Philippine Politics: As Predicted, Cigarette Sin Taxes Backfires, Tax Revenues Fall as Smuggling Explodes

As I have repeatedly been saying, people’s actions are guided by incentives. Raising taxes, such as the Sin Tax, reshape people’s incentives. And people respond to a change in the tax environment based on the elastic relationship between rates of taxes and the levels of revenues from such rates (Laffer Curve). Such variability in people's reactions usually goes in the opposite direction from the expectations of the government and their favorite ‘tax, economic and finance’ experts, as well as, the consensus who thinks in linear terms.

And because taxes don’t have “neutral” effects on people’s behavior, the result has been a policy boomerang.

I have noted incumbent domestic politicians have used the moral platform (supposedly to prevent or reduce vice) as pretentious cover to justify “Sin taxes” on what truly has been political greed—insatiable deficit spending.

Part of the linear thinking expert advisory group has been the IMF whom has endorsed such repressive taxes.

I have pointed to the US experience where 'Sin Taxes' caused widespread smuggling. Not only in the US, in the United Kingdom, alcohol sin taxes has prompted for increased health problems and a booming informal or shadow economy.

Yet like all prohibition laws, quasi prohibition decrees like the sin taxes fail to reduce alcohol or cigarette consumption. 

One might add as a way to get around such regulations, sin taxes promote corruption

Now the unintended effects of the Philippine version ‘sin tax’, from the Inquirer:

Blame it on the law of unintended consequences.

When the Aquino administration pushed Congress to raise the level of “sin taxes” on tobacco products last year, cigarette manufacturers argued that higher levies would create new problems for the government, like smuggling.

According to them, the resulting increase in cigarette prices would give more incentives to unscrupulous parties to smuggle in cheaper brands and meet the demand from less affluent buyers.

Today—almost one year into the effectivity of the Sin Tax Reform Law—their warnings have proved almost prescient.

Information provided by the country’s largest tobacco manufacturer showed that the government may have lost as much as P4.4 billion in tobacco excise taxes in the first semester of the 2013 alone.

The first series of the two part article puts the blame of the tax loss burden to a single company. And as usual, the mainstream excuse has been one of regulatory lapse (and scheming entrepreneurs) rather treating such as a political economic phenomenon. 

As a side note, the mainstream's solutions to social problems can be simplified in 4 ways: throw money at the problem, replace the perceived delinquent authority/ies, and for the politically incorrect entities, apply or increase regulations or impose prohibitions and lastly implement taxes for the other groups. There hardly has been the perspective where these solutions can be or have earlier been the source of the problem.

Yet another article suggests that there has been an explosion of cigarette smuggling. Recently, Php 18 billion pesos worth of Marlboro cigarettes has reportedly been seized by officials. In addition, according to the same report sales of tobacco companies plummeted by 40% during the 1st quarter of 2013 resulting to a decline in tax collections

And all the above symptoms—shadow economy, smuggling, lower revenues, failure to stem vice/s, greater health hazard (from counterfeit or low quality products)—of sin taxes captured by this opinion column from the Inquirer

The high tax regime has been in force since January. Has it forced smokers to quit? No. Has it pushed street prices of cigarettes high enough to make smokers quit? No. Has the government been able to collect more taxes? Still no.

Worse, what Filipinos are smoking now is much more harmful to their health than what they used to smoke. What happened?

Smuggling. When the “sin tax” was being crafted, this column warned that cigarette smuggling would flourish, as had happened here before and in other cities when taxes were raised drastically. It is happening now.

Smuggled cigarettes sell for P1 per stick, less if you buy by the pack. They are sold out in the streets, in sari-sari and convenience stores everywhere with posters that scream “low prices!” at every passing man, woman, and child.

Unfortunately, smokers who can buy cheap cigarettes tend to smoke more and are not financially motivated to quit. Already, 25 percent of Filipino smokers of higher-priced premium and subpremium brands have shifted to the smuggled P1 brands.

In the Philippines’ 100-billion-stick market, that translates to 25 billion sticks or 1.25 billion packs that should have been taxed at a higher rate of P25 per pack, instead of just P12. The government is losing about P16.3 billion in taxes per year.

Statistics show that contrary to expectations, the smoking rate among Filipinos has not subsided since Republic Act No. 10351 was implemented.

