UK politics

Why Labour’s Corporation Tax Increases Will Hurt the Many, not the Few

The Labour Party is pledging to fund much of its grandiose spending plans by increases in corporation tax, intended to raise £20 billion or so. Rises in company taxes are less unpopular than income tax increases because we imagine that people don’t actually pay company taxes. This is wrong. It is one of the golden rules of tax that no matter what name is on the bill, all taxes are ultimately suffered by human beings. It’s true that companies are taxed on their profits rather than on the money they pay to their employees and directors. Nonetheless, it turns out that corporation tax is really levied on people. Companies are just legal fictions: a way of organising businesses that are ultimately owned and carried on by humans.

To understand how this can be, consider what a company can do with its profits. Firstly, it can pay them out as dividends to its shareholders. If those shareholders are people, they have to pay income tax on the dividends they receive. Corporation tax is just a down payment on the tax paid by shareholders. By shareholders, I mean anyone with a pension plan, insurance policy or other investments. ’Shareholders’ in the collective are very much an example of ‘the many’ rather than ‘the few’. An attraction of corporation tax for governments is it’s a way of taxing them that they don’t notice. Also, many shares are held in pension funds or other tax exempt vehicles like ISAs, which don’t pay tax. Corporation tax is a way to tax this income indirectly even though it is supposed to be tax free.

The other thing a company can do with its profits is invest them in growing its business. In other words, corporation tax is a tax on investment. Directly taxing the investment the country desperately needs to improve productivity is not a terribly good idea. Most politicians realise this, which is why the rate of corporation tax has been cut from 30% in 2007 to 20% from 2015, and 17% in 2020. It was 52% in the 1970s. Jeremy Corbyn is proposing to reverse this trend.

Alternatively, the company might feel it needs extra profits to pay the extra tax. To do that, it either has to pay its staff less or charge customers more. Again, we see that the increase in corporation tax is actually being passed on to real people. All the money that the company has really belongs or is owed to someone else. Some economists have argued that it is workers who take the biggest hit from corporate taxes. But whether that is true or not, the fact is someone has to pay them. And that someone is you and me.

In essence, the only way to raise large amounts of extra money from taxation is by increasing how much ordinary people pay. Corporation tax is just a stealth tax which the Labour Party hopes ordinary people won’t notice that they are paying.

General Election 2017: The big questions on tax

Although it’s already been dubbed the Brexit election, tax is likely to be as important as ever in the 2017 poll. So here are my initial thoughts on the main tax issues up for debate in the coming weeks.

No pre-election Budget

Governments usually use the Budget before an election campaign starts to stoke the feel-good factor and set the tax agenda. This time, there won’t be one. The Budget in March was something of a political non-event, except for the rise in national insurance that was so quickly reversed. The Chancellor of the Exchequer, Philip Hammond, didn’t lay out a long term strategy on tax, and the Prime Minister, Theresa May, has given few hints about her tax philosophy. The next Budget is due in the Autumn, although an immediate post-election Budget, as happened in 2010 and 2015, can’t be ruled out.

This means that the Conservatives will make their promises on tax without first having put them in context with a Budget. They won’t be able to present their new ideas as being part of a continuing strategy that is already being implemented. Furthermore, work has been going on in the background that was supposed to inform policy going forward. Matthew Taylor’s review of the rights for people working in the gig economy should have helped inform changes to national insurance. And during his Budget speech, Mr Hammond hinted at long-term plans to rebalance the tax treatment of online and bricks & mortar businesses. None of this work is complete enough to provide policies ready to go into the manifesto. This matters because future tax reform will be made more difficult if it part of the mandate given to the winners of the election campaign.

Conservative pledges

The Tories made wideranging promises in their 2015 general election manifesto. Mr Hammond’s plan to increase the national insurance contributions of the self-employed, which he announced in this year’s Budget, came a cropper as a result. Even though his proposal did not infringe the letter of the 2015 manifesto, he had to ditch the rise within days.

