their circumstances change or if a new potential owner could make much more of the asset, for fear of crystallising a CGT liability.  In other words, introducing a CGT introduces a new inefficiency to asset markets, making it less likely that over time assets will be owned by the parties best able to utilise them.
• Basing a CGT on realised gains will also, over time, bias the ownership of assets subject to CGT to those most able to avoid realising the gains.  A long-lived pension fund, or even a very wealthy family, will typically be better able to  count on not having to sell than, say, an individual starting out with one or two rental properties, or some other small business, where changed circumstances (eg a recesssion or a divorce) might compel early liquidation.  Large funds are also typically better able to take advantage of loss-offsetting provisions.  The democratisation of finance and asset holding it certainly isn’t.
• CGTs in many countries exclude “the family home” altogether.  In other countries, they provide “rollover relief”, enabling any tax liability to be deferred.  Most advocates of a CGT here seem to favour the exclusion of the family home, even though unleveraged owners of family homes already have the most favourable tax treatment in our system.  Again, a CGT applied to investment properties but not owner-occupied ones would simply trade one (possible) distortion for another.
• In practice, most of the arguments made for a CGT in New Zealand have to do with the housing market.   But, on the one hand, all major (and minor?) parties claim that they have the fix for the housing market (various combinations of RMA reform, infrastructure reforms, changes to immigration, restrictions on foreign ownership, state building programmes or whatever).  If they are right, there is no reason to expect significant systematic real capital gains in houses.  If anything, real house prices should be falling –  a long way, for a long time.    Of course, prices in some localities might still rise at some point, if unexpected new opportunities appear.  But “unexpected” is the operative word.   Enthusiasm for a CGT, at least at a political level, seems to involve a concession that the parties don’t believe, or aren’t really serious about their housing reform policies.
• Oh, and no one I’m aware of anywhere argues that a realisation-based CGT applied to (a minority of) housing has made any very material difference to the level of house prices, or indeed to cycles in house prices.
• In general, capital gains taxes amount to double-taxation.    Think of a business or a farm.  If the owner makes a success of the business, or product selling prices improve, expected profits will increase.  If and when those profits are achieved, they would, in the normal course of affairs, be subject to income tax.  The value of the business is the discounted value of the expected future profits.  It will rise when the expected profits rise.  Tax that gain and you will be taxing twice the same increase in profits –  only with a CGT you tax it before it has even happened.   Of course, at least in principle, there is a double deduction for losses, but as noted above utilising losses (whether of income, or capital) is a lot more difficult.    If you think that New Zealand has had less business investment than might, in some sense, have been desirable,  you might want to be cautious about applauding a new tax that would fall heavily on those who took business risks and succeeded.
• Perhaps double taxation of expected business profits doesn’t bother you.  But trying reasoning by analogy with wages.   If the market value of your particular skills has gone up, your wages would be expected to rise.  When they do you will pay taxes on those higher wages.  But by the logic of a CGT, we should capitalise the value of your expected future labour income and tax your on both that “capital gain” and on the later actual earnings.  Fortunately, we abolished slavery long ago, but in principle the two cases aren’t much different: if there is a case for a CGT on the value of a business, it isn’t obvious why one shouldn’t have one on the value of a person’s human capital.
• (I should note here, for the purists, that there are other concepts of double-taxation often referred to in tax literature, none of which invalidate the point I’m making here.)
• Real world CGTs also tend to complicate fiscal management?  Why?   Because CGT revenue tends to peak when asset markets and the economy are doing well, and when other government revenue sources are performing well.  CGT revenue doesn’t increase a little as the economy improves and asset markets increase, it increases multiplicatively.  And then dries up almost completely.  Think of a simple example in which real asset prices had been increasing at 1 per cent per annum, and then some shock boost asset prices by 10 per cent.  CGT revenue might easily rise by 100 per cent in that year (setting aside issues around the timing of realisations).  And then in a period of falling asset prices there will be almost no CGT revenue at all.   Strongly pro-cyclical revenue sources create serious fiscal management problems, because in the good times they create a pot of money that invites politicians to (compete to) spend it.  If asset booms run for several years, politicians start to treat the revenue gains as permanent, and increase spending accordingly. And if/when asset markets correct –  often associated with recession and downturns in other revenue sources-  the drying up of CGT revenue increases the pressure on the budget in already tough times.     It is easy to talk about ringfencing such revenue (mentally, if not legally) but such devices rarely seem to work.

None of this means that I think there is no case for changes in elements of our tax system as they affect housing.  The ability for business borrowers to deduct the full amount of nominal interest, even though a significant portion of that interest is simply compensation for inflation (rather than a real cost), is a systematic bias.  It doesn’t really benefit new buyers of investment properties (the benefit is, in principle, already priced into the market) but it is a systematic distortion for which there is no good economic justification   Inflation-indexing key elements of our tax system is highly desirable –  at least if we can’t prudently lower the medium-term inflation target –  and might be a good topic for a tax working group.  In the process, it would also ease the tax burden on people reliant on fixed interest earnings (much of which is also just inflation compensation, not a real income).