It has gone up instead. The average daily consumption has grown from 13.5 sticks per smoker in the first quarter of the year to 14.1 sticks per smoker in the second quarter.

The increment may be slight but it is certainly puzzling. The reason is the raging popularity of cheap smuggled cigarettes.

Philosopher George Santayana once warned about people who don’t learn from past as doomed to repeat the same errors.

Obviously politicians and their apologists can hardly ever grasp that populist feel-good noble-sounding repressive policies such as the sin taxes (which really have been engineered to generate votes or approval ratings) have been bound for failure from its inception.

This reminds of me of the fatal conceit by politicians who believe that they can subvert the basic laws of economics. 

Even in the 18th century Scottish philosopher Adam Smith recognized this which he branded as the "man of the system" (Theory of Moral Sentiments, Part VI Of the Character of Virtues)

The man of system, on the contrary, is apt to be very wise in his own conceit; and is often so enamoured with the supposed beauty of his own ideal plan of government, that he cannot suffer the smallest deviation from any part of it. He goes on to establish it completely and in all its parts, without any regard either to the great interests, or to the strong prejudices which may oppose it. He seems to imagine that he can arrange the different members of a great society with as much ease as the hand arranges the different pieces upon a chess-board. He does not consider that the pieces upon the chess-board have no other principle of motion besides that which the hand impresses upon them; but that, in the great chess-board of human society, every single piece has a principle of motion of its own, altogether different from that which the legislature might chuse to impress upon it. If those two principles coincide and act in the same direction, the game of human society will go on easily and harmoniously, and is very likely to be happy and successful. If they are opposite or different, the game will go on miserably, and the society must be at all times in the highest degree of disorder.

At the end of the day, it is society who carries the load or who pays for the costs of failed experiments by political authorities. This is why the same errors have been recycled through time.

Shinzo Abe Increases Sales Tax as Japan’s Industrial Output Slumps

We have been repeatedly told that Abenomics or Japan’s version of central bank inflationism will deliver the magic economic growth formula for Japan's seemingly perpetual stagnation.

Lately media, banking on surveys, say that one source of optimism has been in the manufacturing index, which in August rose to 52.2 from 50.7. This has supposedly even risen to 52.5 in September. 

And unfortunately like in Europe, what people say and what people actually do have been different.

Contra surveys, real Industrial output DROPPED in August, according to the Wall Street Real Time Economics Blog (bold mine)

In a sign that Prime Minister Shinzo Abe’s aggressive economic stimulus has only produced mixed results at best so far, industrial production dropped a larger-than-expected 0.7% in August from the previous month, according to the Ministry of Economy, Trade and Industry on Monday. Economists were looking for a more modest 0.4% fall…

By category, output for consumer durables, such as passenger cars, refrigerators, TV sets and notebook computers, fell an average 2.5%.

“Recent data show that a larger portion of household income needs to be spent to pay for basic necessities, leaving much less money for discretionary items,” said the ministry official briefing reporters.

The prices of daily necessities, such as energy, have been on the rise recently as businesses started passing on the higher costs of imported goods to consumers amid a sharply weaker yen.

Output was also down in the important export sector. Production of capital goods, which are largely for export, fell 1.7%, despite the recent weakness of the yen, which should make Japanese exports more competitive. “Exporters are using a weaker yen to rebuild profit margins rather than cutting prices and boosting exports. We are waiting for them to start cutting prices and boosting output,” the briefer said.

The only good news for Mr. Abe in the figures was itself something of a mixed blessing. There was strong demand for cement and other bridge construction materials, on demand from expressway operators. Output was up 1.3% for the fabricated metals category, and up 1.0% for the ceramics and stone category

Media blames the fall in industrial production on Consumer Price Inflation (CPI).

The reality is that the bulk of Japan’s consumer price inflation for August appears to have been largely concentrated on energy and energy related expenditures such as light and transportation (red rectangles). Excluding energy (and food), Japan’s CPI even FELL by .1% annualized (lower green rectangle).

With input prices rising faster, businesses in Japan are having a difficult time passing these costs to the consumers as I explained before. So a squeeze in profits, which are distortions on economic calculation and therefore a drag on economic coordination activities, has been prompting for reduced output; no matter what media and their apologists say.