Simply abandoning all the promises they made last time would open the Tories up to accusations that they are planning to raise taxes. I think they would be wise to maintain their pledges not to increase the main rates of income tax, national insurance or, especially, VAT. However, they should include a specific promise to increase Class 4 NICs so that Hammond can do what he proposed in the Budget. Where the Tories are planning to increase taxes, honesty would be the best policy and burnish Mrs May’s no-nonsense image (which has been dented by the announcement of an election when she said there won’t be one).

The Conservatives should drop the ruinously expensive commitment to increase the rate of the income tax personal allowance to £12,500 by 2020. I suspect this pledge resonates much less with the public than the one on income tax rates. Help for the just-about-managing would be better targeted by cuts in employees’ national insurance as this would not cut the taxes of wealthy pensions with lots of investment income.

Labour tax rises?

Labour has already promised to impose VAT on private school fees to fund free school meals for primary school children. They are likely to propose further tax rises to pay for other aspects of their programme.

I expect a mansion tax, just like Labour proposed in 2015. The mansion tax generally works well in focus groups as most voters imagine they’d never have to pay it. However, the scope of any wealth tax (which is essentially what a mansion tax is) needs to be wide if it is to raise significant amounts of money. Additionally, any mansion tax would bite hard in London, which is one of the few parts of the country where Labour might hope to do well.

Other options include restoring the 50% income tax rate for income over £150,000. This could be popular because people support increases in taxes they won’t have to pay. Again, the money raised is likely to be negligible. Another option is a windfall tax on the energy companies, or some other unpopular sector of the economy. New Labour did this back in 1997. The problem is that a windfall tax must, by definition, be a one-off. Hikes in corporation tax also seem relatively painless in electoral terms (although they shouldn’t be, as corporation tax is levied on people as much as any other tax, just at a further remove from their wallets). Shadow Chancellor John McDonnell has already declared that companies bidding for Government contracts would have to follow ‘best practice’ in tax compliance and multinationals will be forced to publish their tax returns. Neither measure would raise any new money. Mr McDonnell has also hinted at increases in capital gains tax and inheritance tax, which HMRC also don’t think would lead to significant tax receipts.

A final option for Labour is to go for a truly socialist manifesto, squeezing the rich till their pips squeak. Given the party is going to lose anyway, there seems little harm in its leader, Jeremy Corbyn, giving his leftwing instincts full reign. He could promise to increase the current 40% income tax rate (paid on all earnings over £45,000) to 50%. HMRC estimates that this would raise £12 billion and so deal with Labour’s fiscal credibility problem at a stroke. Of course, it would be poison with the electorate, as Labour found with a similar policy back in 1992, but this time it has nothing to lose.

Some brief notes on imposing VAT on private school fees

The Labour Party is proposing to impose VAT on private school fees. Here are a few notes on the technicalities of such a policy.

  • Education, including private tuition, is exempt from VAT. This is enshrined in the European Directive on VAT so couldn’t be changed until Brexit. However, once we have left the EU, the UK would be free to impose VAT at whatever rate it pleased, as long as our exit agreement allows us to. That Labour is suggesting a policy that contravenes EU law is, if nothing else, crossing a Rubicon of sorts.
  • The difference between exemption from VAT and zero-rating is important. Generally, where a taxpayer makes exempt supplies, like education, it has to pay VAT in full on things it buys. Where it makes zero-rated supplies, like food, it can claim back the VAT in incurs on its purchases. Thus imposing VAT on school fees is likely to mean private schools can reclaim the VAT they suf6fer on their purchases, reducing the net amount of VAT that the change will raise.
  • Many pupils at private schools are from abroad, some 200,000 by some accounts. University and school education of foreign students is treated as an export (as it is foreigners paying us for something we supply). Exports are outside the scope of VAT, since this is supposed to be a tax on domestic consumption. If we impose VAT on private education, we would also need to decide whether to charge VAT to foreign students as well. If we did, it would damage an important and growing export industry. If we didn’t, the yield from the tax would be lower and we would open a divide between UK and non-UK students.
  • It is unlikely that many parents will turn to the state system as a result of the VAT rise as private school usage appears to be quite inelastic on price. However, some parents will send their children to state schools, which will both increase the cost of providing state education and reduce the amount of VAT raised from private schools.