Of course, at the same time it would be desirable to look again at a couple of systematic distortions that work against owners of investment properties.  Houses are normal goods and (physically) depreciate.  And yet depreciation is no longer deductible.  Perhaps there was a half-defensible case for that when prices were rising seemingly inexorably –  but even then most of the increase was in land value, not in value of the structures on the land –  but there is no justification if land reform and (eg) new state building is going to fix the housing market.    Similarly, when the PIE system was introduced a decade or so ago, it gave systematic tax advantages to entities with 20 or more unrelated investors.  Most New Zealand rental properties historically haven’t been held in such entities.  There is no good economic justification for this distinction, which in practice both puts residential investment at a relative tax disadvantage as a saving option, and creates a bias towards institutional vehicles for holding such assets.  Institutional vehicles have their own fundamental advantages –  greater opportunities for diversification and liquidity –  but it isn’t obvious why the tax system should be skewing people towards such vehicles rather than self–managed options.  As noted above, any CGT will only reinforce that bias.  Funds managers, and associated lawyers and accountants, would welcome that. It isn’t obvious why New Zealand savers should do so.

I see that there are more than 10 bullet points in the list above.  I’m not sure it covers all the issues I raised in my paper a few years ago, but it is enough to be going on with.

And in all this in a country where we systematically over-tax capital income already.  I commend to readers a comment on yesterday’s tax post by Andrew Coleman, of Otago University (and formerly Treasury).  As Andrew noted:

“Somehow, New Zealand’s policy advising community decided it would restrict most of its attention to the ways income tax could be perfected rather than question whether income taxes (which are particularly distortionary when applied to capital incomes) should be replaced by other taxes. It is almost as if we have the Stockholm Tax Syndrome – fallen in love with a system that abuses us.”

A broad-based capital gains tax would just reinforce that problem.

There has been a series of Tuesday events (“Tax on Tuesday”) held at Victoria Univerisity recently, jointly promoted by Tax Justice Aotearoa, the PSA, and the university’s own Institute for Governance and Policy Studies.  I wrote about one of the earlier events here.

The final event was held this week, marketed as “Where’s the party at?”   Political parties that is.   In an event moderated by the Herald’s Hamish Rutherford, speakers from four political parties (NZ First declined the invitation) each spoke about some aspect of tax policy for 8-10 minutes, with plenty of time for questions.   It wasn’t a hugely well-attended event, but it is pretty safe to assume that the overwhelming bulk of the audience was on the left of the political spectrum, and I guess the speakers recognised that in what they chose to say.

First up was ACT’s David Seymour.  He started well, talking about twin challenges for New Zealand around (lack of) competitiveness/productivity and about (insufficient) social mobility and the spectre of entrenched disadvantage.  He was bold enough to note that there is a large group, mostly Maori, who  – rightly and reasonably –  feel that the last 30 years has not done much for them, in economic terms.  I was still with him when he argued that the way to fix the housing market was at source –  around the RMA and associated land use restrictions –  not by trying to fiddle the tax system.

But his centrepiece was an attempt to make the case for a flat rate of income tax (I think set at 17.5 per cent), scrapping our current progressive system.   He attempted to support this with the suggestion that all the rest of our tax system was flat, but I couldn’t quite see the relevance of his point, since (a) personal income tax is almost half of government revenue, and (b) we’ve chosen to achieve the desired progressivity through the income tax rather than, say, the consumption tax.    Attempting to engage his (left wing) audience he attempted to argue that we should think of “fairness” as involving the same rate of tax on every dollar of income (with a half-hearted suggestion that a poll tax could be considered even fairer, but probably wouldn’t fly politically).  Progressivity, he argued, simply doesn’t fit with New Zealand’s culture and values as an “aspirational society” and sends the wrong message, wrong values.  It wasn’t a  description of New Zealand I could recognise, at least any time in the last 100 or more years.

Anyway, Seymour then proceeded to undermine his own argument by addressing the question of “but what about the low income people whose marginal and average tax rates would then rise?”  Consistent with his logic, I’d have thought he should have just said “well, tough –  this is what fairness is, all paying the same rate on every dollar” (while perhaps making the fair point that many people on the lowest marginal tax rates aren’t there for long).  Instead he suggested two possible responses.  The first was to use the tax/transfer system to offer a credit to these people to leave them no worse off (ie progressivity, at least at the bottom, by another name) or…..and this is where I had to check I was hearing correctly…..the minimum wage could be increased further (noting that employers could “afford it” because their own tax rates would be lowered).  In a country with one of the highest ratios of minimum wages to median wages, the MP for the libertarian party appeared to be seriously proposing increasing that impost further……

The Greens finance spokesman (and Associate Minister of Finance) James Shaw –  the calm and relatively sensible face of the Green Party – was up next.  I’d never ever vote for them –  the party that, among other things, whips its members to vote for abortion –  but there was something refreshing in hearing a serving minister frankly state (in answer to a later question) that he really didn’t think taxpayer money should be spent on subsidies for the America’s Cup.  Perhaps he could next offer some thoughts on (New Zealand) film subsidies to makers of propaganda films vetted and controlled by the Chinese Communist Party?   He also spoke highly of a recent NZ Initiative report.

