Tax and wealth creation

Secretary-General of the OECD
Page 3 

It was Louis XIV’s finance minister, Jean-Baptiste Colbert, who claimed that the art of taxation was to pluck the maximum amount of feathers from the goose with the least amount of hissing. Colbert’s view was close to the truth, even in today’s world, but taxation in his day was not used as an instrument to achieve a broad range of economic and social objectives. Rather, it was a tangle of practices and customs designed to finance wars, private and public works, as well as the pet schemes of the royal family – and their aristocratic hangers-on. In fact, until the 20th century, the notion of a progressive tax on income did not strike them as being virtuous.

In the second half of the 20th century many of us realised that taxation was indeed a multifaceted instrument which, if used sensibly, could help each society attain its economic and social goals. This required a delicate balance between rewarding entrepreneurship, innovation and risk-taking on the one hand, and the need to finance important public expenditures on the other, including education and social programmes, as well as the traditional public works which attracted Colbert, like the Canal du Midi. Not easy to do, and few countries, if any, can be fully satisfied with the balances they have struck. After all, there are only three main sources of tax revenue upon which government treasuries depend: income, capital and consumption. Too heavy a tax burden on any one of those will cause it to become unreliable as a source of revenue, as well as generating distortions and inequities. In some cases, it might spur tax evasion or drive part of the economy underground.

I am hopeful that the burgeoning deficits and high debt that accompanied the “tax and spend” philosophy of two decades ago will not return. Yet I am concerned that while many in public life are interested in wealth distribution, they overlook the importance of wealth creation. When I arrived in active politics in the early 1980s, many well-intentioned colleagues saw no limits to levels of taxation and redistribution. Fair enough; if an elected politician has the courage to tax and spend in a transparent way on his or her perceived worthy social objectives, then so be it. We may disagree, but such is the democratic way. The politician will be sanctioned or approved by the electorate.

However, a government can be tempted to exercise a philosophy of social responsibility by penalising the productive sectors instead of introducing reforms which require greater political courage. Yet, in doing so, it runs the risk of undermining the economy’s growth potential. I do not believe that tax systems should be over-burdened with the social convictions of politicians. Have individuals and corporations pay their fair share of taxes, yes! Have social charges disrupt the good functioning of economies, no! Excessive and unbalanced taxation can prevent many individuals and businesses from taking full advantage of the opportunities of the new knowledge-based economies. Taxpayers (including businesses) should share the burden of protecting those who are vulnerable as a result of change, either through well-designed social protection measures or retraining, not through excessively rigid job protection measures and inflexible labour regimes that penalise productivity.

That is why a fair and transparent tax system is so essential for maximising economic growth. Politicians must have the courage to achieve a sensible balance between income, capital and consumption taxes. And they must also have the courage to spend, not on ill-designed social programmes introduced more to collect votes than social returns, but on important investments in creating human capital (e.g. education, training and health), and necessary public infrastructure to increase the productivity of the economy.

I know it is not easy. I have been there. But I think the public is increasingly suspicious of political motivations and better informed about the impacts of undisciplined public finance. At least, I hope so! We must all do better. As the snapshots in this Observer show, at the OECD we take a lead in a range of taxation issues. We monitor tax data and survey the costs and benefits of various approaches to taxation that have been adopted, changed, abandoned and reinvented over many years; we give frank advice on reform and best practice, and help countries reach consensus on tax matters. We also explore new challenges, such as the taxation of e-commerce, and the problems of harmful tax competition and transfer pricing within large corporations. We have much good and bad experience to offer the world, not least to emerging markets like Russia. My triangular paradigm may be useful here: it is based on the balanced relationship between: first, economic growth; second, social cohesion and third, good governance. Simply put, governments must unshackle the constituent elements of economic growth by letting market forces play their respective roles. And governments must transfer the benefits of economic growth to enhance social well-being and cohesion through transparent and well-designed taxation. If the paradigm could be made to work, then Colbert’s geese would barely hiss at all.

©OECD Observer No 230, January 2002

Economic data

GDP growth: -9.8% Q2/Q1 2020 2020
Consumer price inflation: 1.3% Sep 2020 annual
Trade (G20): -17.7% exp, -16.7% imp, Q2/Q1 2020
Unemployment: 7.3% Sep 2020
Last update: 10 Nov 2020

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