SUSAN MUGWE: More taxes: You cannot make a fat man skinny by tightening his belt

There’s never a convenient time for death, taxes and childbirth.

This has never rung truer than in the past week. The hue and cry on the increased taxes on gas and airtime has reverberated across class, tribe, and political divide. This is as a result of the introduction of the 16 per cent VAT on cooking gas, and five per cent increase in telephone and data services through the Finance Bill, 2021.

This follows closely on the heels of fuel price hikes in April, which were the highest level in Kenya’s history retailing at Sh127.11 per litre.

The reason advanced by the Parliamentary Budget and Appropriations Committee for raising these taxes is to fund the Sh3.6 trillion budget. In other words, this was an admission there is a budget deficit.

A budget deficit occurs when government spending is greater than tax revenues. It is caused by certain unanticipated events such as the Covid-19 pandemic, which has had huge economic ramifications, expanding welfare programmes, tax evasions, corruption or demographic pressure of an aging or fast-growing population.

Budget deficits lead to accumulation of public sector debt. When the deficit is unsustainable, it leads to higher interest payments, and in a worst-case scenario, a loss of confidence in the government by the global money market.

To correct a budget deficit, a government can do three things; cut government spending, raise taxes and or promote economic growth.

The government has chosen option two. But this is very lazy thinking because any law, habit or action that is undertaken gives birth not only to an effect, that is immediate and seen, but to a series of effects, that unfold in succession, but are not instantly seen.

And as surely as night follows day, when the immediate effect is favourable, the ultimate consequences are fatal, and the converse is also true. The sweeter the first fruit of an action, the more bitter are the consequences. An obvious example is prodigality. Kindly ask your Sunday School teacher to elucidate further.

It is impossible to ring-fence any tax increase. Humans are praxeological beings. They rank their needs according to their available means. For example, if you had only one litre of water and had to choose between cooking, brushing your teeth or watering your lawn, you would use it on the need that you rank the highest. I bet that would be cooking.

The same principle applies when Kenyans are compelled to pay higher prices for fuel without a commensurate increase in their income. They may opt to walk to work, which leads to fewer people using personal cars or public transport. This leads to fewer trips by the vehicles, leading to fewer litres of fuel purchased, leading to lower revenues generated by the fuel entrepreneur and matatu owner, leading to both of them downsizing and job losses.

Equally, an increase in the cost of gas means more people will opt for cheaper unhealthier and environmentally unfriendly alternatives. This will lead to pollution and poor health, leading to a loss in productivity and forest cover, and an increase of more people seeking healthcare services, thus an increase in the strain on the health services, leading to increased negative externalities, which leads to the need to increase the health budget, while already we are in a budget deficit.

It has been forecasted that with the increased tax on airtime, the government will collect Sh8 billion from the 62 million subscribers. However, an increase in airtime costs will lead to more people spending less time communicating or transacting on their phones because rationale human beings are creatures of incentives and disincentives.

If you encourage something, people will do more of it; and if you discourage something, people will do less of it. The latter will lead a loss in revenue by the telcos, and a slump in the e-commerce sector, which will eventually lead to downsizing and job losses. So isn’t it a fallacy to think that the Sh8 billion will be realised through increased taxes on airtime?

When revenues of entrepreneurs and industries decrease, it leads to job and business losses. Subsequently, people are unable to spend, leading to lower production in all other sectors, thus further job losses. This eventually leads to lower taxes collected, and ultimately budget deficits — which the said increase in taxes is meant to cure.

Allow me to illustrate this using the Laffer Curve.

The Laffer Curve theory explains the relationship between tax rates and tax revenue. It illustrates that the more an activity is taxed, the less of it is generated. The converse also holds true. This means lower taxes boost economic growth and underpins the supply-side economics.

Let us conceptualise this on a graph and plot the revenue along the x-axis, the tax rate along the y-axis, and the point at which they intersect is zero. If the tax rate is 0 per cent no tax revenue is generated because nobody is paying taxes.

Likewise, if the tax rate is 100 per cent, the tax revenue is still zero because nobody is willing to work and have all their income taxed leaving them with nothing. When taxes increase from zero, it boosts government revenue immediately. And the more the taxes go higher along the y-axis, the more the revenue that is collected along the x-axis. However, as the tax increase continues, the payoff in additional revenue begins diminishing as the tax base reduces causing the curve to boomerang backwards to zero.

The Laffer Curve theory has two effects. One is arithmetic and the other is economic. Proponents of demand-side economics only focus on the arithmetic because they view this effect as static. It means that when tax rates are lowered, the tax revenue will also be lowered by the amount of the decrease in the rate, and vice versa for increasing the tax rate.

So, hypothetically if the tax rate is one per cent the revenue may be Sh10,000, and two per cent would generate Sh20,000. This decreases the after-tax income with every tax increment. Similarly, if the tax rate is 0.5 per cent, the revenue generated would decrease to Sh5,000.

Demand-side economists, however, ignore the economic effect that recognises the positive impact that lower tax rates have on work, output and employment. When people are taxed less, it incentivises them to work, spend, save and invest more. This increases their income and spending on other goods and services thus stimulating economic growth.

Entrepreneurs who are taxed less are able to re-invest into expansion of their enterprises or invest in new enterprises thus hiring more workers, and producing more goods and services. The net effect is a boost to economic growth, which in turn generates a larger tax base and eventually a higher tax revenue for the government. Conversely, raising taxes has the opposite effect.

In economic-speak, the fundamental economic principle is that of demand and supply. The law of demand states that, ceteris paribus, the higher the price of a good, the lower the quantity demanded and vice versa, save for inelastic goods. Tax rates also follow the universal principle of demand and supply. The more costly a product or service is, the less of it that will be demanded by the consumers and produced by suppliers.

In keeping with this economic principle, the proponents of increases in the sin tax postulate that it is meant to reduce consumption of harmful goods such as tobacco and alcohol, and correct the negative externalities arising from the consumption of these products.

They concede that the decrease in consumption is motivated by economics, and not health. It is, therefore, quite baffling that these same advisers cannot, or are unwilling, to apply the same principle on the tax increases on fuel, gas and air time.

I submit that the more the government spends, the more it must tax, now or later, one way or another. And you would be considered a visitor in Jerusalem, if you are unaware the government has undoubtedly been on a spending spree. But what is more important to remember is that it has nothing to give anybody except what it first takes away from somebody. And if government is big enough to give you everything you want, it is also big enough to take away everything you have.

Finally, my unsolicited advice is to our MPs. You cannot make a fat man skinny by tightening his belt. He has to shed the weight, which is painful, gruelling and unpleasant. Likewise, stand up for once for your electorates, and hold the Executive, yourselves and the crony capitalists, accountable for the excessive waste, spending, corruption and tax evasion, and embrace austerity and integrity in letter and spirit.

I contend that for a nation to try to tax itself into prosperity is like a man standing in a bucket and trying to lift himself up by the handle - Winston S. Churchill