In summary, whatever the tax yield that Labour expect from imposing VAT on private school fees, the reality is likely to be a lot less.

Confused by National Insurance? That’s not a bug: it’s a feature

First, let me make clear that Philip Hammond’s decision to compensate the Treasury for the abolition of flat rate Class 2 national insurance contributions (NICs) by increasing progressive Class 4 contributions is a sensible and moderate policy. The trouble is, for most people, that sentence doesn’t make much sense. What are Class 2 and Class 4 NICs? What happened to Classes 1 and 3? And did you know there is also a Class 1A? In any case, what is national insurance insuring against?

NICs are a mess, but an artful mess that exists for good reasons and because reform is not worth the candle. Fundamentally, the tax system is designed to extract cash from us with the minimum of fuss and without our understanding what is really going on. To achieve that, the machinery of tax collection is kept under the radar. For employees, that means we pay income tax and national insurance through the pay as you earn (PAYE) system. Under PAYE, our employers deduct the income tax and national insurance we owe from our pay packets. Effectively, the Treasury gets paid each month at the same time as we do. Better yet, we never possess the money that we pay in taxes and so never really miss it.

Employers also pay NICs on top of the tax that we see deducted from our wages. Make no mistake about employers’ national insurance. This is a tax on our salaries just as much as income tax. It is just that it is effectively invisible, which suits the taxman fine. In fact, if you earn £45,000 a year, you pay over 40% more in national insurance than you do income tax. Employees’ and employers’ national insurance taken together are Class 1 contributions. Class 1A NICs are paid on employee benefits like company cars.

As everyone now knows, Class 2 NICs are a flat rate tax of about £150 a year on the self-employed. George Osborne abolished these with effect from next year. All Philip Hammond has done is claw this money back by increasing Class 4 NICs on the self-employed, which are based on a percentage of profits rather than a flat rate. But, despite the recent fuss, the big difference between the employed and self-employed is those employers’ NICs, which the self-employed don’t pay. For example, a banker taking home £60,000 a year pays over £41,000 in income tax and NICs. A self-employed doctor, also getting £60,000, pays just £28,000. Given the fuss that Mr Hammond’s modest change has caused, we can be confident that the Government won’t be evening up the scales between the employed and self-employed any time soon. Instead, HMRC tries to reclassify people who are self-employed as being employed by someone else. This enables the taxman to extract more tax from them. Expect more action on this front involving Uber drivers and other workers in the gig economy.

There’s another reason that the self-employed tend to pay less tax. Because they don’t pay through PAYE, they have to write a cheque, or at least make a bank transfer, direct to HMRC. That means the self-employed know exactly how much tax they pay and resent it accordingly. Most employed people haven’t got a clue.

The complications don’t stop there. NICs are only paid by people in work. They don’t apply to savings income, which means that the leisured rich enjoy much lower effective tax rates than the working poor. You also don’t have to pay NICs once you get past the state retirement age, even if you are still in work. This means we tax the productive part of the economy far more heavily than we do the unproductive part. Sloth is tax efficient compared to toil, provided you have money in the bank.

The major benefit for taxpayers paying NICs is to ensure they get the full state pension. You need 35 years of contributions to be entitled to the full amount (Class 3 NICs can be paid if you miss a few years of the stipulated 35). Nonetheless, having to pay NICs to access the state pension is not a terribly good deal. It is currently worth about £8,000 a year, increasing each year by the higher of inflation, earnings growth or 2.5% (the so-called triple lock). Meanwhile, if a worker on the average wage could invest all their NICs in a private scheme, he or she could expect an index-linked pension of over £14,000 a year. Worse, pensioners are dependent on the largesse of future taxpayers to fund the state pension and keep the current triple-lock indexation going. There is no money invested by the Government to pay tomorrow’s pensioners.

