January 5, 2010
The Adam Smith Institute?
This post was first published on the Tax Justice Network Blog. It’s a very short version of a much more detailed piece I wrote when excessively bored in the summer. The long piece has been put in the “Nerd Posts” section. Anybody who wants to take serious issue with my argument had best read the long piece first, and put comments there. But I warn you, it really is long.
The right-wing think tank The Adam Smith Institute (ASI) is in favour of the UK adopting a “flat tax”: see its report, A flat tax for the UK – A Practical Reality (PDF). Such a move would be revolutionary. It would overturn a decades-long consensus that higher earners are subjected to higher tax rates than those who earn less.
Flat tax is an example of a “proportionate” tax: all taxpayers incur the same rate, regardless of income. So, if the rate were 22% (as the ASI suggest) everyone would pay that much, regardless of whether they make £15,000 or £10billion. This is usually attended, however, with the important caveat that a personal tax-free allowance is given to everybody. The ASI advocates a threshold of £12,000 (a bit less than twice the existing personal allowance), below which no tax is paid. Above that everyone incurs the same rate.
This can be compared with “progressive” taxation: as income rises above certain thresholds, the rate at which it is taxed increases. The UK currently has a “progressive” taxation system, so for example once somebody earns more than £37,400, every pound over that threshold is taxed at 40%, but nobody pays tax on the first £6,475 they earn.
If he were alive today, which system would Adam Smith himself have favoured?
Smith’s seminal Wealth of Nations contains a sustained discussion of taxation. But it does not address income tax, because it didn’t exist in his lifetime. Smith does, however, talk about other taxes, and examining what he says is revealing.
Particularly instructive is Smith’s discussion on the maxim of “equality”, and his thoughts on taxing house rents:
“The subjects of every state ought to contribute towards the support of the government, as nearly as possible, in proportion to their respective abilities, that is, in proportion to the revenue which they respectively enjoy under the protection of the state.”
…
“The principal objection to [window taxes on houses] is their inequality, and inequality of the worst kind, as they must frequently fall much heavier upon the poor than upon the rich. A house of ten pounds rent in a country town may sometimes have more windows than a house of five hundred pounds rent in London; and though the inhabitant of the former is likely to be a much poorer man than that of the latter.”
These passages seem to put Smith in the progressive tax camp: he clearly believes that the rich ought to pay more than the poor. Yet things aren’t so simple. Such passages only show that Smith thought the rich should pay more tax in absolute terms, not that they should incur higher rates. These lines are compatible with flat tax.
But there is more:
“A tax upon house-rents, therefore, would in general fall heaviest upon the rich; and in this sort of inequality there would not, perhaps, be any thing very unreasonable. It is not very unreasonable that the rich should contribute to the public expence, not only in proportion to their revenue, but something more than in proportion.”
This passage is important. Smith’s sentiment is being applied not just to house rents, but to contributions towards the “public expence” generally. It is a statement that the rich ought to contribute “something more than in proportion”. It could be equally well expressed by saying that the rich should incur higher rates of taxation, not just pay a bigger total. And this seems straightforwardly incompatible with a flat tax regime, where all contribute to the public purse in equal proportion (albeit minus an initial tax-free allowance). It looks like Adam Smith wouldn’t have supported a flat tax for the UK: he wanted the rich to pay “something more than in proportion”.
Why does this matter? By calling itself the Adam Smith Institute, the ASI implies that its policies are sanctioned by the founder of modern economics. That these are not just tax policies, these are Adam Smith tax policies. Compare, for political effect, “The Adam Smith Institute” vs. “The Right Wingers for Lower Taxes Institute”.
Moving the UK to a flat-tax regime would be revolutionary. It would overturn the consensus that the better-off contribute, as Smith wrote, “something more than in proportion”. We must ask tough questions of a think tank which uses Smith’s name to promote radical changes to our society and economy that he himself probably wouldn’t have supported.
Ed said,
January 5, 2010 at 10:07 am
You also wonder if these people have ever read TMS; libertarianism it is not.
Paul Sagar said,
January 5, 2010 at 11:24 am
Well quite.
