Economics

George Osborne described it as “unavoidable” and “progressive”, Vince Cable as “necessary” and “fair”. Don’t blame us, Tweedledee and Tweedledum suggest, Labour left the public finances in a mess – and unless we tighten our belts drastically now, the markets will force our hand. But in fact, the timing, extent and manner of this brutal surgery were a matter of choice. The Liberal Conservative coalition did not have to cut so far, so fast; nor did it have to raise VAT, which will hit the poor hardest.

Britain’s economy is on life support. Banks aren’t lending enough, companies are wary of investing, our biggest export market – the euro zone – is in crisis, and consumption is subdued. Faced with a collapse of private demand, public spending has propped the economy up. But now the coalition is planning to take away that government support much faster than Labour proposed to. Is the economy strong enough to stand on its own two feet? It’s a huge gamble.

The immediate danger is that a drop in demand will plunge the economy into a double-dip recession. That would cause a lot of pain without much budgetary gain: a smaller structural deficit would be offset by a larger cyclical one, leaving the country poorer but the government still borrowing almost as much. Far from shoring up confidence, as Cable suggests, the budget could shred it. Weighed down by huge debts, the economy might stagnate for years, as Japan did after its bubble burst twenty years ago.

Another big danger is that the economy will stagger back to its bad old ways instead of developing along new and healthier lines. Now, more than ever, Britain is relying on a prolonged period of near-zero interest rates to sustain the recovery. Fiscal austerity for monetary licence – that is the bargain that the Chancellor has struck with his chum Mervyn King, the not-so-independent governor of the Bank of England and newly promoted plenipotentiary for financial regulation (an assignment he does not merit, given his insouciance during the bubble years and his role in the Northern Rock fiasco). But with Britons still addicted to property speculation, big banks still unreformed and able to gamble with government guarantees, and the authorities depending on monetary policy to boost growth, we risk inflating a new financial bubble to rescue us from the bursting of the last one.

This emergency budget was a missed opportunity to tilt Britain towards more balanced and sustainable growth. Instead of increasing VAT next January – which will raise £13 billion a year – the government could have phased in a tax of £30 a tonne on carbon emissions. That would not only raise around £16 billion a year, it would curb carbon emissions while stimulating investment in clean-tech companies and the green jobs of the future.

An even better way to fill the budget gap and rebalance the economy would be to introduce a tax on land values. With all the land in Britain worth perhaps £5 trillion, a 0.5% levy could raise £25 billion a year. That could be used to cut the deficit, trim national insurance, and protect public spending on the most vulnerable.

Taxing wealthy landowners’ windfall gains would also limit property speculation and fund new social housing. And since growth-promoting infrastructure investment raises surrounding values, Crossrail and a high-speed rail network would pay for themselves and thus not fall victim to short-sighted budget cuts.

Over time, shifting the tax burden off labour and on to land would create jobs, reward hard work and promote more stable, sustainable and balanced growth. And since nearly all of us earn most of our lifetime income from work rather than from rent, taxing land instead of labour would make most people better off.

The Attlee government introduced a tax on land values in 1947, a measure the Conservatives unfortunately repealed in 1951. As Labour’s leadership candidates consider how best to respond to this unwise and unfair budget, they would do well to revive the idea.

Consider these three facts.

1. Britain is struggling to recover from a crisis caused in large part by a huge property bubble.
2. Unemployment is painfully high and people are feeling the pinch.
3. The government has a huge gap in its finances that cannot be filled by public-spending cuts alone.

What would you raise taxes on?

Astonishingly, Labour is proposing to raise already-high taxes on labour, through an increase in national-insurance contributions. Finance fails, so workers pay—this is not only unfair, it will also damage future growth by making labour more expensive and penalising effort.

Existing income tax and national insurance already increase labour costs by half, while a single person on two-thirds of average wages faces an effective tax rate of over 40 per cent on every additional pound they earn. Raising taxes on something the government wants to encourage—hard work—is perverse.

Another option is taxing harmful things, like carbon emissions. A charge of £30 a tonne could raise around £16bn and reduce emissions. Even better, if the tax per tonne rose as emissions fell, it would ensure a steady source of revenue. But still bigger gains could come from taxing an unproductive asset at the heart of our most recent bubble: land.