The awful complications of national insurance make reform very difficult. As Philip Hammond has found, for every change you make, there are winners and losers. The winners are quietly satisfied while the losers are apoplectic. In the present case, these losers include a lot of self-employed columnists who can make their annoyance very public. Thus, even a tax change that has genuine public support (as the NIC changes do) can be portrayed in the media as a disaster.

Some have suggested that we should abolish national insurance completely and replace it with equivalent rates of income tax. This would be a transparent and rational reform. But politically, the change would be a disaster for the Chancellor foolish enough to implement it. Lots of people would suddenly realise that their income tax bills were much higher than they thought. Worse, the manifest unfairness of the employed and the self-employed paying very different rates of tax, not to mention the lower rates for rich pensioners and savers, would be out in the open.

Perhaps the events of the Spring Budget 2017 will serve as a lesson for future Chancellors who think that there is anything rational about reactions to tax reform.

Business rates: the anatomy of a controversy

This article was originally published at Reaction.

Even the Daily Mail is splashing business rates on its front page. What has this most unglamorous of taxes done to deserve that?

For many businesses, rates are a bigger headache than corporation tax. After all, they only have to pay the latter if they are profitable. There is no such escape from rates. The trouble is the way they are levied. To figure out how much it owes, a business first needs to know the theoretical amount that someone would pay to rent the premises it occupies. This ‘rateable value’ is determined during a periodic exercise by the valuation office agency. The business has to pay roughly half of the rateable value as a tax each year. It doesn’t matter if the business is doing well or seriously struggling, it still has to cough up.

At the best of times, the tax is unfair in the way that it hits some kinds of trade harder than others. A bookshop in the High Street of a pretty country town might not make much money. But it has to pay business rates that reflect the gentrified area in which it is located. Conversely, a small office in an out-of-town development might contain a few highly paid executives for whom the business rates are not a significant cost.

In short, business rates are oppressive for a retailer which has to locate close to its customers. One result is that charity shops, that get an automatic 80% rebate, have colonised high streets where regular stores are priced out. The Government periodically promises a review of business rates but the chance of serious reform founders on the need to raise the same amount of money after any changes. Nonetheless, there are plenty of exemptions and reliefs, such as those for village shops and pubs, which mean everyone else has to pay even more.

The current hullabaloo, reflected in the Daily Mail and other papers, is simply the regular revaluation exercise intended to keep rates fair. Although the total amount to be raised isn’t increasing much, there are, inevitably, winners and losers. The winners, which allegedly include Amazon’s warehouses, are quietly satisfied. The losers, comprising popular brands and small shops, are outraged. Numerically, it also looks like the losers may outnumber the winners, further increasing the volume of their complaints. The Government itself has made matters worse. The revaluation was supposed to happen in 2015 but, since it did not want the resulting controversy to hit just before a general election, it postponed the changes until this year. As a result, many ratepayers are seeing much bigger revaluations than they would have done had the exercise taken place two years ago as scheduled.

In some ways, business rates are the commercial equivalent of council tax. Like with council tax, the revenue raised goes to fund local government. A total of £26 billion a year is collected and, through a complicated formula, it is redistributed to local authorities. Unlike council tax, business rates are not automatically spent in the same area in which they are collected. My local authority of Tunbridge Wells, being quite a wealthy borough, keeps a tiny proportion of the rates it collects. Councils don’t even get much say on what the level of rates should be. Since the 1980s that has be set by central government. Going forward, local authorities will get to keep increases in the money raised from business rates in their patch, but conversely they are on the hook if they do not manage to collect enough.

The Government will be very keen to face down the current resistance. Assuaging those seeing increases in their rates will cost money that it does not have. David Gauke, Financial Secretary to the Treasury and a politician who radiates seriousness, has been dispatched to calm things down. Number 10 will be hopeful that when Article 50 is debated by the House of Lords next week, public attention will be distracted from business rates (that most people know nothing about) and the Daily Mail will come back onside.

However, all this could merely be a dress rehearsal for what would happen if there was ever a council tax revaluation. Council tax is calculated from the value of our homes in 1991, which is now hopelessly out of date. But given the regular angst caused by business rates changes, it is no surprise that ministers have repeatedly refused to countenance a revamp of residential property taxes. That would just be asking for trouble.