And the increases in cement and construction materials is a sign of government induced output. 

Thus, the industrial data reveals that the private sector has been reluctant to participate in real economic activities, while government activities has been bolstering statistical economic growth. Yet statistical growth is being touted as an excuse to raise taxes.

This fall in industrial output appears have been reinforced by Japan’s joblessness which likewise soared in August. Again from another Wall Street Real Times Economics blog

The main unemployment reading came in at a surprisingly high 4.1% in August, the government said Tuesday, the first rise in six months and an apparent dark cloud on a day of otherwise bright economic data. It was also higher than the 3.8% predicted by economists surveyed by The Wall Street Journal.

Media has been quick to defend this by saying that the August spike has been due to more people entering the workforce. 

However, logic tell us that when businesses dithers on investing, so will this be reflected on employment....unless the government goes on a hiring binge.

The reality is that all these extoling or media worship of Abenomics represents a (propaganda) justification for Japan PM Shinzo Abe’s call for higher taxes and more inflationism and interventions—which of course benefits the cronies than the economy.

And today PM Abe raised taxes. From today’s Reuters:

Prime Minister Shinzo Abe took a long-awaited decision to raise Japan's sales tax by 3 percentage points, placing the need to cut the nation's towering debt ahead of any risk to recent economic growth, as he now focuses on crafting a broader package of measures to address both problems further.

Mr. Abe on Tuesday promised more stimulus to cushion the impact of the sales-tax rise on the economy, stressing the nation needs both fiscal consolidation and economic growth to end 15 years of debilitating deflation.

The stimulus measures total around ¥5 trillion ($51 billion), including cash-handouts to low-income families, Mr. Abe said. On top of that, there will be tax breaks valued at ¥1 trillion for companies making capital investments and wage increases.

The so-called statistical growth of Japan’s debt laden economy has recently been driven by government spending rather than from the private sector. The industrial output data, as noted above, reveals of such disparity.

The implication is that Japan will need more debt to finance all these noble sounding crony benefiting boondoggles which will only extrapolate to increasing debt and consequently the burden of debt servicing.

And it is a mistake to believe that tax hikes will proportionally raise the required revenues for the simple reason that people respond to incentives (whether positive or negative) brought about by such policies.

Café Hayek’s Don Boudreaux explains

The reason for these outcomes is that people respond predictably to incentives – in this case, to incentives created by higher taxes.  Obliged, for example, by such a tax to pay a higher price for apples, consumers will not buy as many apples as they bought before the tax hike. Similarly, obliged – because of the tax – to accept a lower take-home price on each pound of apples sold, sellers aren’t willing to sell as many pounds of apples with the tax as they were before the tax was raised.

So Abenomomics runs a greater risks of generating lower rather than higher revenues overtime as real (not statistical) economic growth weakens further.

As I wrote three weeks back:

Raising sales tax or whatever taxes will only accelerate the downside spiral of Japan’s economy. Japanese investors have already been reluctant to invest, how would higher taxes encourage investments and more economic output?

Even a former adviser to billionaire George Soros and now a member of Japan’s upper house of parliament, Takeshi Fujimaki reportedly joined politics because he sees the inevitability of Japan crisis which he sees will occur in 2020.

With Japan’s government’s government intensifying the ponzi financed debt spending spree, I believe that a Japan credit event is likely sooner than later (2020)

Finally, seen from the yen (USD-JPY), the wonders of Abenomics seem to be stalling. This has big implications. A falling yen is a manifestation of the effects of the BoJ’s inflationism. If the yen refuses to fall further then the “inflation” on Consumer Price Index will have hit a wall. 

So this means either the current boom will turn into a bust or that PM Abe will have to significantly ante up on Abenomics via an even more aggressive BoJ.

Tick toc tick toc.

War on Savings: Australia Doubles Retirement Taxes

Crisis or no crisis, Cyprus may have set a trend for governments to seek ways to tax private sector savings. 

Australia has reportedly doubled taxes on retirement savings.

Here is the eloquent Simon Black of the Sovereign Man

Though Australia’s national balance sheet is comparatively quite strong, the government has been running at a net deficit for years… and they’re under intense pressure to balance the budget.

