Overselling the Economic Efficiency Gains from Shifting the Tax Mix Towards Consumption Taxes

Public Finance and Management, Vol. 17, No. 3

25 Pages Posted: 19 Sep 2017  

Peter S. Spiro

University of Toronto - Mowat Centre for Policy Innovation, School of Public Policy and Governance

Date Written: September 17, 2017

Abstract

It is frequently argued that it would be beneficial to move the tax mix towards greater reliance on consumption taxes, with offsetting reductions in income taxes. Proponents argue that this would increase the incentives to “work, save, and invest” and would help improve productivity growth. In Canada, policy experts have generally advocated shifting the tax mix towards consumption. However, on a number of occasions when such a choice was put to the electorate, this shift was rejected.

In fact, when one looks at the empirical research on response elasticities, it suggests that the net positive impacts are likely to be relatively small. The most reliable estimates from economic models indicate a small positive impact on economic efficiency from changing the tax mix. The largest and clearest impact of changing the tax mix is on the distribution of income, as the income tax is much more susceptible to being progressive.

Therefore, the positive impact on overall GDP would be too small to compensate most taxpayers. Middle income earners in particular are likely to be net losers from changes in the tax mix. Designing changes in the tax mix so as to make everybody better off is a complex task. Voters seem to be aware of the income distribution impacts, and vote in their own self-interest. In a referendum in the province of British Columbia, the majority voted to repeal a value added tax. The percentage voting for repeal was highest in the lowest income electoral districts.

Keywords: consumption tax, value added tax, tax mix, Canada, British Columbia, income distribution, economic growth

JEL Classification: H25, H21, H22

Suggested Citation

Spiro, Peter S., Overselling the Economic Efficiency Gains from Shifting the Tax Mix Towards Consumption Taxes (September 17, 2017). Public Finance and Management, Vol. 17, No. 3. Available at SSRN: https://ssrn.com/abstract=3038564

Peter Spiro (Contact Author)

University of Toronto - Mowat Centre for Policy Innovation, School of Public Policy and Governance ( email )

720 Spadina Avenue, Suite 218
Toronto, Ontario M5S 2T9
Canada

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