Income tax cuts as stimulus
Budgets are about choices. The great joy for me is that budgets make the Government reveal their preferences. While the Government has chosen to talk about jobs, jobs, jobs, its revealed preference is that it wants to hand out money to high income earners. One of the centrepieces of the Budget is bringing forward income tax cuts at a cost of $18 billion.
Handing out money to high income earners is not an effective way to boost employment. High income earners in ordinary times save around a quarter of their incomes. But these are not ordinary times and that means those on high incomes are likely to save more. Stimulus saved does not flow into the economy. It does not increase demand. It does not boost employment. Stimulus saved is stimulus wasted.
The Australia Institute has done a rapid analysis on who gets the tax cuts. This financial year it mostly goes to high income earners with the top 20 per cent getting over 40 per cent of the benefit. The tax cut this year includes bringing forward stage 2 (which mostly benefits high income earners) and the Low- and Middle-Income Tax Offset (LMITO) which benefits low- and middle-income earners at the end of the financial year. The breakdown of the beneficiaries by decile is in Figure 1.
Next year the LMITO is removed and the temporary tax cut to low- and middle-income earners disappears. All that is left is stage 2, which sees almost all the benefit go to high income earners. The top 20 per cent get over 90 per cent of the benefit. The bottom 30 per cent get nothing and the bottom half get just four per cent. The distribution of the tax cuts by decile for next financial year is shown in Figure 2.
It is clear that most of this tax cut will go to those who are far more likely to save it. Saving the tax cut is made worse during an economic crisis. People who are worried about losing their job are not keen to spend. Any additional money they get is likely to be used to pay down debt and increase savings in order to create a buffer against the growing uncertainty that they are feeling. Australian Bureau of Statistics figures have shown the average savings rate has increased from six per cent to 20 per cent.
The Australia Institute has crunched the numbers and we calculate that, even assuming that none of the tax cuts were saved, they would only create 30,000 additional jobs next year. This is much less than the estimate of 50,000 extra jobs that the Treasurer announced.
But even 50,000 is far less than the number of jobs that would be created if the Government had invested the same amount of money in employment intensive industries like universities, childcare, creative and performing arts, age care and healthcare. If the Government had invested the tax cuts into these industries, then it would have created 210,000 jobs, or 160,000 more than the Government is estimating.
The most perverse outcome of these tax cuts is in the fact that a large part of the tax cut going to low- and middle-income earners is temporary while all the tax cut that is going to high income earners is permanent. This leads to a situation where low- and middle-income earners will pay more tax next financial year than they pay this year. Effectively they face a tax increase next year when compared to this year.