The good news is that Australia now has a goodly number of investor-friendly immigration programs designed to bring productive foreigners into the country, similar to the trend we’re seeing across Europe.

On the flip side, though, the Australian government has just announced new rules which penalize citizens who have responsibly set aside savings for their own retirement.

Any income over A$100,000 drawn from a superannuation fund (the equivalent of an IRA in the United States) will now be taxed at 15%. Previously, all such income was tax-free.

The really offensive part about this is that the government is going to tax people’s savings ‘on both ends,’ meaning that people are taxed on money they move INTO the retirement fund, and now they can be taxed again when they pull money out.

The Cyprus debacle drew a line in the sand– fleecing people with assets, or income, in excess of 100,000 dollars, euros, etc. is now acceptable. This is the definition of ‘rich’ in the sole discretion of governments.

And make no mistake– if it can happen in Australia, which still has reasonable debt levels despite years of deficit spending, it can happen in bankrupt, insolvent nations like the US.

We can see from the following charts why.

The Australian government has embarked on a spending spree since 2009. Australia’s fiscal balance has been deteriorating since.

This shows of the Emmanuel Rahm syndrome or Austrian economist Robert Higgs’ ratchet effect where crises have always been an excuse to justify government expansion.

And by doing so Australia’s government has been ramping up debt. External debt grew by about 30% since 2009, while debt to gdp has began to reverse from years of austerity or fiscal “discipline”. 

And as I have earlier pointed out, Australia has also been manifesting signs of bubbles

Australia’s credit to the private sector as % to gdp is now about 128%

 

While the banking sectors exposure account for 145.76% of the gdp in 2011.

And like almost every country, low interest rates have been a principal factor in driving credit expansion

Despite the above, Australia’s stock market has hardly recovered from the 2008 global financial debacle. (all the wonderful charts above are from tradingeconomics.com)

This means much of the credit expansion has been directed to the property sector, as measured by the phenomenal manic growth of housing prices (chart from vexnews). 

This proves that much of today's statistical economic growth have been Potemkin Villages

Yet once the global pandemic of bubbles pop, we can expect governments coordinate the dragooning of the public’s resources via more confiscation of savings to advance the interests of the political class via bailouts and more quack Keynesian fixes.

Of course this relationship will persist until people tolerate them. However, eventually the curse of the laffer curve will prevail or a financial repression (tax) revolt can also be an expected response.

Laffer Curve Russian Edition: 300K Entrepreneurs Quit over Taxes

Politicians hardly ever consider the economic effects of their actions. They almost see things as operating in a stasis.

Well here is another instance of the Laffer curve (elasticity of taxable income) in action, this time in Russia

From Rianovesti or en.ria.ru

Almost 300,000 self-employed Russians have quit business in Russia in the past three months due to social tax hikes, an Economics Ministry official said on Monday.

From January 1, 2013, the Russian government doubled the annual fixed-sum social security tax for individual entrepreneurs to 36,000 rubles ($1,200), in a move that directly affected babysitters, housemaids, tutors, handymen and other self-employed Russian workers earning 50,000-100,000 rubles a year.

“The new tariffs that came into force from January 1, 2013 and doubled the taxation base for fixed-rate payments reduced the number of individual entrepreneurs by 293,421 people between December 2012 and February 2013,” said Natalia Larionova, director of the ministry’s department for small-medium enterprise business and competition.

That represents 7 percent of the total number of individual entrepreneurs registered in Russia, she said.

Bottom line: When you tax something you get less of it. On the other hand when you subsidize something, you get more of it.

Curse of the Laffer Curve: Why Manny Pacquiao Prefers His Next Fight Outside the US

Boxing legend Manny Pacquiao seems to have joined the list of celebrities in implicitly denouncing class warfare policies by voting with their feet. 

More signs of the curse of the Laffer curve (elasticity of taxable income) in motion.

From Yahoo.com

Manny Pacquiao's chief adviser insisted Monday that the Filipino superstar's preference is for his next bout – a fifth fight against Juan Manuel Marquez – to take place away from Las Vegas, with the off-shore Chinese gambling resort of Macau emerging as the "favorite."

Michael Koncz told Yahoo! Sports that the 39.6 percent tax rate Pacquiao would face if he were to fight again in the U.S. makes a fall bout in Las Vegas "a no go."

