Rebalancing the tax system
The OECD, IMF, World Bank, European Commission and International Labour Organisation (ILO) have all called for a change from labour taxes towards tax on resource-use and consumption.
Business groups such as the WBCSD and the BSDC have also supported such a tax reform. According to the European Commission, a tax shift from labour to green taxes is 'a winning strategy'. In today's world, green taxes are a rational tax base, labour taxes much less so.
Rebalancing the tax system
While it is not easy to change tax systems, the basic principle is simple: 'tax less what you want more of'. Three steps need to be taken.
Step 1: Put a price on pollution and natural resource use, such as fossil fuels, waste, water and the extraction of metal ores.
Countries can start with the low-hanging fruit: options that suit national circumstances best. In light of the Paris Climate Agreement, abolishing fossil fuel subsidies and effective carbon pricing are the first likely candidates.
Step 2: Use revenues to lower the tax burden on labour and improve social protection
The revenues from Step 1 are used to lower personal income tax, social contributions (both for employees and employers) and payroll taxes. Careful design is required to make sure that the needs of vulnerable groups are addressed through increased social protection or income support.
Step 3: Monitor and adjust
As in the current system, any reform needs to be monitored and adjusted. The tax take from green taxes may reduce over time, as they succeed in changing consumer and business behaviour. When this happens, the scope of the taxes can be expanded, or the rates increased. In a fast-changing world, fiscal systems will need to adapt much faster than they have before.
The risks and opportunities of such a shift are not evenly distributed, but in the face of the megatrends, 'business as usual' is no longer an option. Fortunately, innovation and adaptation are in the DNA of business and every sector has opportunities for developing business models that are fit for the future.
To contribute to the large body of research on such tax reform, in 2014, a working group of experts convened by The Ex'tax Project developed a scenario decreasing the tax burden on labour (for individuals and employers), and instead increasing VAT-rates and excise duties on fossil fuels, as well as taxation of electricity, water and carbon emissions, in the Netherlands.
In 2016, Cambridge Econometrics modelled the impacts of such a budget-neutral tax shift scenario across 27 EU member states. The results show that switching €554bn of taxes from labour to pollution and resource use could – compared to business as usual:
- add €842bn in GDP
- enable 6.6m more people to be in employment
- cut carbon emissions by 8.2% by 2020
- save €27.7bn on the energy import bill over a five-year period.
Why do tax systems need to change today?
Unprecedented labour challenges
Across the world in 2018, 192m people are unemployed. Almost 1.4bn workers are estimated to be in vulnerable employment, meaning they have a lower likelihood of formal work arrangements.
Informal workers - those who work without a legal contract – generally have lower wages and little or no job security. When employers hire workers informally or in the ‘gig economy', this limits the workers’ job security, skill development as well as their social protection.
In developing countries, vulnerable employment affects three out of four workers. According to the ILO, the global youth unemployment rate for 2017 was 13%, and it was highest in the Arab States, at 30%.
An estimated 71 million people under 25 years of age are unemployed globally and young people are twice as likely as adults to be in temporary employment.
At the same time, ageing populations are causing one of the most significant social transformations of the 21st century. The number of people aged 60 years or over is expected to more than double by 2050.
In OECD countries, public expenditure on health and pensions already account for one-third to one-half of primary expenditure while 12.5% of people aged 65 and over in OECD countries live in relative income poverty. In future, more and more elderly citizens will find they cannot afford not to work.
Taxes affect employment decisions
A lower tax burden on labour creates employment opportunities. The tax burden on labour has an impact on employers' decision-making process when choosing business models and about the hiring and firing of employees.
High payroll costs could encourage employers to gain efficiency by minimising the number of employees. Informal employment attracts lower taxes than formal employment (or, when it takes place in the shadow economy, no taxes at all), which tips the scales towards precarious ways of working. Rebalancing the scales is a key challenge to governments around the world.