The sugar tax looks more like a way to raise money than cut obesity

Last week, the Government published a draft of the legislation intended to implement the Soft Drinks Industry Levy or sugar tax. This was supposed to be the most contentious aspect of this year’s UK Budget. Perhaps the Chancellor of the Exchequer at the time, George Osborne, was hoping it would provide cover for some the other measures that blew up in his face, like forcing all schools to become academies or cutting disability benefits. Osborne is gone now, but the sugar tax lives on.

The tax is supposed to add about 8p to the cost of a can of Coca Cola from April 2018. Many people have been justifiably concerned it will fall disproportionately on the poor. Research on the effectiveness of sugar taxes is mixed but there is some evidence that they might be effective in reducing sugar consumption. The Government is certainly justified to give it a go. Even if we find it doesn’t work, that’s useful to know, as long as politicians are willing to admit to their failure.

From the point of view of designing effective new taxes, the soft drinks industry levy seems sensible. For example, the Government doesn’t want ordinary people to have to pay the tax themselves. Think about the way the income tax and national insurance on our salary are paid via PAYE before we ever get our hands on it. That lessens the pain we feel about losing a large chunk of our wages to HM Treasury each month. The sugar tax works on the same principle. It’s paid by drinks manufacturers rather than by consumers. Of course, the cost will be passed on to the people buying the drinks, but then all taxes are ultimately paid by human beings. The sugar tax will also be a stealth tax. We won’t see it on our shopping receipts or know exactly how much we are paying.

The art of designing a tax is to ensure that it brings as much money as possible with the minimum of political blowback. In other words, it “consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing.” Nonetheless, the sensible implementation of the sugar tax might be an obstacle if it is supposed to reduce obesity rather than raise revenue. If people are not aware they are paying the tax, they are unlikely to alter their behaviour as a result of it. It might work better if the amount payable was emblazoned on soft drinks’ packaging for all to see.

How can we tell if the sugar tax is working? It is currently expected to raise a bit over £500 million in its first year of operation. If that number goes down, it means sugar consumption is going down too. Ideally, the revenue from the tax would drop to nil as we stop consuming sugary drinks at all. However, as it happens, the Government is only predicting a slight decrease in the revenue raised each year, suggesting that it does not expect the sugar tax to have much effect on our drinking habits.

For the moment, the Government is relying on the manufacturers to cut the sugar in their products. However, if the sugar tax doesn’t cut our intake, the Government might be tempted to increase the rate until it has an effect. It wouldn’t be long until the soft drinks levy brings in £1 billion plus a year and becomes just another revenue raising sin tax like cigarette and alcohol duties. If that happens, the naysayers claiming it is just way to extract cash from the feckless poor would be proved right.

In praise of the Remain campaign: Europhiles should accept they gave it their best shot

Originally published at Brexit Central.

In the aftermath of the referendum, two myths have quickly taken root: that David Cameron made a reckless gamble when he called a vote on the EU and that Britain Stronger in Europe was a disunited rabble that fought a dreadful campaign.

These myths are dangerous because they fuel the calls for a second referendum. Europhiles tell themselves that if the vote was a gamble, another throw of the dice might produce a different result. And they imagine that a more focused and positive campaign for Remain could win the day.

Let me address these two myths in turn.

In his Bloomberg speech of January 2013, Mr Cameron promised a renegotiation with Brussels followed by an In/Out referendum. Commentators rushed to tell us that the speech was a reaction to the rise of UKIP and a way to plaster over the cracks in Tory unity. This confused the symptoms of Euroscepticism with the cause.

UKIP’s success reflected widespread anxiety in the country about the EU, while Conservative divisions had been opened by the refusal of successive British Governments to seek consent for the transfers of sovereignty to the EU by the treaties of Maastricht, Nice and Lisbon. Mr Cameron himself had reneged on his ‘cast iron guarantee’ of a referendum on Lisbon.