Promoter Bob Arum is hopeful of arranging a fifth match between Pacquiao and Marquez in the fall, potentially on Sept. 14. Arum's preference is for the fight to be at the MGM Grand in Las Vegas, which is his company's home base.

But Arum and Koncz say Pacquiao is balking at the additional money he'd lose to the government if the fight were held in Las Vegas. Arum said Pacquiao would not have to pay taxes if the fight takes place in casinos in either Singapore or Macau.

"Manny can go back to Las Vegas and make $25 million, but how much of it will he end up with – $15 million?" Arum said. "If he goes to Macau, perhaps his purse will only be $20 million, but he will get to keep it all, so he will be better off."

Mr. Pacquiao appears to have learned his lessons from his domestic experience.  

Philippine tax authorities has continually been pressuring, if not harassing, by filing criminal charges against him for "failing to present his tax records"in 2012. 

The persecution of Mr. Pacquiao may have been politically motivated. This can be traced to his previous endorsement of the opposition in the 2010 presidential elections, as well as having joined the opposition political party of led by vice president Jejomar Binay (PDP Laban) in 2012.  Mr. Pacquiao has also been known ally of the ex-President GMA.

Nonetheless international celebrities opting to vote with their feet, which serves as an implicit tax protest, signifies as more bad news for the welfare-warfare state.

Tina Turner Renounces US Citizenship: A Tax and Privacy Issue?

Well, it would seem that the curse of the Laffer Curve and the welfare state has not only affected the French, American celebrity Tina Turner has reportedly renounced her US citizenship to become a Swiss.

From the International Man,

Pop legend Tina Turner has announced that she will give up her US citizenship and become a citizen of Switzerland.

The most interesting part of this story is that she is renouncing her US citizenship even though she was not required to. Both Switzerland and the US allow dual citizenship.

It was her choice to renounce, and that choice has serious costs.

Turner, whose net worth likely meets the criteria to be stuck with the so-called US Exit Tax (for those with a net worth of more than $2 million.) This means that upon expatriation, all of her worldwide assets will be taxed as if they were sold at fair market value – a steep price indeed.

Other factors must have played a role in her decision to renounce and incur such costs when she was not otherwise forced to.

Turner has not explicitly explained why she is renouncing her US citizenship – nor would she be wise to, which would only attract even more scrutiny. She probably weighed the pros and cons of keeping her US passport, which offered her limited benefits and immense liabilities.

It probably was not tax related, Switzerland itself is a high tax environment for its citizens.

Perhaps an important feature of Switzerland for her is its respect for privacy.

Contrast that to the US government's blatant disdain for privacy. Under the pretexts of the various never-ending "wars" (drugs, terrorism, organized crime, tax evasion, etc.) the US government has essentially destroyed privacy and often treats its citizens as if they were prison inmates.

Tina Turner’s apparent quiescence on the reasons for her actions has obviously meant to suppress controversies from the politically correct crowd.

She perhaps learned from the recent experience of golf superstar, Phil Mickelson, who publicly hinted of leaving California for another state, due to tax reasons, that has drawn unnecessary ruckus from the sanctimonious left.

Obviously these would seem as symptoms of the developing social strains from partly from tax hikes brought about by Obamacare, the Fiscal Cliff deal and others, where media only sees the actions of the ‘celebrities’.

Yet all these politicization; expanded intrusions and expropriation of private property, increases the risks of political instability, artificially booming financial assets from inflationism, notwithstanding

Symptoms of Welfare Crisis: French Actor Gérard Depardieu Joins Ballooning Lists of Tax Exiles

French actor Gérard Depardieu joins the growing list of wealthy French residents fleeing “soak the rich” politics.

The increasing number of so-called "tax exiles" is one of the major symptoms of the chronic disease called the welfare state crisis.

From the Telegraph.co.uk 

French actor Gérard Depardieu has set up legal residence in a Belgian village just over the French border to escape his country's punitive taxes, the local mayor has confirmed.

The 63-year-old star has bought an unglamorous-looking former customs official's house in the village of Nechin, a stone's throw from the nearest French town of Roubaix.

The corpulent screen icon is the latest rich Frenchman to flee the country ahead of a new tax of 75 per cent on all earnings over one million euros - around 850,000 pounds. Belgium's top rate is 50 per cent.

