Flying a kite: a convertible personal tax allowance












4 thoughts on “Flying a kite: a convertible personal tax allowance”

    1. There are some economists who’d argue that all taxation has a disincentive effect, and so that the slightly lower rates experienced on low pay ought to have slightly less. The empirical evidence doesn’t bear out either the general proposition, or the subordinate one about low pay. In relation to the general argument, studies of incentive effects have been inconclusive: for everyone who’s put off working by higher marginal tax rates, there’s someone else who works more to reach a target income. In relation to the specific case of low paid employees, I’m not aware of any study that offers evidence that varying the personal tax allowance makes any difference. For there to be such an an effect, people would need to know and recognise the relative importance of the tax code compared to other factor; but any effect it had would be confounded by the withdrawal of benefits, by the impact of national insurance contributions, and by the tax regime – people who move into employment will usually have a period with an ’emergency’ tax code, meaning they are not ‘taken out of tax’ – rather, they pay tax for a couple of months even if their previous income doesn’t merit it. There’s really no reason to suppose that changing the level of the tax allowance would have any direct effect on behaviour – but this proposal isn’t doing that anyway. It’s changing how it gets paid, which is something quite different.

      All of that comes from taking your question literally. However, when most people talk about ‘incentives’ they usually mean something else. Some people are concerned with giving rewards for correct behaviour, and there have been tax allowances that ‘send a message’ – the married person’s allowance was supposed to do that – but the personal tax allowance doesn’t. It has much more to do with fairness. It’s a method of calculation – a way of gearing the amount people pay in tax so that people on lower incomes pay less and people on higher incomes pay more. (It doesn’t do this perfectly, but that’s not the main point here.) I think in this case that an argument for fairness becomes an argument for extending the advantage to people on lower incomes more widely.

      This argument only relates to work, not saving. I haven’t made any proposal about the personal savings allowance, or any other tax allowance.

  1. Personal allowances apply against taxation of pensions and other savings as well as earnings. As most MTBs are based on net, post tax, earnings, the allowances do have a direct effect on the return from earnings. I’ve long pointed out, with many others, taht increasing personal allowances doesn’t help the lower paid in the way that politicians trumpet. An increase in allowances increases net earnings which reduces benefits. The MDR is therefore much higher for low paid than higher paid individuals. from that perspective the allowances are a part of the support system and a part of any incentive / disincentive as well. Distributing them as, effectively, a form of BI must open up that argument.

  2. I take the point about savings, but once again I have to say that I’m not aware of any work that establishes that the allowances have any incentive effect. You suggest that “the allowances are a part of the support system and part of any incentive/disincentive as well”. You can’t assume an incentive or disincentive effect; it has to be demonstrated. As I said out the outset, many economists assume that financial or distributive outcomes must change behaviour; that’s a common mistake, but it is a mistake. In the first place, incentives have to be understood at least in terms of costs and benefits, and any statement that something is an incentive ‘other things being equal’ leads to absurd conclusions: a funeral grant is not an incentive, other things being equal, to become dead. You can’t tell what the incentive to work or save is without knowing what the alternatives are. Second, responsiveness to economic stimuli – usually expressed in terms of elasticity – varies. You can’t tell how much effect an incentive might have without that information. You’ll find a detailed set of arguments about the nature and operation of incentives on my open access page.

    It follows from that that I also think most of the incentive arguments raised about BI are bunkum. The incentive argument that’s usually applied to BI is that given the choice between work and leisure, people will not choose to work. There is some contrary evidence – the reports from India suggest that people might be more likely to engage in economic activity, not less – but there is also evidence to back it up: over the course of a century, we have moved from more than 80% of old people working to about 90% not working, and it’s the existence of the pension that has made that possible. From the point of view of economic theory, the problem with that second observation is that it’s taken more than seventy years for it to happen. Incentives are usually conceptualised as something timeless – people maximise their utility instantaneously. The fact that withdrawal from the labour market has taken more so long to materialise suggests that something else is going on – that the existence of pensions has changed the culture and (from the point of view of economic theory) that it’s ‘shifted the curves’. If that’s right, current experiments designed to assess work incentives of BI are probably not going to be able to assess the impact – they won’t be able to predict outcomes unless they run for a few decades.

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