Why the Coalition’s $20b tax cuts won’t save the economy

Labor may reverse its opposition to the Coalition’s planned $20 billion income tax cut in an effort to boost the economy, following Australia’s slowest year of growth since the global financial crisis.

These savings come under the first two stages of the Coalition’s three-part income tax plan, which was proposed during the most recent budget. The combined changes under both stages are worth up to $2600 for workers earning up to $120,000.

It’s true that the Australian economy is reaching a crisis point. The economy grew by only 1.8% over the past year, its weakest performance since September 2009. The Reserve Bank of Australia cut interests rates to a record low of 1.25%. And the average compensation per employee was up by just 0.4% in the last quarter, or 1.4% over the year.

But are tax cuts the best way to stimulate growth, or merely a temporary patch-job to cover up our economy’s weakening foundations?

What are the proposed tax changes?

Under stage one — which both major parties support — the government promises to more than double last year’s low- and middle-income tax offset for those earning up to $126,000. When combined with the 2018 budget package, this will save $255 for low-income earners, and $1080 for middle-income earners.

Stage two of the plan is set to commence from July 2022. The government proposes to raise the threshold for those paying a 19% tax rate from $41,000 to $45,000, and the 32.5% tax rate threshold from $90,000 to $120,000.

The biggest cuts would come under stage three, which would see everyone earning between $45,000 and $200,000 facing the same 30% marginal tax rate.

While former shadow treasurer Chris Bowen dismissed stages two and three of the tax cuts as “fiscally irresponsible”, Labor has changed tack since the election. The Sydney Morning Herald reported today that Labor might also agree to the second round of changes if the government brings them forward to this July.

“We haven’t come to a final view on the nature or the magnitude of the tax cuts. If they came to us and said they wanted to have a different timing then I would discuss that with my colleagues,” shadow treasurer Dr Jim Chalmers told The Sydney Morning Herald and The Age.

Are tax cuts the solution?

Dr Jim Stanford, director of the Australia Institute’s Centre for Future Work, told Crikey that tax cuts are almost always an ineffective way of stimulating the economy.

“Tax cuts always deliver less bang for the buck than investing in the economy,” Stanford said.

Those set to save the most will be earning over $120,000, well above the national average income according to the Australian Bureau of Statistics. The Centre for Future Work estimates that as much as two-thirds of the total savings from the proposed $20 billion package will go to the top half of income earners.

This is a problem, Stanford argued, because people in this income bracket already “make more money than they can spend”.

“Those are not the people who spend every penny that they get. They will typically stock it aside and that’s exactly why tax cuts are less effective,” he said. “Some of the stimulus leaks out of the economy in personal savings, and that is especially true when you are looking at tax cuts that benefit higher income earners. They don’t spend all the money. They already make more than they can spend.”

Stanford said that if Labor or the government were really concerned about boosting the flagging economy and creating jobs, they would invest in disability services, aged care, and early education.

“One of the biggest job creators for people in the economy is human services. The number of jobs [in those industries] is very impressive but the pay is really bad. So an immediate measure the government could take is increasing support for paying decently wages to those in human and caring services, and increase the total number of services being provided,” Dr Stanford said.

“This would put money directly into people’s pockets, and people who genuinely spend every dollar they get. Plus, the evidence is very strong that expanded child care allows for women’s better workforce participation, and yields better economic output.”

Tax savings also do little to offset the losses from wage stagnation. Simulations run by the Centre for Future Work show that someone earning $60,000 would earn eight times more from normal wage increases than from the proposed taxation changes. This is because the money saved in taxes is much smaller compared to what could be made if wages increased at a healthier rate.

The proposed changes also deliver Australians the same savings or offset each year; by comparison, wage increases line your pockets with a little bit more money every year.

Whether or not both major parties work to pass the Coalition’s tax cuts, it’s clear that the impending deal is less about finances and more about politics.