Around a third of the 2,800-strong population of Nechin was already French, the village mayor Daniel Senesael said.

The Depardieu case once again exhibits of how people’s incentives are shaped by social policies.

Apparently new repressive tax policies have breached Mr. Depardieu’s tax paying tolerance threshold level for him to consider voting with his feet and become a "tax exile". 

This could be seen as the curse of the Laffer curve.

Obviously the current tax policies have been meant to preserve the nation’s unsustainable welfare state. As this Op ED from Forbes.com notes,

In 2009, 11.2 million French persons received welfare payments, out a total population of 65.3 million. This amounted to $78 billion in payments. Moreover, these 11 million beneficiaries have families (parents, spouses, children); thus, more than 35 million people are actually benefiting directly or indirectly from welfare payments, which is more than 50 percent of the French population.

France’s welfare state may have seemed to work before, when there had been enough resources from productive citizens for the government to forcibly redistribute. But such era's curtains have been coming down.

Demographical forces particularly declining fertility rate amidst higher life expectancy, diminishing economic freedom and increasing politicization of the marketplace has led to a marked decline in relative global competitiveness according to the World Economic Forum. 

All these have combined to reduce the nation’s capability to finance the bulging welfare state.

And repressive tax policies have been the recourse of increasingly desperate French politicians wishing to maintain a highly fragile welfare based system based on debt and taxes. 

Yet myopically imposing stratospheric taxes on the rich seems to be backfiring as manifested by the expanding number of tax exiles. 

This seems similar to the recent experience in the United Kingdom, where 2/3 of the rich has recently disappeared.

Worst, aside from a growing anti-business environment from politics, the welfare state has been promoting a deepening culture of dependency. 

France has fallen to a poverty trap, says the same Op Ed from the Forbes.com, 

Since work cannot significantly bring a real improvement in daily life, it is better to stay “poor” and do nothing, which is not rewarding. Assistantship becomes more important than entrepreneurship.

A looming French debt crisis will likely represent as the proverbial final nail in the coffin for the centralization fantasies of the unelected bureaucrats in Brussels which should lead to more political instability in the region.

I worry that the risks of war is greater in the Eurozone (than in Asia) which may be triggered by the EU’s abrupt disintegration. 

And another thing. Here is another symptom of French entropy; there have been proposals for scheduled lighting outrages or a lighting ban in Paris, which has been popularly known as the "City of Lights", in order to "save energy". Beautiful Paris now a victim of politics.

Dividend Cliff: Dividend Payments by US Companies Triple

People respond to incentives. Social policies influence people incentives to act.

Prospects of higher taxes on dividends has prompted many companies in the US to issue dividends three times last year’s amount.

From CNBC.com

More than 110 companies have announced special dividends totaling more than $22 billion this quarter – more than three times last year's fourth-quarter total,according to Markit Equities Research. The payouts are aimed at beating a potential increase in tax rates for dividends.

Dividend payments are currently taxed at 15 percent, but the rate could go to 43.4 percent for some top earners if the Bush-era tax cuts expire.

The total taxes paid on that $22 billion of dividends will be around $3.3 billion – $9.5 billion less than next year's potential taxes.

All shareholders benefit from the dividends, of course. But some of the biggest beneficiaries are corporate insiders and large shareholders. The companies paying accelerated dividends have an average insider ownership of 27 percent — higher than the broadermarket, according to Markit.

The question is if these dividends have been frontloaded? If yes, then dividends payments will fall and the tax revenues from tax increases on dividends will also decline which extrapolates to the Laffer curve in motion.

And if many public listed companies opts to withhold or reduce dividend payments in the coming year/s, then theoretically, this won’t bode well for the stock market

 

That’s because since 1930 dividends have accounted for 40% of total returns (chart from Absolute Return Letter)

This just goes to show how insidious "class warfare" business hostile policies can lead to unforeseen adverse outcomes.

Statist Tax Fantasies Unmasked: Two-Third of UK Millionaires Vanish

Once again, reality has made an abject spectacle of popular statist’s fantasies about “class warfare” or “soak the rich” tax policies where tax rates are seen as having linear effects on tax revenues. 

The axiom “if you tax something, you get less of it” seems to have been proven valid anew.  