It’s also been suggested that he intended to drop the referendum pledge in any coalition negotiations with the Liberal Democrats after the 2015 general election. However, an analysis of Mr Cameron’s statements in the run up to the election shows that this is not true. The referendum was a red line for any coalition agreement. In any case, if he’d tried to ditch it, half the Conservative Party would have spontaneously combusted, including myself.

Far from being a short-term fix for his European troubles, Mr Cameron was thinking strategically. He realised that there had to be a reckoning to settle the question of Britain’s EU membership. And it would be far better for Europhiles if this reckoning took place at a time of his choosing and on his terms. The alternative was a referendum down the line under a Brexiteer Conservative leader using all the advantages of Government to ensure a vote for Leave.

Although the Cameron plan was a sound one for Europhiles, events got in the way. The Prime Minister assumed the EU would need a treaty to solve the Euro-crisis rather than kick the can down the road and condemn tens of millions to unemployment. He hoped Britain’s veto would strengthen his negotiating position. He also underestimated the pig-headedness of his fellow heads of Government in February 2016 when they scuppered his efforts to get a deal he could sell to the British people.

But I would argue that the failure of the renegotiation was a mistake by the EU rather than Mr Cameron, whose only error was to misjudge the EU’s capacity for self-harm.

The second myth concerns the referendum campaign itself. Brussels had dealt Europhiles a very weak hand, but I believe they played it as effectively as they could. For all the criticism of Project Fear, Remain had no choice but to ramp up the scare tactics. Europhiles like former Education Secretary Nicky Morgan might wistfully write that they should have fought a more positive campaign.

But, honestly, what was the optimistic message about the EU supposed to be? Lauding the alleged benefits of immigration was never going to work and Remain knew it was essential to keep the European Commission’s ambitions for more integration under wraps. When the EU took credit for peace in Europe or increasing prosperity, the British just chuckled at its lack of self-awareness.

So Project Fear was Remain’s only viable strategy, and if it was to work, it had to be full-on. One advantage for Remain was that it didn’t need to make any predictions about what would happen if it won. Unlike a political party promising the earth at an election, Remain’s warnings would only be tested if they lost, so they could really push the boat out on the doom-mongering. Of course, Leave won and all those predictions are coming home to roost for the likes of the OECD and HM Treasury. However, I doubt either Mr Cameron or even George Osborne are very bothered about that.

That is not to say Matthew Elliott’s fantastic Vote Leave didn’t matter. The point of a political campaign is not really to win the argument. Rather, it must identify its supporters and motivate them to get to the polling station on the big day. Vote Leave did that brilliantly.

The important point is that the referendum was not won because of narrow tactical concerns, mistakes made by Mr Cameron or Britain Stronger in Europe, or even because Leave voters were just protesting and didn’t mean to win. All these erroneous excuses have been made by Europhiles since 23rd June.

Leave triumphed because it is the settled will of the British people that they do not wish their country to be part of the European Union. Given that fact, Remain did as well as they could have done by pushing us so close. David Cameron deserves credit from Europhiles for giving Remain the best possible chance.

Why no one believed economists over Brexit

One of the reasons that Leave won the referendum on the EU was that no one believed the dire warnings promulgated by economists. We were told by HM Treasury, the IMF and just about everyone else who’d ever wielded a slide rule that Brexit would be a disaster. But when it comes to economic forecasting, we are right to be cynical. It wasn’t just the Queen who asked of the financial crisis, why did no one see it coming?

Human beings are quite good at microeconomics. That’s the economics asking how individual people and businesses behave. It studies why coffee shops price their beverages in the way they do. It considers the best way to get people to pay money into a trust box. It makes useful predictions about the various methods to incentivise employees. Microeconomics isn’t perfect; but it is getting better as telling us about how the world really works. You can find out a lot more in Tim Harford’s superlative book The Undercover Economist.