Anyway, on tax, Shaw was clear about where his priors were (and, of course, most of the audience weren’t minded to object).  He is keen on Northern Europe and Scandinavia.  He characterises those countries are starting by identifying what they want to achieve (desired outcomes) and then work from there to an appropriate tax system.    In all cases, that means much higher tax/GDP (and, of course, spending/GDP) ratios than in New Zealand.   From his perspective, he’d be keen on more environmental taxes and –  the Elizabeth Warren side in him coming out – on taxing wealth relatively more.

Perhaps somewhat at odds with the environmental point, he made the interesting argument –  with which I’d sympathise –  that we should hypothecate (ring fence, not into general government revenue) revenue from Pigovian taxes, lest government forget why the taxes were imposed (to deter the behaviour) and become reliant on the revenue (eg tobacco taxes).   That sounds fine –  and he went on to note, in the same vein, that his ideal carbon price in 2050 would be zero (carbon emissions would have been successfully eliminated or out-competed) – but it would leave the pot of general revenue not looking any much larger than it is today.   Despite his evident preference for a much larger government, he didn’t dwell on where the credible sources of much higher long-term revenue were in the Green Party’s view of the world.

Deborah Russell, chair of the Finance and Expenditure Committee, and a former tax academic and official, represented the Labour Party.   As she noted, she came along –  rather than the Minister of Finance or Minister of Revenue –  because people would pay less attention to her.  As she noted, Labour doesn’t have much to say because –  having junked a capital gains tax –  they are in “pretty intense” debate as to what their tax policy next year should be.

Russell –  who people seem to regard quite highly –  was an odd mix of the conventional and aspirational.   She ran a very similar line to Shaw in suggesting that we should first identify what we want to spend money on –  while noting that Labour hadn’t done those conversations that well – and only then identify how best to pluck the goose.  Since she went on to answer a question about inequality later, claiming that she wanted New Zealand to be “the most equal” country in the world, wanted “real radical equality” and supported more support for children, including a return to a universal family benefit, it seemed pretty clear that she too wanted a bigger government and thus materially more tax.

But at the same time she was talking about broad agreement on the “broad base low rate” mantra that has (mis)guided New Zealand tax policy for decades –  even though the high tax countries (eg Scandanavia) she seems to admire don’t have BBLR because they can’t (they recognise a need not to overburden business investment).   And she noted that when her Labour people talk about taxing the rich she often reminds them to think harder about “who are the rich?” and how many (few) there might be to pluck.   The Stuff article on this event played up talk that Labour is looking at campaigning on a higher maximum marginal tax rate, although it is hard to imagine there is really much money in such a proposal (and while it is one thing to campaign for higher taxes from Opposition at the end of a tired old’s government’s term –  as in 1999 –  it might be another thing now, campaigning for re-election, with Budget surpluses).

National’s Paul Goldsmith –  who has actually written a fascinating history of New Zealand tax policy –  spoke last.  He was pretty underwhelming on this occasion, perhaps concluding his audience wasn’t likely to be sympathetic anyway. He repeated the BBLR mantra, talked briefly of National’s (sensible) policy of indexing income tax thresholds, and repeated the promise of no new taxes in the first term of a National government.  He sounded quite pessimistic about fiscal prospects –  talking about the risk any new government could inherit material deficits –  which would act as a constraint on any desire National might have to do something more about lowering taxes.  As for growth/productivity/competitivess, all we heard was the short-term stuff about current low business confidence etc.

Question time followed.  James Shaw was challenged on his line, from earlier in the year, that the government wouldn’t deserve to be re-elected if it didn’t introduce a Capital Gains Tax. To his credit I guess, he looked abashed, mumbled a bit, and didn’t really pretend to have an adequate answer.

Herald columnist Brian Fallow asked about low household savings and low business investment/ “capital shallowness” (including the alleged ”overinvestment in housing” and asked what parties were proposing to do.  Here, my view of Russell started heading downhill.   There isn’t a low savings rate, she claimed, just the wrong measures of savings, and as for business investment, why 1 per cent interest rates might bring about desired change –  as if rates aren’t low for a reason –  and repeated that (deeply flawed) Adrian Orr line that interest rates are now just returning to more normal long-term historical levels.   Goldsmith and Shaw at least both suggested that any housing issues were housing market problems and need to be fixed at source.  But not one of the three of them (Seymour had to leave early) even mentioned the company tax rate (or cognate issues).     All three –  Russell and Shaw more than Goldsmith – actually seemed keen on taxing multinationals more heavily.  None showed any sign of engaging with the literature that much of the burden of capital taxation falls on wage earners.