Britons have long seemed addicted to property speculation. Yet swapping more or less the same stock of houses with each other cannot logically create riches for society as a whole. Indeed, it has huge costs because it diverts funds from productive investment—while the resulting boom and bust, as we know, can cause havoc. Taxing land could curb property bubbles, and encourage productive investment elsewhere.

It would work by valuing land holdings every year (based on recent market transactions in the same area) and imposing a charge. If this was raised when land values were rising fastest, it would take the steam out of any bubbles—without affecting the rest of the economy, as interest rates do.

A land tax would be efficient as well as stabilising. Whereas taxing income from work is wasteful—less is produced, and no tax is raised on the lost output—land supply is fixed. So shifting the tax burden from labour to land would boost growth, according to an OECD study. No matter how heavily you tax it, land cannot move, or be spirited away to a tax haven.

And since land values in Britain are huge, even a low tax rate could raise big sums of money. The rate could be tapered so that small landholders pay very little while large ones pay much more.

Land already accounts for the bulk of property values, especially in expensive places like central London. But taxing its value, rather than that of property or any improvements to it, would not penalise people who do up their home.

It would also encourage the development of vacant and derelict land where planning permissions it.

Unlike stamp duty, a land-value tax would not be a tax on property purchases, so it would not discourage people moving. And it needn’t force a granny in a big house out of her home; payment could be deferred until her death if necessary.

Critics say the tax is problematic because land is hard to value. Nonsense. Property changes hands all the time; estate agents and surveyors routinely value property as part of their work.

Land-value taxes could be easily and cheaply collected. Hong Kong and Singapore both derive a large share of their revenue from variants of this system and have very low income taxes as a result. Denmark also has a long tradition of land-value taxation.

Perhaps most importantly, land taxes are also fair. Whatever you think of the merits of capitalism, there is nothing intrinsically desirable about the initial distribution of property rights in an economy. In most countries history means the distribution of land is highly unequal.

Land in Britain is more unequally distributed than in Brazil: there 1% of the population owns 49% of the land; here 0.3% per cent owns 69%.

Britain’s biggest landowner, the Duke of Buccleuch and Queensberry, owns 277,000 acres because he descends from a man who seized vast swathes of Scotland. Far from being taxed, he is rewarded with huge handouts from the Common Agricultural Policy.

What’s more, the value of land increases each year not through landowners’ striving, but that of others. As economic activity in London has soared through the ingenuity and toil of the masses of people who have flocked there, the value of the 300 acres of fields—now known as Mayfair and Belgravia—passed down to successive Dukes of Westminster over three centuries has sky-rocketed to an estimated £6.5 billion.

Wouldn’t it be better to tax that windfall gain rather than the work of those who really generated it? And since the distribution of land is so unequal, taxing it would be progressive too.

Likewise, when a government builds a new railway line and the value of the surrounding property soars, surely it is right that this unearned wealth be taxed. When the Jubilee line extension to Canary Wharf was built, property values adjacent to its stations rose hugely—by £2.8bn at Southwark and Canary Wharf alone.

Land-value taxes would pay for—and thus encourage—public investment in valuable infrastructure. It could fund, for instance, the high-speed rail network that Britain so desperately needs.

Conversely, landowners would be partly compensated for new developments that reduced the value of their land.

The concept has a fine pedigree. David Ricardo, the founder of modern economics, was a fan. So is Martin Wolf, the FT’s chief economics commentator, while Liberal Democrat shadow chancellor Vince Cable has proposed a “mansions tax”.

Perhaps the most eloquent case for land-value taxes was made by Winston Churchill in 1909.

Roads are made, streets are made, services are improved, electric light turns night into day, water is brought from reservoirs a hundred miles off in the mountains – and all the while the landlord sits still. Every one of those improvements is effected by the labour and cost of other people and the taxpayers. To not one of those improvements does the land monopolist, as a land monopolist, contribute, and yet by every one of them the value of his land is enhanced. He renders no service to the community, he contributes nothing to the general welfare, he contributes nothing to the process from which his own enrichment is derived.

A century on, the rest of us would benefit from finally facing down the ultimate vested interest: the big landowners who still own most of Britain.

This is an extended version of an article that appears in the new Prospect, which is on sale now.