Increasing the GST: To burden or not to burden?

April 3, 2016

Editor(s): Sarah Abell

Writer(s): Brydon McLeod, Kale McLeod, Edward Lim, Sidharth Varadarajan

The latter half of the 20^th century showcased the prominent emergence of socialist democratic parties across the world. This political ideology supports “social justice” through economic interventions within a capitalistic society – that is, economic reforms are introduced into societies that encourage public ownership of assets. GST, or goods and services tax, was invented by the socialist parties of Europe in the late 20^th century and is an example of such “economic interventions”. When initially introduced in Europe, GST was a means of funding larger systemic social programs. Replacing the federal wholesale tax system, the goods and service tax was introduced in Australia by the Howard government in 2000 as a means of increasing government revenue in order to increase social benefits and continue to maintain societal wellbeing standards. Being a flat-rate tax at 10%, almost all goods and services are taxed at the same rate regardless of the income of an individual, although excluding some essential items such as basic food, some medicines and some educational and health services (ATO, 2015). This is the main criticism of the GST, as low income earners (say $30,000 p.a.) and high income earners (say $150,000 p.a) approximately have to purchase the same basket of goods and services, both will be taxed approximately the same amount for the amount of goods/services purchased and therefore, this tends to be financially detrimental to low income earners. The recent proposal on hiking the GST by the Liberal government from 10% to 15% has sparked a lot of debate within Australia.

Why increase GST?

The states are desperate for the money. According to CPA (2015), the fiscal budget position in the long run will continue to deteriorate. The shrink in working age population and raising cost of healthcare are expected to intensify future fiscal pressures. Modelling by the NSW Treasury  has showed that the Commonwealth and states will face an annual shortage of $45 billion by 2030, in which $35 billion would be due to healthcare spending.

Premier Baird told the Australian Financial Review that the best way for Australia to increase revenue is to increase the GST. Further, Australia’s GST rate of 10 per cent is one of the lowest amongst the OECD member countries, as seen below.

Figure 1: GST rates in OECD member countries in 2014.

Impact on Revenue

However, there is a great deal of social angst regarding the potential GST change, and its impacts on the economy. Further, it has been questioned whether the changes in GST will actually increase government revenue.

To discuss the impacts on government revenue, the economy and further, equity, it is best to observe the three most frequently discussed methods of altering the GST, that is, an increase in the GST burden (the rate of GST to 15%), an increase in the GST base (reducing the number of goods currently exempted from GST) or both an increase in the GST burden and broadening of the GST base.

According to KPMG/CPA (2015) and the Grattan Institute (2015), the following revenues will result from the 3 alternatives:

Additional revenues from an increase in GST

It is evident that all three policies will increase government revenue. But it is important to consider the impact of removing this money from circulation.

Further, to simplify the report, the three alternatives will be treated as though they have the same effect on the economy, although the degree by which the economy is affected by the differing methods will differ.

A GST increase as the only policy change

An increase in GST would most notably, and quite obviously (via definition) increase prices of products. In other words, there would be a once off increase in inflation.

The cost base is also suggested to rise for some firms, such as members of the banking and financial services industry (Huang & Liu, 2012). It can be predicted that these increased costs will be passed on to consumers, who would, as specified by Huang and Liu (2012), also be likely to experience higher mortgage rates. So, it can be expected that there will be firstly, a “once off” increase in inflation, which would be followed by upward pressure on prices, especially for homeowners.

Further, unemployment would likely rise after the change of GST. That is, a rise in prices would reduce consumer’s willingness and ability to consume, reducing consumption expenditure, demand for production and hence demand for labour resources by producers, this increasing cyclical unemployment.

Now, it is worth considering the impact on Exports and Australia’s trade balance. Exports are GST free. This means that international competitiveness should not be overtly negatively affected by GST increases.

The impact of such reform appears bleak; yet further changes to the tax system; which encourage equity and efficiency could, and likely would if the government were to introduce this policy, occur.

GST increase in conjunction with other policies

According to KPMG (2015), the reform that was previously proposed by the government incorporates other changes to the taxation system. That is, the revenue gained via the altered GST will be allocated towards abolishing unequitable taxes such as; ‘insurance taxes, stamp duty on motor vehicles and all conveyancing stamp duty.’ Further, any additional GST revenue is to be redirected to the consumer via welfare payments or personal income tax reductions.