The chair of the Tax Justice Aotearoa group noted that on OECD measures New Zealand is around the middle of the pack on inequality and asked the speakers whether they were happy with that, and if not which country they would aspire to be like.  I’ve already mentioned Russell’s response, although shouldn’t omit her suggestion that as a result we need to look a lot more seriously at what we don’t tax: wealth.  The CGT had been rejected but she argued we need to relook at options that tax wealth.

Paul Goldsmith responded that he wanted to emphasise equality of opportunity, while noting that the state –  rightly in his view –  does lots of redistribution as it is.  James Shaw, while rejecting the idea of a single country to aspire to, was quite open about aligning more with the Nordics –  in his view they had the best outcomes and were the best run.  By contrast we had “emaciated social support over several decades”, and he went on to note that we couldn’t, in his view, have equality of opportunity without much more government spending (“investment”).

It was interesting to hear both Shaw and Russell suggest that there should be more focus on desired outcomes, which should then lead us to design a tax system that would raise the (more) money.    Arguments on that sort of point are part of what politics is about.  But it was also interesting to hear both of them talk about how politicians end up disguising revenue increases in various not-very-transparent guises (levies etc) and how hard it is to make the case for higher taxes (although as Paul Goldsmith noted, one of the striking things of the CGT debate was the way Robertson/Ardern simply didn’t engage in making the case).  Perhaps the left really can make the case for much more spending, much more tax, but their own words suggest they have something of an uphill battle.

As for me, I probably came away still disinclined to vote at all next year.

But, for what it is worth, two final points.  First, it is easy to admire the Nordics.   But they’ve built really strong economic foundations, which we simply no longer have.  Here are the latest OECD real GDP per hour worked numbers

And not one of the speakers showed any real emphasis on getting the conditions right for markedly lifting productivity (not even Seymour, despite the opening reference).    Parties just don’t seem to take the failing seriously, and continued failure to do so will increasingly constrain both public and private consumption/service options.

And, as for wealth taxes, I happened to see this table in a Cato Institute piece the other day.

You might end up favouring a wealth tax for some principled purpose, or just as an “envy tax”, but it isn’t likely to be the sort of option that is going to dramatically transform the size of government, in New Zealand or anywhere else.

Last week I wrote briefly about a short presentation, at a Victoria University event, by tax blogger (and former Treasury/IRD official, former adviser to the Tax Working Group) Andrea Black on what should be done with the company tax rate.  Andrea argued that it should be raised, both to collect more tax from the “rich” and to reduce the evident opportunities for avoiding or deferring tax that differential rates for company, personal, and trust income creates.

Since what I wrote about that was buried in the middle of a long post, I reproduce the relevant section here

I wasn’t really persuaded.  With dividend imputation, the company tax rate in New Zealand bears much more heavily on foreign investors (none of whom needs to be here) than it does on domestic shareholders.  In a country with low rates of business investment and now relatively low rates of foreign investment, it seems cavalier to be calling for increases in company tax rates which the global trend is clearly downwards (at 33 per cent the company tax rate would be the second highest in the OECD).   In defence of her position, Andrea invoked some old IRD analysis that company tax cuts haven’t made much difference to investment –    IRD has a strong institutional bias towards a simple tax system and little real focus on productivity, economic performance or anything of the sort – while noting that “if you did care about foreign investors” –  there were various technical tweaks (I didn’t catch them, but perhaps thin capital rules?) that could be adjusted to compensate them at least in part.

As if to forestall a question, Andrea alluded to this chart I’ve used several times –  a version of which appeared in the TWG’s own background document last year.

Prima facie, it didn’t look as though – by international standards – we were undertaxing business income.

Now, of course, there are some well-recognised caveats to this data.  First, it doesn’t take account of dividend imputation in New Zealand (and Australia, but not elsewhere), and the TWG suggested there were some issues around consistency of treatment of government-owned businesses.  On the other hand, in many countries lots of shares are owned by long-term savings vehicles with much less onerous tax provisions than their peers in New Zealand would have, and our tax system (mercifully) has fewer deductions and “holes” in it.     In yesterday’s presentation Andrea suggested that in many other countries various classes of business income that would be incorporated –  and thus captured in the chart – here wouldn’t be treated the same way in other countries.

