‘Something is rotten in the state of Denmark’, Shakespeare wrote in Hamlet.
If the UK’s tax-to-GDP ratio was at Danish levels the Exchequer could generate an extra £220 billion per year in tax revenues.
Yet Denmark’s economy has not suffered from this. Denmark’s GDP-per-capita (the best measure of economic success) is around US$10,000 higher than the UK’s, while growth rates and unemployment have broadly matched ours in recent decades.
Recent research led by the economist Henrik Kleven has identified five key reasons why Denmark has, in many ways, managed to ‘square the circle’ of sustaining a high tax-to-GDP ratio while not harming overall prosperity.
- The Danish tax system has widespread third-party information reporting and extensive and well-established ‘paper trails’ that the tax authorities can rely upon to identify and verify taxable activity.
- Taxes are levied on a broad basis. Allowances, exemptions, deductions and other distortions are minimised. Broader and simpler taxes reduce the scope for tax to distort the economic decisions of individuals and businesses.
- Sizeable amounts of tax revenues are spent on subsidising or providing services which complement working, like transport services, education and training, active labour market policies and child and adult social care. This reduces the potential for ‘poverty traps’ and helps to keep labour market participation high.
- Around two-thirds of the marginal income tax rate paid by Danes is set locally. This local income tax surcharge is supported by other local taxes such as a municipal land value-based tax. Local taxes engender a clear connection between revenue raising and expenditure.
- High-levels of social capital (in other words levels of trust and mutuality) mean that Danes are generally willing to pay taxes at the rates that they do.
However significant other demands are pressing on the public purse. Health and social care as the population ages is an obvious one. We might also identify ameliorating the housing crisis, the persistent under-spending on education (especially vocational education), the long-running chronic funding shortage that has afflicted defence for many years; also spending on the police, justice and UK’s borders.
The prospect of sustainably funding any, never mind all, of these seems remote in the present environment.
Denmark’s offers a clearly successful alternative example.
A social democratic Government could, over a series of Budgets, re-design the tax system in order to maximise the role of third parties and the flow of information about taxable activities. Reform would also need to broaden the tax base, reducing to the barest minimum the number of exemptions, allowances and write-offs that permeate the current system, and simplify the system to minimise tax-induced behavioural distortions.
There is also no good reason why significant fiscal devolution could not be implemented. Some of the revenues raised would need to be spent on public services that complement labour market participation. Other measures such as improving tax auditing and strengthening anti-avoidance measures (now possible because the UK has left the EU, which inhibits the efforts of tax authorities) could further shore up the tax base.
Vested interests would fight such a programme tooth and nail. We would also need some redistribution to compensate those on lower incomes who would be negatively impacted by broadening the tax base in the short-term.
Nevertheless, Denmark’s example shows that, if social democrats want to replenish the public purse and use the collective power of the state to boost our health, wellbeing and safety, it can be done.