Should governments be thinking about raising taxes?

Should governments be thinking about rising taxes just now? It may seem like an odd idea at a time when we are facing a severe economic downturn, threatening the livelihoods of millions of people. But as several economists have pointed out, the economic crisis associated with coronavirus is quite unlike an ordinary recession. Unusually, the government shouldn’t be trying to stimulate economic activity – to stop the spread of the virus, it is actively trying to discourage people from buying goods and selling services.

What that means, for as long as aggressive social distancing is in place, is that we have to accept a pretty sizeable economic hit as unavoidable. Given that, I take it that the government’s role is to do three things:

a)  Keep the economy for life-support while we wait for infection rates to fall, by preventing firms from going bust or workers from losing their jobs

b) Speed up the recovery when it is safe to do so, by supporting aggregate demand and building confidence in the economy

c) Spread the inevitable economic pain, so that it is fairly shared across society

Part a), keeping the economy on life support, is going to require a massive increase in government spending. But unlike a normal recession, where we want the government to run a large deficit to inject demand into the economy, I don’t see any inherent benefit to increasing the deficit if we can avoid it. To put it another way, the surge in government spending to support vulnerable businesses and workers is likely to require higher taxes at some point to pay for it – why not start levying those taxes on those that can bear them now?

In relation to c), the economic pain does not seem to be especially evenly spread at the moment. Take, for example, my household: we have two secure incomes, we are both able to work from home. Perversely, we are financially better off as a result of lockdown measures because we are saving money on travel and meals out. The perversity is even greater for those households in the US receiving $1,200 cheques they don’t need. In the interests of sharing the burden, shouldn’t the government be imposing some of the cost of the crisis onto households like mine just now?

It is possible that our share of the pain is coming in due course, through future tax increases. But I see some benefits to increasing taxes now, in the midst of the crisis. Most importantly, the coronavirus lockdown is an unusually propitious time to tax those with some degree of economic security. For as long as the government is actively aiming to reduce aggregate demand, higher taxes can help it achieve this goal. Moreover, higher taxes are less likely to be painful to households in this period when they have less opportunity or physical ability to buy anything.

Raising taxes now can also create a bit more fiscal space for governments to spend or cut taxes in phase b), when it wants to boost demand. In other words, the government should consider raising taxes when it wants to discourage household spending, so that it can cut taxes and raise spending when it wants to encourage household spending.

Finally, it is worth considering the political dimension. Higher taxes have not been an easy sell over the past 40 years. In this moment of national solidarity, when almost everybody recognises the extraordinary scale of the challenge facing us, I suspect it will be easier to convince people to accept tax increases. After all, there is a reason that dramatic tax increases have often come during wartime. Wait until after the crisis has passed, and that goodwill might be lost.

There are a few reasons I might be mistaken here. It could be that plausible tax rises now wouldn’t raise enough to be worth it – perhaps there just aren’t enough economically secure households that we can confidently identify. It could be that I’m underestimating the government’s need to support aggregate demand even in the middle of the crisis. Yes, the government wants to discourage a lot of social contact, but that doesn’t mean it actively welcomes any reduction in spending – spending on online fitness classes or video games is still desirable, I take it. The distinction between phase a) ‘freeze the economy’ and phase b) ‘get it humming again’ might be shorter than I anticipate, in which case there isn’t time to roll out the necessary tax increases. The shorter it is, the less plausible it is that administering new taxes is a good use of government time and energy, which will inevitably be focused on fighting the crisis itself. I might also be underestimating the government’s capacity to absorb all the economic pain in the form of higher national debt over the long-term. All the same, I find it odd that the possibility of increasing taxes just now isn’t being discussed much, despite the unique opportunity the government seems to have.

One comment

  1. […] repaid over the long term, including by tax rises. But as Aveek Bhattacharya, a PhD student at LSE, has argued, there are possible reasons why that logic may not apply right now. It’s not possible (or […]

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