All that said, if anyone is seriously suggesting that the chart of OECD data is substantially misleading about the New Zealand position –  say that in truth we might be in the lower half of the chart on an apples-for-apples comparison, the onus is probably on them to demonstrate that more specifically.    The OECD data itself suggests we have taxed businesses quite heavily going back 50 years, to (for example) well before imputation was ever on the scene (chart in this post).  Perhaps it is just coincidence – and I’m certainly not suggesting it is the only factor –  that business investment as a share of GDP has been low by OECD standards throughout almost all that period.

In a comment on my post, Andrea clarified that it was changes to the thin-capitalisation rules she had in mind to mitigate adverse effects on foreign investors.

I’m sympathetic to the idea that New Zealand shareholders shouldn’t be able to shelter income in companies in a way that means that some forms of flow capital income are taxed more lightly than others.  For small closely-held companies, for example, I can see a certain logic to a mandatory distribution of profits (which could then be simultaneously reinvested).

When I heard Andrea’s brief presentation last week, I hadn’t seen her initial post on the issue.   It is worth reading and she presents what looks like persuasive indications that there is more of an issue here than (for example) some people who commented on my post or got in touch privately might have suggested.   For example

Except that overdrawn current account balances – loans from the company to the shareholders- have been similarly growing too. Now sitting at about $25 billion.

And yes this all started from about 2010. And what happened in 2010? Why dear readers the company tax rate was cut to 28% while the trust rate remained at 33%.

Last night Andrea put out a further post on the issue, prompted (it appeared) by my post last week.    It is also worth reading, repeating some of the earlier material but also extending her argument.   For example, in dealing with the foreign investment issues she now suggests another possible response

If the focus was New Zealanders owning closely held New Zealand businesses, an adjustment could be made either by increasing the thin capitalisation debt percentage or making a portion – most likely 5/33 – of the imputation credit refundable on distribution.

I’ll leave you to read Andrea’s case. On its own terms, it makes a fair amount of sense on her terms (and she is much more expert on tax detail than I am) but I want to focus on the issue through a different lens.

Thus, take for example the line –  which apparently originates with IRD –  that we’ve had no more foreign investment since the company tax rate was cut.   Well, here is a chart of New Zealand company tax rate relative to the median OECD country’s company tax rate (OECD data that take account of sub-national taxes as well).

The story of the century, around company tax, is that the gap has been widening between our company tax and those in other advanced countries (with the two local cuts just temporarily closing the gap a bit). At the start of the century, our company tax rate was around the median for the OECD countries, and in 2019 it is just over 4 percentage points higher.  (One could add that the global environment for business investment seems to have been pretty poor over the last decade, not least in New Zealand.)

At present, our company tax rate –  the one that counts for foreign investors –  is just above the upper quartile.

Andrea’s proposal would give us the highest company tax rate in the OECD.   One could adopt the clever wheezes she suggests to limit any adverse effect on foreign investors of raising the rate but (a) our statutory rate is already (now) at the upper end of the scale, and (b) our company tax regime is generally regarded as fewer holes and deduction possibilities etc than many of those in other countries.

And it isn’t as if business investment has been present in abundance in New Zealand.   This chart is from an OECD review of New Zealand from a few years ago.

Focus on that bottom right panel.  The only time business investment as a share of GDP was above that for the median OECD country for a few years was during Think Big – the spectacular government-led misallocation of capital.  And recall that for at least the last 25 years, our population growth has been well above that of the median OECD country, so that all else equal one might have expected more of current GDP to be devoted to investment.

I’ve seen –  but can’t now find –  the OECD data for these graphs back to the 1960s and the picture is similar,  What about the more recent period?

“Business investment” is calculated as a residual. Take gross fixed capital formation and subtract investment spending on new housing and general government investment spending.  When I use OECD data for cross-country tables, I usually take care to check their New Zealand data against what is on the SNZ website.  In this case, GDP, GFCF, and dwellings investment are all identical in the two places, but the general government investment numbers are somewhat different.  So in this chart, comparing business investment as a share of GDP for New Zealand with that for the median OECD country, I’ve shown the New Zealand numbers estimated both ways (ie using OECD and SNZ gen govt investment data).

Whichever line you use, business investment in New Zealand (per cent of GDP) has been materially below that of the median OECD country in most/all years, despite having had population/employment growth far faster than that of the median OECD country.

I am not, repeat not, suggesting that our company tax rate –  or the broader tax regime for capital income –  is the only factor, or even necesssarily the most important factor, in our weak business investment (and terrible productivity growth) record.   Simply that if any government were ever seriously concerned about those failures –  and wouldn’t that be a novelty –  raising the company tax rate looks as though it would be a step in the wrong direction.     If anything, in my view we should be taxing capital income less heavily.  No business has to invest – and no foreign investor has to invest here –  and if you want more of something it isn’t usually a good place to start to tax it more heavily.

And to end on a note that seems to me to –  at least on paper – better balance fairness and efficiency/opportunity, here is my final paragraph about that seminar last week at which Andrea spoke.

