GST reform discussion requires facts and analysis, not ideology

Treasury Secretary Martin Parkinson has highlighted structural Budget pressures facing Australia. He wants a conversation about spending cuts and reforms to our tax 'system', including the GST.

Labor won't discuss GST reform. It supported a GST in the mid-1980s, but opposed it in the early- and late-1990s, wanted more GST exemptions in 2001, and barred the Henry Review from considering it in 2009.

Labor says a GST is regressive, hitting the poor more than the rich. Yet, even when we had wall-to-wall Labor governments, not one called for GST abolition. (The states were, and are, too busy squabbling over why each should get a larger share of its revenue.)

Does this 'regressive' argument stack up?

As Parkinson (again) reminds us, we must do everything more efficiently if we are to deal with falling terms of trade, sluggish productivity growth and an ageing population. The alternative is falling living standards. Average real per capita net national incomes have already been falling for the last two years.

Amongst other reforms, inefficient low-income support measures must be replaced. Using GST exemptions or a low GST rate to assist the poor is very inefficient from all perspectives, not least Budget cost.

Suppose we offer the poor, say, $1,000 a year in tax concessions, but do so using a policy that also gives high income earners $2,200 to $2,700 a year. Even if $1,000 is a proportionately larger concession for the poor, most would agree this is a very wasteful approach.

Thanks to Labor and Australian Democrat opposition to the original Howard Government GST in 1999, that is what current GST exemptions for fresh food, health and education deliver. The dollar benefits of these exemptions are far greater for higher income groups than for the poor (see Chart).

Proportion of total household spending on food and health by equivalised income quintile (%)

Source: ABS Household Expenditure Survey, Cat. No. 6530.0, 2009-10 (latest release).

Most of the Budget cost of these exemptions does not go to the groups they supposedly are meant to support. It is sprayed increasingly up the income scale, reducing Budget scope to finance better ways of helping the poor. The top 60% of households get about 70% of the total cost of GST exemptions for fresh food and health. Only about 30% goes to the bottom 40% of households.

Why? Because the rich spend many more dollars on the exempted products than the poor.

Opposition to a higher GST rate to finance lower income taxes, if anything, is even sillier. Relative to a higher GST rate, a lower GST rate confers a dollar concession on the top income quintile nearly three times as large as for the bottom quintile.

The top 60% of households account for about 74% of total expenditure on goods and services. Just over one-quarter is accounted for by the bottom 40%.

Exemptions from taxes on products cannot be quarantined to the poor if everybody buys those products. Worse, the poor get proportionately less of the Budget cost of the concessions than the rich.

By opening up large holes in the GST tax base in areas such as health that are growing faster than the economy, these exemptions also undermine the efficiency and revenue-raising capacity of the GST itself. This means we are forced into more reliance on less efficient taxes, such as income tax in all its variants.

Labor opposition to GST reform implies it supports very inefficient and wasteful ways of trying to help the poor. It also delivers a very inefficient and leaky tax system overall.

What GST reforms are worth investigating?

Eliminate most exemptions and have a broader GST tax base. A New Zealand model would be a good start. For online imports, lower the exemption threshold from $1,000 to something like the current UK and Canadian thresholds (about $20 - $30 or so). Consider raising the GST rate (again, the New Zealand model is worth a close look).

This is not an argument to raise the tax/GDP share in Australia. That depends on progress in rationalizing and reducing public spending. But it is an argument about how to collect current tax levels less inefficiently.

For the states, extra GST revenue should be used in the first instance to replace their remaining inefficient state transactions taxes (notably stamp duties on property and insurance).

If the Commonwealth Budget allows, extra GST revenue (and consequent scope for lower grants to the states) should be used to pay for lower income tax rates.

Labor's GST position is unsustainable. GST reform should be considered, along with reducing income tax.

That combination would improve the efficiency of our tax system. Let's at least talk about it.