Dan said,
January 5, 2010 at 4:40 pm
A couple of points:
Firstly it’s not at all true that Smith didn’t discuss income tax – there is a whole section of TWON entitled “Taxes upon the Wages of Labour”, and as you might expect, he’s firmly opposed to it. (“An inquisition into every man’s private circumstances, and an inquisition which, in order to accommodate the tax to them, watched over all the fluctuations of his fortune, would be a source of such continual and endless vexation as no people could support” is one interesting passage.) So it’s a little disingenuous to imply that he’d be in favour of progressive income tax. If anything, the Adam Smith Institute is deviating from the actual views of Adam Smith by supporting any taxation of income whatsoever.
Secondly, there are perfectly good classical liberal reasons – which I have no doubt Smith would have been aware of – for thinking of taxation of land differently to taxation of income, and I don’t think it’s an accident that the passage you quote arises in the context of house rents. So your inference that since he supports progressive taxation on land and certain forms of property, he would have supported progressive tax on labour is, in my mind, very dubious.
Dan said,
January 5, 2010 at 4:47 pm
(Actually, the passage I quoted is in the context of taxation of interest, but it seems like it should apply mutatis mutandis to income tax. It’s still clear, I think, that AS was against income tax from the section on taxation of wages of labour.)
Dan said,
January 5, 2010 at 4:49 pm
You also wonder if these people have ever read TMS; libertarianism it is not.
Well, I guess I’m one of “these people”, and I’ve certainly read TMS, and I have to say that nothing in it strikes me as particularly contrary to libertarianism. Would you care to elaborate?
Ben Southwood said,
January 5, 2010 at 6:00 pm
Adam Smith, for all his faults (of which there are many) was decidedly a liberal, in the classical liberal tradition, opposed to mercantilism, and other weapons of state-enforced privilege.
The idea of a tax on industry (as in labour, rather than as in business) would have appalled him to his very core. Certainly he supported the existence of taxation, and certainly he thought it should fall more heavily, or perhaps totally, on the rich (remember we are less equal with regards to wealth than with regards to income — a wealth tax would more efficiently target the rich than an income tax).
But his conception of what this tax would pay for was not much more than defence, law courts, police and a level of redistribution. For his purposes, a duty on “excessive” consumption, and maybe a Land Value Tax (as perhaps alluded to in the WoN), totalling something like 5% of national output, would suffice. And that was in a day of extreme poverty in comparison with today. Given the wealth of today, it seems from Adam Smith’s perspective, something like 1%, or 0.5% would suffice for his purposes. So maybe a wealth tax of 0.1%, a duty on alcohol, tobacco, drugs? Who knows what he would support today.
It is clear that he would not support the ridiculously complicated (while drifting into 2nd place for a short while, we have once again convincingly the longest tax code in the world) and absurd tax code of today. We have people paying taxes and receiving benefits. We have income tax credits most of the recipients don’t understand. We have people on minimum wage paying tax at 20%. We have people on just £37,400 paying income tax at 40%. There is no doubt Adam Smith would oppose today’s tax code with most of the fibres of his person.
James said,
January 5, 2010 at 6:23 pm
I cannot be bothered to write an extended response. However, this blog was posted on my facebook, and I wrote some comments to that, which I’ll copy here.
1 The ASI don’t claim their policies are what Adam Smith believe. Although their approach to things is Smithian. So they don’t imply that he supported flat taxes at all … so basically it doesn’t matter at all. In addition, the ASI does not really have a view on any issue, the individual authors have views, but these are the views of the authors not the institute (even if everyone in the institute agrees). When I write on the blog, I write my own views, not those of Eamonn Butler, or any other staff members, or the institute, just my own. Furthermore, the ASI do not agree with lots of Smith’s ideas … the labour theory of value, most classical economics etc. etc.
2 Smith wrote quite a long time ago, if he were around today, he would certainly have different views given the developments of thought.
3 Adam Smith worked in an extremely low tax world….
4 The ASI flat tax is one which ideally only those who can afford to pay tax would pay, so for the sake of politics with an income of over 12000£, and if done properly, with an above average income. Now this is obviously not progressive on those who do pay, but I believe he would be positive about it, perhaps even satisfied because I don’t see the threat of thought in his work of the same ideological nature, more the same ideological undertones I have, which is that taxes should be low (if they exist at all), and taxes should be paid by those who can afford them.
5 Smith was against income tax.
6 Given all the other benefits of a flat tax, cutting costs of collection, predictability, trasnaparency, privacy, reducing deadweight losses, incentives, reduced evasion, compeition, attracting capital and talent, the dynamic element, reducing tax on the poor etc. etc. I’m sure he could be convinced.