Reconsidering the effects on inflation with this taken into account, there would be further expected increases in demand inflation: due to the additional consumption that may result from welfare increase or tax reduction. Yet, due to higher prices in the economy, there may also be downwards pressure on demand inflation: as consumers demand less. This means the impact on inflation appears difficult to predict.

Readdressing unemployment, despite the increase that would result from falling demand for production, the counteracting effects suggested above may offset such unemployment. This may possibly spur growth in employment opportunities.

Now, whilst we can expect a single increase in the GST burden or a broadening of the base to increase inequity, the proposed policy combinations act to remedy this issue. Increasing GST acts to promote a reduction in tax avoidance. GST, unlike income tax, is difficult to avoid – consumers of products must pay the additional 10% on products at the time of purchasing. This promotes equality between income earners, as those who avoid taxes are predominately of higher wealth. (Bethencourt & Kunze, 2015).

Another proposed idea promoted by Premier Baird is that for combined incomes of fewer than $100k, GST will be accompanied by rebates and subsidies. This would offset the impacts of the increased cost of living, hence minimising the impacts of the GST on those of lower socio economic backgrounds. However, those over a combined income of $100k would not receive this rebate, and hence those middle-income earners will likely be negatively impacted by the combined policy, and hence are likely to be the most burdened by this policy.

In relation to Australia’s aging population, we see that an increase in GST will ensure that retirees continue contributing to the welfare of Australia. When people stop earning income, they no longer have to pay income tax; yet they may have accumulated sufficient funds to enable prosperity. This has a significant effect on those of lower wealth, yet contributes to equity regarding those of higher wealth (Narayanan, 2014).

Finally, an interesting point is raised by Isle, Freadenberg and Copp (2014), who suggest that a GST increase may have a positive impact upon businesses. That is, businesses can use extra inflow through GST as temporary liquidity; or can invest that money to obtain interest.

So in summary, we see that the unlikely policy of solely an increase in GST (base and burden) will have significant negative impacts on the economy, in particular equity, inflation and unemployment. However, when paired with additional initiatives, the significant negative impacts are somewhat diminished.

Another approach

A major objective of all GST initiatives is to alter the level of simplicity of the taxation system. Alternatively, a broadening of the GST base, for example, would mean that most products will have GST applied upon them, meaning that there is less legislative confusion regarding what is taxable and what is not. Further, the application of GST would become uniform, making it easier for businesses and the government to measure.

References

ATO. (2015). GST- free sales. Retrieved from http://library.unimelb.edu.au/recite/apa/electronic-source.
Chang, C., & AAP (2015). Who are the winners and losers if GST is increased? Retrieved from http://www.news.com.au/finance/economy/australian-economy/who-are-the-winners-and-losers-if-gst-is-increased/news-story/051f1f26fc4dad0a7a5b5c241a79f7c4.

CPA Australia. (2015). Tax reform in Australia – the facts. Retreived from http://www.cpaaustralia.com.au/documents/tax-reform- in-australia.pdf.

Daley, J and Wood, D. (2015). A GST reform package. Retreived from https://grattan.edu.au/report/a-gst-reform-package/.

Huang, A., AMP; Liu, B. (2012). The impact of the GST on mortgage yield spreads of Australian banks. Applied Financial Economics, 22(21), 1787-1797.

Isle, M. B., Freudenberg, B., & Copp, R. (2014). Cash flow benefit from GST: is it realised by small businesses in Australia?. Australian Tax Forum, 29(3), 417-454.

Narayanan, s. (2014). The impact of the goods and services tax (gst) in Malaysia: Lessons from experiences elsewhere (a note). Singapore Economic Review, 59(2): 1450009-1 – 1450009-15

Nicholls, S. (2016). Mike Baird makes new case for 15% GST. Retrieved from http://www.smh.com.au/nsw/mike-bairds-four-year-gst-consensus-plan-20160131-gmhyqf.html.

Woodley, N. (2016).  Increasing GST, slashing company tax could raise extra $36b for Government: FSC. Retrieved from http://www.abc.net.au/news/2016-01-18/financial-services-council-weighs-in-on-gst-debate/7094688.