Conversely, human beings are quite bad at macroeconomics. That’s the economics asking how economies as a whole react to government policies and other long-term factors. It studies why unemployment goes up and down in the way it does. It considers the best ways to increase economic growth. But it fails to make any useful predictions about when there will next be a recession. Macroeconomics isn’t a complete basket case in that it has one or two successes to its name, such as the efficient markets hypothesis. Although some economists even manage to argue about that.

I’m not an economist. But as a historian of science, I have studied the history of a subject -science – that, once upon a time, was like macroeconomics is today. For centuries, scientists couldn’t make serviceable predictions or tell true theories from false ones. There were two very good reasons for this. The first was a lack of experimental data that could be used to test the theories. Experiments are difficult and easily misinterpreted. They need to give clear-cut results and to be repeatable. In any case, few saw the point of doing an experiment to prove something their theory already told them had to be correct. Early scientists lauded observation and could gather plenty of data. But their inability to test it was fatal.

The second reason early scientists failed was that no one was very interested in which theories worked in the real world. They were primarily concerned with how science could justify political and ethical conclusions. Scientific theories simply provided a way to understand nature that supported a particular moral or religious viewpoint. For example, the ancient Greek Epicurus said everything was made up of mindless atoms, which dovetailed nicely with his ethics. Christians rejected atomism because it invalidated transubstantiation.

Modern science now has enough experimental data to choose between theories and make accurate predictions. Microeconomics is like that too. Of course, it is by no means perfect. Microeconomists draw lots of false positives, make various mistakes and torture their data. But, at heart, they all agree what they are about and how the method is supposed to work. Microeconomists and scientists are successful for quite similar reasons.

Not so for macroeconomists. As a profession, they failed the call the financial crisis and, if they turn out to be right about Brexit, it will be down to luck. Admittedly, a few economists did predict the great recession, but probably fewer than you’d expect if all economic predictions were made randomly.

Macroeconomists are also divided into schools and they argue about policy according to the lights of the school to which they belong. Remember what I said about early scientists using their theories about nature to back up their political or religious agendas? Macroeconomists appear to be engaged in the same thing. Here is Andrew Lilico of Europe Economics defending the Conservative Party policy of austerity against a Keynesian. Meanwhile, this lengthy screed by Oxford’s Simon Wren-Lewis is a political polemic on behalf of the Labour Party dressed up as Keynesian analysis. I expect Ha-Joon Chang at Cambridge would call down a plague on both chez Lilico and Wren-Lewis. The mere fact that macroeconomists can’t agree on the most basic issues is damning evidence of how much trouble their discipline is in. Whatever is happening in the world, the Keynesian, the Marxist, the Austrian, the non-orthodox and the neo-Keynesian economist think can explain it in the light of their own theories.

The near-perfect correlation between the views of members of different economic schools and their political inclinations suggests very strongly that the data does not determine to which school they belong. Academic economists are often Keynesians who believe in government intervention while private sector economists are more likely to be laissez faire. This contrasts with, say, engineering where the laws of physics are understood in a very similar way at universities and aerospace manufacturers. Neither can economists say what will happen next. When they do get something right, it is simply luck. None of their theories work at the most basic level of being able to make practical and testable predictions.

This diversity of views is not entirely the fault of the macroeconomists. They can’t do many experiments because the systems that they study are too big. A central bank won’t cut interest rates for half the economy and leave them the same for the other half just to compare the effect of different policies. That means macroeconomists have to rely on observation rather than controlled experiments to build their theories. That was exactly the methodology employed by Aristotle to construct his scientific system. The result was a system of physics that seemed so rational and convincing that it lasted almost two thousand years. But it was wrong in almost every respect. Freudian psychoanalysts and Hippocratic physicians were in the same boat. They had elegant and reasonable systems of thought with which they could explain pretty much any observation. The pathologies of their patients could always be interpreted within the bounds of their theories. And yet the their theories were completely untrue.

It may seem rather crude to compare macroeconomics to such discredited systems of scientific thought. But the problem is not confined to economics. Any subject dominated by a lack of solid data and beholden to theory will face the same issue. Within modern science, string theory is well up this particular creek. Arguably, climate science is as well. The failure of computer models to predict the climate has increased the importance of theory and hardened the political allegiance of those engaged in debates on global warming.