I remain tantalised by the idea of a progressive consumption tax. In the abstract, it gets around all the debates on capital gains taxes, realisations (or not), company taxes, gift or inheritance taxes or whatever, and has the appealing the feature of taxing people on what they consume not on what they produce.  Of course, no country runs such a system –  which does have formidable practical issues.   And if one wants to align company and personal rates – which has some appeal (although the Nordic model questions that), better to lower the personal income tax rates by 5 percentage points (max rate to 28 per cent) and add a Social Security Tax of 5 percentage points on labour income up to a certain threshold.  New Zealand and Australia are, as I understand it, the only OECD countries not to adopt some such model (we do it on a very small scale with ACC).

As we wait to learn where the government has setttled on the idea of a capital gains tax, Radio New Zealand had an interview this morning in which their presenter Guyon Espiner talked to a business lobby group opponent (John Milford of the Wellington Chamber of Commerce) of a capital gains tax.   I’m someone who is, at best, sceptical of the merits (and potential revenue gains) of a CGT, but it wasn’t the most effective case made against such a tax.

But what really prompted me to pay attention was when Milford argued that business was already quite highly taxed.  The interviewer responded along the lines of “oh, come on, the company tax rate of 28 per cent isn’t high at all”, and Milford simply let it pass and moved off to a claim that regulatory burdens and other costs were high.

We should not lose sight of the fact that we have one of the highest statutory company tax rates of any OECD country.  Here are the OECD’s own numbers for 2019 (incorporating all levels of government –  some countries, including the US, have state level company taxes as well as national ones).

As almost everyone knows, headline corporate tax rates can mask a multitude of exemptions and deductions.  So here is the data on the tax collected on the “income, profits, and capital gains” of corporates, expressed as a share of GDP.  Data on actual tax collections takes time to compile, so these data are for 2017.

In this particular year, we took the second highest share of GDP in corporate tax revenue.      That rank bobs around a bit from year to year (in the year the Tax Working Group used in their discussion document, we ranked number 1) and it appears to matter a bit whether countries collect taxes from central government entities or not (we do), but no one seriously questions that however one looks at things, New Zealand is one of the handful of countries collecting the highest tax (share of GDP) from corporates.

The picture is further complicated by the fact that New Zealand (and Australia, but almost no one else) runs a dividend imputation scheme, such that for domestic resident shareholders (only), corporate tax is really a withholding tax, and tax paid at the corporate level is credited against the shareholder’s personal tax liability. In most other countries there is a double taxation issue (profits and dividends are taxed with no offsetting credits), and partly as a result dividend payout rates tend to be lower.  (This, incidentally, is one reason why there is a stronger case for a CGT in other countries than there is in New Zealand or Australia.)

Incidentally, here is how corporate tax revenue (same measure as in the previous chart) in New Zealand compares with that of the median OECD country over 50+ years.

If anything, the gap appears to have been widening over the last 25 years or so.

It is worth remembering here that New Zealand is not, by OECD, standards a highly taxed country.  Over that entire 50 year period we’ve been around the median OECD country for total tax revenue as a share of GDP (currently just a bit below).   We also have relatively low levels of capital in our production processes (recall low rates of business investment, relative to population growth, over many decades), and yet we raise among the largest share of GDP from companies of any OECD country.

We also get quite a lot of revenue from taxes on good and services (mostly GST here).

We are also a bit above the median OECD country in the share of GDP taken in property taxes (mostly local authority rates, levied on property).

And, by contrast, the area where New Zealand collects hardly any tax revenue at all, as a share of GDP.

I can’t highlight the New Zealand bar.  There isn’t one.  On this definition, we collect nothing (on other definitions one might include ACC levies, but their equivalent is presumably also excluded in the calculations for other countries).

Most advanced countries fund a significant chunk of their welfare systems (unemployment, disability, age pension) with explicit social security taxes, typically levied only on labour earnings (although some are directly paid by employees, and some directly by employers).  Of course, as the chart indicates there is a wide range in practices, but we (and Australia) are at one extreme, and partly in consequence we are the two OECD countries taking the largest share of total tax revenue in corporate taxes.

Does all this have much bearing on the case for a CGT?  Personally, I don’t think so.   A decent CGT –  that didn’t tax pure inflation and allowed proper loss-offsetting –  would be expected to raise very little revenue over time.   If there is an argument for a CGT it is mostly in some conception of “fairness”, which needs to be weighed up against problems such as lock-in, and of the consequent biasing of asset holdings towards big institutional entities and away from individuals.

But don’t try to use as an argument for a CGT that business activity in New Zealand is lightly taxed.  It isn’t.  In absolute terms, business tax revenue as a share of GDP is currently well above the average for the last 50 years.  In international comparative terms, we tax business activity more heavily than almost OECD country –  and perhaps it isn’t entirely coincidental that we sometimes anguish about why we don’t have more business activity.

