Don’t say ‘tax hike’ lightly

The government will have to revise the overall tax code by increasing the rates if it is really in short of tax funds, instead of tweaking indirect taxes here and there. Next year’s budgetary increase would increase the fiscal deficit, providing another justification for higher taxes. The government has vainly been trying to sustain the president’s campaign promise not to increase taxes to fund new welfare benefits. It might as well face the music and honestly tell the people that it cannot run welfare policy without more revenue.

The government maintains a brave face and insists there won’t be a genuine tax increase. Choi Kyung-hwan, deputy prime minister and finance minister, argued that the tobacco sales tax is being raised to benefit public health, and to box overall revenue. Local governments have been forced to increase taxes on residents and automobiles because they were in a financial squeeze. Choi has offered assurances that the president’s promise not to increase taxes remains intact. But there is no use in arguing that he is wrong. The levies on tobacco and local services are taxes, but the sum is too small to claim the government has reversed its promise not to increase taxes. The government also has not revised up any tax rates in the new tax code announced in August.

Choi said raising taxes could further depress domestic demand and slow an economic recovery, suggesting that there won’t be any other hikes. Strangely, it is the opposition and civilian groups that call for a more universal tax hike to fund universal welfare programs. Why the government and ruling party remain vehemently opposed raising taxes is incomprehensible.

A tax hike refers to increasing revenue through higher tax rates. The tax rate is charged against a tax base. If either the tax base or rate increases, so does the revenue. The government will, of course, collect more if both of the tax rate and base go up. Legislators can raise the rate, but they cannot do anything about the base - or public income. Even if rates are raised, tax revenue could decrease if the base, or assessment or determination on which tax liability is based, goes lower.

In last year’s settlement, tax revenue fell 8.5 trillion won ($8.15 billion) short of the original target due to decreases in taxes on corporations, profits and the securities trade. Since there had not been any changes in tax rates, revenue fell because the base decreased. Fewer taxes were collected because the income base was lower due to slow economy.

Will revenue increase if rates are raised? The opposite could happen. A heavier tax burden on households at a time when they are earning less due to a depressed economy could kill both households and companies. A rate hike could end up further decreasing, not increasing, tax revenue.

According to Hauser’s Law, defined by U.S. economist William Kurt Hauser, U.S. federal tax revenues from 1950 to 2007 have always been approximately equal to 19.5 percent of gross domestic product regardless of fluctuations in the marginal tax rate.

Tax revenue, therefore, hinges on economic growth, not tax rates. When the government writes up the budget proposal for the following year, it appropriates the spending, but has an estimate for revenue. The tax revenue that funds most budgetary spending cannot be collected precisely as planned because it depends on economic performance. What can increase tax revenue is an expansion of the tax base through economic growth.

We can see that boosting tax rates won’t necessarily help tax revenue. Authorities must not resort to tax increases to raise funds for welfare programs. Higher value-added or sales tax rates can boost tax revenue in the short term. The effect of such an increase is significant because it is easier to levy and collect a blanket sales tax. Japan has raised its sales tax in order to ease its fiscal deficit. But an indiscriminate sales tax hike can damp down consumption and economic growth in the longer run. Japan decided to lower corporate taxes to compensate for weaker demand from sales tax hike. But we may not be able to make the same choice.

Before we discuss a tax hike, we must examine what, whom to levy and how. Tax revenue is not a hidden asset or money in a savings account. The government demands a part of what companies and individuals earned from hard work. It is why a tax increase must not be easily muttered. It is disrespectful to the taxpayers.

JoongAng Ilbo, Sept. 24, Page 32

*The author is an editorial writer for the JoongAng Ilbo.

by Kim Jong-soo