1 Regardless it is a non issue…
+ For somebody who feels obsessively opposed to non fully progressive tax, and low tax … they are intuitively going to interpret some of his progressive lines as if this could only mean he ultimately would support them.
Given his opposition to government interference, stated in clear terms over much of his work, I can state with extreme confidence…
that he would not support it. So if he were forced for political sake to support tax, then would prefer a progressive tax for over £25000 with a starting rate of 5% and a ending rate of 20% … to be improved on (and remove altogether if possible)
TMS is not an anti libertarian book. Most classical liberals have compassionate instincts. People who have a pro government bias, tend to think that we are all cold hearted and selfish, and the only reason we support markets is to increase our own wealth, whilst the poor are left to die. This is simply not the case. There is a lot to be said on this topic. To do an extreme summary, government action causes great harm to the poor, markets get good results, and altruism exists in the private sphere as well as the public sphere (although it tends to be less corrupted in the private sphere) and finally, even if you do believe the state must step in, this is no justification for state administration.
James said,
January 5, 2010 at 6:26 pm
“So if he were forced for political sake to support tax, then would prefer a progressive tax for over £25000 with a starting rate of 5% and a ending rate of 20% … to be improved on (and remove altogether if possible)”
correction: to support a tax, and genuinly did believe in progessive taxes like you suggest, then he would prefer a progressive tax for …. [which is low, and is infact lower than the ASI flat tax report suggests)
James said,
January 5, 2010 at 6:28 pm
“So if he were forced for political sake to support tax, then would prefer a progressive tax for over £25000 with a starting rate of 5% and a ending rate of 20% … to be improved on (and remove altogether if possible)”
correction: to support a tax, and genuinely did believe in progressive taxes like you suggest, then he would prefer a progressive tax for …. [which is low, and is lower than the ASI flat tax report suggests]
Paul Sagar said,
January 5, 2010 at 7:45 pm
So much for bothering to write a long post which addresses most of these points, and asking people to read that and leave comments there…
quickly, Dan: “Taxes upon wages” for Smith are not the same as income tax. His discussion is manifestly anachronistic, and that’s why I don’t consult it here. The long version goes into extensive detail as to why. I had to cut that stuff from the short piece for brevity. Ditto re interest.
James, again, i think most of what you flag-up is dealt with in the long piece.
I’d be happy to go into more detail over there, but otherwise I feel I’ll just be repeating what I’ve already written.
Paul Sagar said,
January 5, 2010 at 7:53 pm
Also, Ben Southwood:
“Adam Smith, for all his faults (of which there are many) was decidedly a liberal, in the classical liberal tradition, opposed to mercantilism, and other weapons of state-enforced privilege.”
Whilst this is true, it’s surely somewhat suspect to move from that observation across 250 years of intervening history. Being a “liberal” in Scotland at the end of the 18th Century doesn’t mean being a “liberal” today. So why should it mean being a “libertarian”?
“Who knows what he would support today.”
I agree. But then you write…
“It is clear that he would not support the ridiculously complicated (while drifting into 2nd place for a short while, we have once again convincingly the longest tax code in the world) and absurd tax code of today.”
Which I find somewhat contradictory. I guess I’m being a hypocrite, because I want to make Adam Smith say he didn’t support flat tax, but what I really mean is that it’s anachronistic to attach Smith’s name to present economic and political policy and in fact that sort of thing only serves partisan political purposes.
Again, read the long version. The conclusion is more nuanced there…
Linky love 6th January « Left Outside said,
January 6, 2010 at 11:03 am
[...] Paul Sagar has an excellent post if you are interested in Adam Smith… and a really excellent post if you are really interested in Adam Smith here. [...]
Pigou versus Progress « Left Outside said,
January 11, 2010 at 1:02 pm
[...] larger share of their income in tax than those who earn very little. As Paul Sagar argues that even Adam Smith would probably be in favour of this sort of progressive taxation is [...]
Tim Worstall said,
January 12, 2010 at 1:34 pm
Also posted over there:
“Sadly Paul you’ve missed a very important point. The difference between marginal rates of taxation and average rates.
A flat tax with no personal allowance is indeed not progressive. Everyone pays the same marginal and average rates.
A flat tax with a personal allowance (of whatever sum) is not progressive on marginal tax rates (above that allowance) but is progressive on average tax rates.