I listened to more of Morning Report than usual this morning (kneading hot cross bun dough as I did) and had the misfortune to hear Business New Zealand chief executive commenting on government proposals to crackdown on the “exploitation” of migrant workers.  I haven’t looked into the details, so have no view on the substantive merits of the specific proposals (sympathetic as I am to the cause generally).  But people shouldn’t be able to advance their cause with straight-out lies.  Kirk Hope claimed that what the government was proposing was quite inappropriate in part because we currently have “record low” unemployment.   Perhaps his memory is short, but Business NZ used to have an economist who could have briefed him.  In the absence of that person, here are the data

Perhaps you might want to discount the first 20 years (although it was a real phenonenon), but current unemployment rates haven’t even reached the lows we managed for several years prior to the last recession.   And these days older workers (aged over 65) are a much larger share of the labour force, and naturally tend to have a materially lower unemployment rate (in other words, what might have been unsustainably low 15 years ago, is probably rather more sustainable now).

It is a day for repeating some material from old posts. I haven’t yet read any more than a few news reports on the Tax Working Group’s report.  But I have debated capital gains taxes for years.   This was a post on the topic from 2017.  Here was the gist of my comments.   My bottom-line is that capital gains taxes aren’t the worst thing in the world, but mostly are a distraction from what should be the real issues.

Anyway, here are some of the points I make:

• in a well-functioning efficient market, there are typically no real (ie inflation adjusted) expected capital gains.    An individual participant might expect an asset price to rise for some reason, but that participant will be balanced by others expecting it to fall.  If it were not so then, typically, the price would already have adjusted.  In well-functioning markets, there aren’t free lunches.    It also means that, on average, capital losses will be pretty common too, and thus a tax system that treated capital gains and losses symmetrically wouldn’t raise much money on average over time.   A CGT is no magic money tree.   And there is no strong efficiency argument for taxing windfalls.
• if you thought, for some reason, that people were inefficiently reluctant to take risk, there might be some argument for a properly symmetrical CGT.  In such a system, the government would take, say, a third of your gains, but would also remit a third of your losses (the overall risks being pooled by the state).    The variance of an individual’s private after-tax returns would be reduced, and they might be more willing to take risk.   But, in fact, no CGT system I’m aware of is properly symmetrical –  there are typically tough restrictions on claiming refunds in respect of capital losses (one might only be able to do so by offsetting them against future gains).  There are some reasonable base-protection arguments for these restrictions, but they undermine the case for a CGT itself.
• All real world CGTs are based on realised gains (and losses to an extent).   That makes it not a pure CGT, but in significant part a turnover tax –  if you never trade, you never pay (“never” isn’t literal, but tax deferred for decades discounts to a very small present value).    And that creates lock-in problems, where people are very reluctant to sell, even if their circumstances change or if a new potential owner could make much more of the asset, for fear of crystallising a CGT liability.  In other words, introducing a CGT introduces a new inefficiency to asset markets, making it less likely that over time assets will be owned by the parties best able to utilise them.
• Basing a CGT on realised gains will also, over time, bias the ownership of assets subject to CGT to those most able to avoid realising the gains.  A long-lived pension fund, or even a very wealthy family, will typically be better able to  count on not having to sell than, say, an individual starting out with one or two rental properties, or some other small business, where changed circumstances (eg a recesssion or a divorce) might compel early liquidation.  Large funds are also typically better able to take advantage of loss-offsetting provisions.  The democratisation of finance and asset holding it certainly isn’t.
• CGTs in many countries exclude “the family home” altogether.  In other countries, they provide “rollover relief”, enabling any tax liability to be deferred.  Most advocates of a CGT here seem to favour the exclusion of the family home, even though unleveraged owners of family homes already have the most favourable tax treatment in our system.  Again, a CGT applied to investment properties but not owner-occupied ones would simply trade one (possible) distortion for another.
• In practice, most of the arguments made for a CGT in New Zealand have to do with the housing market.   But, on the one hand, all major (and minor?) parties claim that they have the fix for the housing market (various combinations of RMA reform, infrastructure reforms, changes to immigration, restrictions on foreign ownership, state building programmes or whatever).  If they are right, there is no reason to expect significant systematic real capital gains in houses.  If anything, real house prices should be falling –  a long way, for a long time.    Of course, prices in some localities might still rise at some point, if unexpected new opportunities appear.  But “unexpected” is the operative word.   Enthusiasm for a CGT, at least at a political level, seems to involve a concession that the parties don’t believe, or aren’t really serious about their housing reform policies.
• Oh, and no one I’m aware of anywhere argues that a realisation-based CGT applied to (a minority of) housing has made any very material difference to the level of house prices, or indeed to cycles in house prices.
• In general, capital gains taxes amount to double-taxation.    Think of a business or a farm.  If the owner makes a success of the business, or product selling prices improve, expected profits will increase.  If and when those profits are achieved, they would, in the normal course of affairs, be subject to income tax.  The value of the business is the discounted value of the expected future profits.  It will rise when the expected profits rise.  Tax that gain and you will be taxing twice the same increase in profits –  only with a CGT you tax it before it has even happened.   Of course, at least in principle, there is a double deduction for losses, but as noted above utilising losses (whether of income, or capital) is a lot more difficult.    If you think that New Zealand has had less business investment than might, in some sense, have been desirable,  you might want to be cautious about applauding a new tax that would fall heavily on those who took business risks and succeeded.
• Perhaps double taxation of expected business profits doesn’t bother you.  But trying reasoning by analogy with wages.   If the market value of your particular skills has gone up, your wages would be expected to rise.  When they do you will pay taxes on those higher wages.  But by the logic of a CGT, we should capitalise the value of your expected future labour income and tax your on both that “capital gain” and on the later actual earnings.  Fortunately, we abolished slavery long ago, but in principle the two cases aren’t much different: if there is a case for a CGT on the value of a business, it isn’t obvious why one shouldn’t have one on the value of a person’s human capital.
• (I should note here, for the purists, that there are other concepts of double-taxation often referred to in tax literature, none of which invalidate the point I’m making here.)
• Real world CGTs also tend to complicate fiscal management?  Why?   Because CGT revenue tends to peak when asset markets and the economy are doing well, and when other government revenue sources are performing well.  CGT revenue doesn’t increase a little as the economy improves and asset markets increase, it increases multiplicatively.  And then dries up almost completely.  Think of a simple example in which real asset prices had been increasing at 1 per cent per annum, and then some shock boost asset prices by 10 per cent.  CGT revenue might easily rise by 100 per cent in that year (setting aside issues around the timing of realisations).  And then in a period of falling asset prices there will be almost no CGT revenue at all.   Strongly pro-cyclical revenue sources create serious fiscal management problems, because in the good times they create a pot of money that invites politicians to (compete to) spend it.  If asset booms run for several years, politicians start to treat the revenue gains as permanent, and increase spending accordingly. And if/when asset markets correct –  often associated with recession and downturns in other revenue sources-  the drying up of CGT revenue increases the pressure on the budget in already tough times.     It is easy to talk about ringfencing such revenue (mentally, if not legally) but such devices rarely seem to work.

