We Need To Talk About: Hypothecated Taxes

Hypothecated taxes are designed to undermine the NHS – Prof. Richard Murphy

There’s been an idea floating around recently – mostly pushed by the Lib Dems but floated elsewhere too – that the solution to NHS England’s current, catastrophic crisis is an additional income-linked tax (either a new tax or an addition to income tax or National Insurance) which would raise money specifically for health spending.


Queuing for bedspace in an English hospital

Other schemes have been suggested, like an addition to income tax to be spent on education. This idea of having a dedicated tax which raises revenue for a specific purpose is known as ‘hypothecation‘ and here is why it is a terrible idea.

First up, you can see why this idea pops up from time to time. Politically, it’s a very appealing promise to make and it’s certainly quite a visible one. Polls on the latest UK one to do with extra NHS funding puts support in favour of such a tax at over 60%. And it’s certainly an easy idea to “sell” given that most folk do think of tax and spending in a causal way. The government raises revenue TO spend on public services. Therefore, we raise THIS tax TO spend on THAT public service.

Except governments almost never work that way. Taxes might be raised at different levels of government (So, in the UK, we have taxes controlled at UK level, Scottish level or local authority level) but at each level, the revenue from each tax is pooled (At UK level, it’s even known as the Consolidated Fund).

Even taxes which appear to be designed for a specific purpose (or were even initially introduced as such) generally just get lumped into the fund.

Some advantages to hypothecation are claimed. In addition to the easy political “sell”, they can increase transparency and limit the way in which the taxes are manipulated. A good example of this can be seen in Fuel duty which, according to GERS, raised £2,369 million in Scotland in 2016-17. Add on Vehicle Excise Duty which raised £466 million and the VAT we pay on fuel (and, in an interesting case of double taxation, the VAT paid on the fuel duty) you quickly reach a sum that is many times the amount of money actually spent on building and maintaining roads in Scotland. In fact, they collect more revenue than the entire transport budget. The cynic would therefore be forgiven in asking if taxes on transport had been set at a rather higher level than “necessary” to pay for their function.

Of course, taxes do more than raise revenue (or reclaim excess money, if you’re using the MMT paradigm. I’ll talk about the distinction a bit later). They can also be used to redistribute wealth (by progressively taxing higher incomes and wealths at a higher percentage than they do lower incomes), can re-price goods to account for “externalities” (such as the costs of cleaning up the pollution caused by their manufacture or use) or they can re-shape behaviour (a tax on tobacco, alcohol or sugar can act to limit your consumption of those goods). By hypothecating revenue, it forces people to look through the lens of that revenue and can make it more difficult to use the taxes as a lever towards these other goals. To take our transport example, if VED and fuel duties were hypothecated only to road budgets and lowered so that they only covered that budget and no more  then it may encourage an increase in vehicle use to the point that it had knock-on effects on health and the environment.

But there’s a more fundamental reason to oppose hypothecated taxes. The economy is not a static system. It has its ebbs and flows (some might call them “cycles“, but that implies a predictable regularity) and these have positive or negative flows on both tax and expenditure.

Let’s take seriously for a moment the idea of an additional income tax hypothecated on to health spending. The first and most important thing to note that linking health spending to income introduces a significant risk to the system. When you’re working and earning and have enough money to cover your needs (and pay the health tax) then there’s a good chance that you’re also quite healthy and don’t actually need healthcare. But say you lose your job. Your quality of life takes a substantial hit. Your health declines as a result. Your income and the tax you pay has reduced but your healthcare needs have increased. Say there’s a recession and nearly everyone reduces their income at the same time. The ability to pay for the increased healthcare needs are undermined by the reduced taxation. Look at this chart of NHS spending in the UK and note carefully the jump in spending between 2008 and 2009 – directly after the Financial Crisis (and before the Tories began Austerity in 2010 and kicked off the current mess we’re in).

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It’s worth noting that the idea of increasing National Insurance rather than income tax, is an even worse proposal. National insurance is a deeply regressive tax and easier to avoid than income tax. For my part, I’d be happy if NI was abolished altogether and folded into income tax.

Another reason to avoid hypothecating in this way is because it undermines the principle of universalism. A progressive society accepts that those can afford to contribute more should do so for the benefit of all but a progressive society also accepts that services should be available for all when they need them. Once taxes get carved up for specific purposes it becomes so much easier to start lobbying to minimise taxes for those services that people “paying” for them aren’t using. “Why should I pay the health tax when I never need to go to the doctor’s? I’ll just pay up front when I need it.” It wouldn’t take too many election promises to see the tax morph into a mechanism to choke off health funding rather than the opposite.

And one more reason to oppose is – to bring things back to the MMT view of things – that governments should not base their spending on tax revenue receipts. Spending comes before tax and should be based on need. Constraining spending – whether through Austerity or artificial hypothecation limits – merely moves the deficits around. If the government stops spending on healthcare and you need it, either you pay through the nose for private care or you do not get better. A government deficit acts to inject money into an economy and provides services so you don’t need to go into debt or stop spending elsewhere. A government deficit is YOUR surplus. As the squeeze deepens, you start triaging your spending. We’ve seen the result of this. “Premium” supermarkets first started giving way to “budget” shops. Now, even the budget shops are struggling. This is a worrying observation.

Again, it’s simply not the case that tax revenue results in spending. It’s the other way around. By spending, by creating jobs and keeping people able to work them, governments create the capacity to tax.

Have another look at that ONS healthcare spending chart again. If NHS spending had continued to grow at pre-2007 rates it would have been around £260 billion by 2017 instead of the £144 billion actually spent. That’s over £100 billion needed but either being taken out of other budgets or just not being spent. That’s why NHS England has patients queuing out the door. Why staff have been cut. Why over 120,000 people have DIED due to government policy.

If we want to have a debate about where and how governments reclaim money back out of the economy and for what purpose (be it to limit inflation, to limit – or promote – inequality or to reshape society and compensate for externalities) then we can and should; it’s certainly worth another blog post in the future. But the simple truth is this:

Hypothecation will not result in extra funding for public services when it is government policy to not fund those services.

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