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Budget 2018: 'There is a strong argument for increasing taxes in the budget'

Taxes and social contributions in Ireland are, on a per capita basis, lower than in every other high-income country, writes Tom McDonnell.

Tom McDonnell Senior Economist, NERI

THE IRISH ECONOMY is getting stronger. Admittedly the official GDP figure of 5.5% growth in the first half of this year is an unreliable indicator of the health of the country. Nevertheless, every sector of the economy bar one grew on an annual basis in the first half of the year.

Employment grew 3.5% year-on-year in the first quarter while the construction sector expanded by an impressive 20.1% year-on-year in the first half of 2017.

The economy should grow strongly again next year with unemployment falling below 6% in early 2018 on the back of strong employment growth. The outlook for 2019 is highly uncertain given the lack of clarity surrounding the nature and timing of Brexit’s impacts on the economy.

Budget 2018

Our projections indicate the public finance will be in surplus by 2019. The notorious “fiscal space” will start to open up from 2019 onwards and by 2021 close to €10 billion of new resources will be available annually for spending increases and/ or tax cuts.

Yet Budget 2018 may struggle to meet expectations with just €350 million or so available for new measures. That works out at just half of one per cent of total public spending at a time of huge spending deficits in areas like childcare, education, housing and infrastructure.

Indeed if we exclude interest payments on our national debt it turns out that public spending in Ireland was €14,502 per person in 2016. The weighted average for the other 10 high-income EU countries (those with per capita GDP above €30,000) was €17,112.

Troublingly we significantly underspend in a number of areas crucial to long run economic growth and prosperity. For example, public spending on education would have to increase by close to €2 billion per annum if we wanted to increase per pupil spending to the average of high income comparator countries. Such “savings” are a false economy in the long run. We also have substantial underspends in childcare, infrastructure and R&D – all areas crucial to long-run economic growth.

The high tax myth

According to the OECD social contributions being compulsory payments are effectively taxes and should be considered as such. Our analysis shows that combined taxes and social contributions in Ireland are, on a per capita basis, lower than in every other high income country. The gap was close to €1,700 per person in 2015. The tax wedge for a single person at average earnings is also the lowest in the EU 15.

The high tax claim is clearly a myth – with one exception. Combined taxes on consumption, primarily VAT and Excise duties, work out about €200 higher per person in Ireland. Consumption taxes happen to be the most regressive form of taxation.

If we drill a little deeper we find two areas that explain the gap with the other countries. The first is taxes on stocks of capital. This refers mainly to property taxes and inheritance tax. Taxes on stocks (ie wealth) are €278 less in Ireland on a per person basis – amounting to €1.3 billion scaled over the population. These happen to be the most growth friendly taxes as well as being generally progressive.

The real elephant in the room is employer PRSI. On a per capita basis our employer PRSI receipts were just half of the weighted average for the 10 high income countries. The implied gap is €6.4 billion over the population or fully 80% of the gap between Ireland and our peers. Some will argue that raising employer PRSI will destroy jobs. Yet the country with the highest employment rate in the EU is Sweden and in that country employers paid €5,333 per capita in 2015.

Our core point is that the case for further tax cuts is extremely weak given significant underspends in areas crucial to long run economic growth. Indeed there is a strong argument for increasing taxes in the budget.

Tom McDonnell is a Senior Economist with NERI, the Nevin Economic Research Institute.

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Tom McDonnell  / Senior Economist, NERI

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