None of this means that I think there is no case for changes in elements of our tax system as they affect housing.  The ability for business borrowers to deduct the full amount of nominal interest, even though a significant portion of that interest is simply compensation for inflation (rather than a real cost), is a systematic bias.  It doesn’t really benefit new buyers of investment properties (the benefit is, in principle, already priced into the market) but it is a systematic distortion for which there is no good economic justification   Inflation-indexing key elements of our tax system is highly desirable –  at least if we can’t prudently lower the medium-term inflation target –  and might be a good topic for a tax working group.  In the process, it would also ease the tax burden on people reliant on fixed interest earnings (much of which is also just inflation compensation, not a real income).

Of course, at the same time it would be desirable to look again at a couple of systematic distortions that work against owners of investment properties.  Houses are normal goods and (physically) depreciate.  And yet depreciation is no longer deductible.  Perhaps there was a half-defensible case for that when prices were rising seemingly inexorably –  but even then most of the increase was in land value, not in value of the structures on the land –  but there is no justification if land reform and (eg) new state building is going to fix the housing market.    Similarly, when the PIE system was introduced a decade or so ago, it gave systematic tax advantages to entities with 20 or more unrelated investors.  Most New Zealand rental properties historically haven’t been held in such entities.  There is no good economic justification for this distinction, which in practice both puts residential investment at a relative tax disadvantage as a saving option, and creates a bias towards institutional vehicles for holding such assets.  Institutional vehicles have their own fundamental advantages –  greater opportunities for diversification and liquidity –  but it isn’t obvious why the tax system should be skewing people towards such vehicles rather than self–managed options.  As noted above, any CGT will only reinforce that bias.  Funds managers, and associated lawyers and accountants, would welcome that. It isn’t obvious why New Zealand savers should do so.

And in all this in a country where we systematically over-tax capital income already.  I commend to readers a comment on yesterday’s tax post by Andrew Coleman, of Otago University (and formerly Treasury).  As Andrew noted:

Somehow, New Zealand’s policy advising community decided it would restrict most of its attention to the ways income tax could be perfected rather than question whether income taxes (which are particularly distortionary when applied to capital incomes) should be replaced by other taxes. It is almost as if we have the Stockholm Tax Syndrome – fallen in love with a system that abuses us.

A broad-based capital gains tax would just reinforce that problem.

2019 again. I hope the TWG report has dealt substantively with these sorts of points.  But I’m not optimistic.