What is the answer? For macroeconomics, there probably isn’t one. The economy is too complicated to predict, even if we understood exactly how it works, which we don’t. So it is best to understand economic debates as proxies for political arguments. The good thing about that is we can all get involved. Macroeconomics boils down to informed opinion and when it comes to opinions, we all have one.

The Panama Papers aftermath: it’s time to abolish the withholding tax.

Originally published on Conservative Home.

When the Panama Papers were splashed back in April 2016 with breathless excitement by the Guardian and the BBC, it looked as though we might get to enjoy some juicy scandals. But now, after a few months of gestation, the leaked documents are, from a UK point of view, a damp squib. Admittedly, the name of David Cameron’s father was unfairly dragged through the mud. However, it eventually dawned on people that neither he, nor his son, had done anything remotely untoward. Other than the Cameron non-story, the 11.5 million files in the Panama Papers don’t appear to tell us much about the tax affairs of UK residents.

In any case, when it comes to tax evasion, the Government has been on the case for some time. From June, all UK companies have to publicly register their owners, while an international treaty to share information on offshore bank accounts has been agreed by over 130 countries. A string of new offences is included in this year’s Finance Bill against enabling and engaging in offshore evasion. All this was in train well before the Panama Papers hit the newsstands. Admittedly, no one will be convicted for any of these new crimes. They are intended to ensure that financial institutions stop turning a blind eye to possible cases of tax evasion. The banks themselves will enforce the new rules through enhanced compliance procedures.

With all this activity, it is worth asking how serious the problem of evasion is. Wealthy British people do indeed have billions stashed offshore, and not all of them come clean with the taxman. But, perhaps surprisingly, the vast majority of them do. For example, when HM Revenue and Customs (HMRC) obtained account details from the notorious Geneva branch of HSBC in 2011, they found information on about 7,000 British-held accounts holding in the region of £13 billion. Yet, it turned out that over 80 per cent of these didn’t owe a penny extra in UK tax.

From those that did, HMRC recovered £135 million of back taxes, interest and penalties. A significant haul, to be sure, but only enough to pay our dues to the European Union for a few days. In only one case did HMRC and the Crown Prosecution Service adjudge that the evidence of criminality was sufficiently strong for a prosecution. No doubt, the Panama Papers will reveal some more tax evaders, although the scale of wrongdoing is likely to be more modest than the trillion pounds suggested by Labour MP Dan Jarvis in the New Statesman. Nonetheless, we must be close to the point at which the myriad of new regulations and offences introduced by the former Chancellor, George Osborne, end up costing innocent taxpayers more than the Exchequer recovers from the miscreants.

Turning to legal tax avoidance and planning, the Government is implementing a series of international agreements to restrict the tax deductions that companies can enjoy for cross-border financing and has introduced a general anti-abuse rule. Perhaps more importantly, the courts have stopped finding that tax avoidance schemes work, even when the scheme follows the letter of the law.

In this new era of transparency, the Government should now start to dismantle the tax barriers that distort international commerce. Just as Nigel Lawson removed exchange controls, Philip Hammond should abolish the nineteenth-century throwback called withholding tax. This is a tax that countries levy on money paid abroad. For example, the UK charges a tax of 20 per cent on payments of interest to many non-resident recipients even though the recipients will also pay tax on the money in their own country. That’s double taxation and completely unfair.

Unfortunately, sorting this double taxation out gives rise to all sorts of administrative problems. So, if you want to set up a fund that caters for international clients, you can’t do it in the UK because of the withholding tax. That’s why Ian Cameron set up his trust abroad and why so many European funds, holding €3.5 trillion in 2015, are actually situated in Luxembourg, which doesn’t withhold tax. The vast majority of money held in countries like Switzerland, Luxembourg and elsewhere is kept there specifically so that it is taxed once, but no more often than that. Abolishing withholding tax would see some of that money returning in the UK. And much of the business of law firms like the Panama Paper’s Mossack Fonseca would dry up.