In Britain, 2/3 of millionaires swiftly vanished (or in just a year!) in the face of 50% tax rate increase. 

From the Telegraph, (bold mine)

Almost two-thirds of the country’s million-pound earners disappeared from Britain after the introduction of the 50p top rate of tax, figures have disclosed.

In the 2009-10 tax year, more than 16,000 people declared an annual income of more than £1 million to HM Revenue and Customs.

This number fell to just 6,000 after Gordon Brown introduced the new 50p top rate of income tax shortly before the last general election.

The figures have been seized upon by the Conservatives to claim that increasing the highest rate of tax actually led to a loss in revenues for the Government.

It is believed that rich Britons moved abroad or took steps to avoid paying the new levy by reducing their taxable incomes…

Far from raising funds, it actually cost the UK £7 billion in lost tax revenue.

The above account shows that amplified elevation of tax rates equals a considerably smaller tax base and significantly lower tax revenues. Maybe politicians should learn about the Laffer curve or the elasticity of taxable income.

In terms of politics of taxation, the Philippines seems to have a parallel experience: When taxes on gold sales were substantially raised, this prompted for a surge in gold smuggling and a similar collapse in tax revenues.

The same phenomenon will likely beset the local version of the proposed sin taxes, which is being pushed by international agencies as Moody’s and the IMF. 

As side note, is the Philippines in a crisis for them to keep intervening by pushing absurd policies (higher mining taxes, SMS tax etc...) and whetting on the insatiable spending appetites of local politicians for a debt financed consumption driven model of economic development?

Yet the blowback from its legislation will likely boost the informal economy and lubricate further corruption, in the same way sin taxes failed in the UK,

We should learn from the lessons from the unmasking of, or the blatant failures of political magical thinking.

More Taxes Equals More Revenues?

More Taxes Equals More Revenues?

Not so fast.

The fundamental law of economics are always at work to defy conventional wisdom.

Here is a great example.

From Reuters, (bold highlights mine)

Cash-strapped Bulgaria and Romania hoped taxing cigarettes would be an easy way to raise money but the hikes are driving smokers to a growing black market instead.

Criminal gangs and impoverished Roma communities near borders with countries where prices are lower -- Serbia, Macedonia, Moldova and Ukraine -- have taken to smuggling which has wiped out gains from higher excise duties.

Bulgaria increased taxes by nearly half this year and stepped up customs controls and police checks at shops and markets. Customs office data, however, shows tax revenues from cigarette sales so far in 2010 have fallen by nearly a third.

"The government created something unique. We actually now have a whole industry that provides for a big group of people," said Tihomir Bezlov of anti-corruption think-tank Center for the Study of Democracy.

Cato’s Dan Mitchell calls this the wonkish Laffer Curve at work.

But I like Professor Mark Perry’s simple quote, “If you tax something, you get less of it”

The higher the taxes, the likelihood of a larger informal economy, smuggling, corruption and inefficient allocation of resources as shown above.

Even the IMF has pointed this out as we have shown in an earlier post

Taxes 101: The Laffer Curve

Here is a nifty three part video series by Daniel Mitchell of the CATO Institute on how taxes influence people's behaviour, and consequently, the ramifications to the economy.

Part I: Understanding the Theory

Part 2: Reviewing the Evidence

Part 3: Policy Analysis Via Dynamic Scoring

What we'd like to show is that government spending always impact tax policies but to a diverse degree. These ultimately affects people's behavior which subsequently will be manifested on the performance of an economy and the state of capital (wealth) accumulation/consumption.

It's also very important to point out that taxes has been a highly sensitive political issue such that in certain periods of history, public uproar against taxes catalyzed revolutions.

Example, this article from Murray N. Rothbard,

"Seventeenth-century French kings and their minions did not impose an accelerating burden of absolutism without provoking grave, deep, and continuing opposition. Indeed, there were repeated rebellions by groups of peasants and nobles in France from the 1630s to the 1670s. Generally, the focus of discontent and uprising was rising taxes, as well as the losses of rights and privileges. There were also similar rebellions in Spain in mid-century, and in autocratic Russia throughout the seventeenth century."

Bottom line: Be wary and leery of politicos advocating for more government expenditures because these eventually translate to higher taxes, which translates to a lower standard of living.