Some simple arithmetic. Under the ASI proposals in come of £10,000 has an average tax rate (that is, the tax rate on all income) of 0 %.
An income of £24,000 has an average tax rate of 11% (22% on the £12,000 over the allowance). An income of £36,000 has an average tax rate of near 15%….as incomes rise average tax rates approach 22%.
We thus have rising average tax rates: we have a progressive tax system, one in which the higher incomes pay more in proportion to their income.
Further, the higher the allowance the more progressive a flat tax becomes. Indeed, this particular proposal, with it’s high allowance, works out as a little more progressive than our current income tax system by some calculations.
Paul Sagar said,
January 12, 2010 at 1:57 pm
Tim,
That works as a fair point when we’re looking at the lower-ends of the income scale. But it’s when we look to the top ends, when the mathematical limit is being reached on the 22% minus initial allowance, that the progressive credentials of flat tax really drop-off. Because those earning hundreds of thousands and into the millions see the “progressive” aspect of their tax burdens get ever closer (though naturally, never reaching) the 22% mark.
Under a “progressive” system with different thresholds, those on higher incomes straightforwardly pay higher rates (40%, 50%, etc), and so the jump in their tax burden is high and considerable.
On the one hand, I can’t condemn the ASI/flat taxers’ desires for the poor to receive a lower tax burden. The present £6,000 threshold is pitiful. On the other, I want to retain the principle under which those earning really big sums of money (and yes, I think that being in the top 10% of earners and getting 40,000 or more a year is a really big sum of money) pay a chunk more tax as an absolute percentage, not as an absolute value garnered by their rate of taxation approaching ever closer to the 22% limit.
The longer version of this piece deals with this issue more effectively vis-a-vis Adam Smith.
Tim Worstall said,
January 12, 2010 at 2:16 pm
Now you’re rather changing your tune.
Your original is “Naughty ASI for proposing a proportionate tax system when Adam Smith said there should be some progressivity”.
When it’s pointed out that the ASI proposal is progressive, you now say “Yes, but not as progressive as I would like”.
Which is entirely fair comment but very different from your original argument.
While we’re on the subject of quoting Smith about taxation allow me just to highlight this one:
“in proportion to the revenue which they respectively enjoy under the protection of the state.”
Now if I were to be as manipulative as you have been I would argue that this means that foreign income should not be taxed. For of course the state of the UK does not protect my earnings from the US, or Russia etc. We might even go further: not only should the non-dom rules not be abolished, everyone should be taxed as a non-dom. Only on income arising in the UK.
As with Richard Murphy’s ideas about corporate taxation: you pay the tax where you earn the money.
Paul Sagar said,
January 12, 2010 at 2:26 pm
Actually Tim, my original point, as expressed fully in the long and detailed version of my argument (of which the above is only a summary, and admitedly a provacative one) is that there are good grounds for doubting that Smith woudl have supported ASI flat tax – indeed, that we may want to think very carefully about attributing to Smith positions that he simply couldn’t have held 250 years ago.
Though as I say in the long version, one thing that is clear is that Smith thought taxes on capital were hopeless, as you would get instant capital flight. He’s definitely closer to ASI than TJN there.
But my main point was that the ASI uses Smith’s name as a political device, which I think is fair and true.
The disagreement I have with you (and the ASI) about flat tax not being progressive enough is a different (though related) issue.
My honest, considered opinion on this – and by the way, the OP was written months ago and was languishing on hard drives for a while, and i’ve evolved my thoughts a bit in the meantime – is actually that nobody – your side or mine – is entitled to extrapolate across 250 years and say “Oh, we bear Adam Smith’s legacy!” and use it for partisan ends. Thing is, my side doesn’t do it…
Tim Worstall said,
January 12, 2010 at 2:36 pm
You keep referring to “the longer version” and all I see when I click through the link is something remarkably similar to what is above. Is there some other elsewhere with this longer version?
“Thing is, my side doesn’t do it…”
With Smith? No. Wouldn’t really work big state enthusiasts trying to claim the heritage of a small (but necessary) state enthusiast. But there are plenty who claim the legacy of the Diggers, the Levellers, Rousseau, Marx and Uncle Tom Cobbley and all.
I would say though that it’s extremely odd criticisng classical liberals for claiming the mantle of the founder of classical liberalism. Bit like shouting at civil liberties campaigners quoting Mill or free traders Ricardo or Neal Lawson regurgitating half forgotten pieces of Marx.