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Advantages of the flat tax rate
submited on 09.08.2007 in category Political stability | Fiscal affairs | Monetary policy | Regulated markets | Privatisation | Macroeconomic developments
submited on 09.08.2007 in category Political stability | Fiscal affairs | Monetary policy | Regulated markets | Privatisation | Macroeconomic developments
There have been several formal arguments in the discussion regarding introduction of a flat tax rate hitherto: tax reduction, tax competition with other economies in the EU, more fair income tax treatment.
Tax treatment is something simple, but on the other hand, revenues generated by personal income tax will continue to grow with a 10% flat tax rate, as well. The argument for tax competition is relevant, but it must be justified why tax on income is more appropriate than a reform in social security payments. Last but not least, whether proportional tax treatment is more “fair” is moreover a matter of political decision, rather than economic effects, with the argument that hardly any tax burden could be defined as fair.
We support systematically the implementation of a flat tax rate mostly due to arguments, regarding labor market functioning. First, the suggested change implies reduction in the marginal tax rate for the most popular working positions, as well as the most productive and hard-working employees. This induces change of incentives not only for the common Bulgarian employee, but also for the progressive part of the economy as a whole. For every additional BGN 100 the tax burden for the employee and the employer will decline rapidly. For a person, who receives over BGN 1400 monthly the burden of additional BGN 100 will decrease more than 2 times.
The other (maybe even strongest) argument for a flat tax rate stems from the fact that one and the same tax rate reduces differently work of people with different income. The labor supply has certain elasticity, which is positive. Elasticity of supply by higher income decreases, i.e. one and the same tax percentage point reduces more notably labor supply by people having higher income, other things equal. This is the macroeconomic rationale behind the question why tax rate reduction bears more positive effects for the economy with a flat tax rate as opposed to graduated tax rates.
Labor demand could differ significantly for occupations, which generate higher income, and those characterized by lower earnings. For example, under infinitely inelastic demand, the tax burden would shift entirely to the employer’s profit and consequently would not have any effect on the level of employment. However, this example seems relatively isolated from reality. Regarding most common positions, paying in Sofia around BGN 800-1000, in Varna, Plovdiv Burgas and Stara Zagora – around BGN 500-700, labor demand has certain positive elasticity, and we do not expect it to be significantly different by regions and occupations.
The more elastic the labor demand is, the stronger the effects of tax treatment on employment, i.e. the employee bears larger burden than the employer. That is the reason why the flat tax rate effects will affect most notably labor market segments with the most elastic demand. In our opinion those are “basic” and medium skill-set positions, which constitute over 70% of registered employment in Bulgaria.
Tax treatment is something simple, but on the other hand, revenues generated by personal income tax will continue to grow with a 10% flat tax rate, as well. The argument for tax competition is relevant, but it must be justified why tax on income is more appropriate than a reform in social security payments. Last but not least, whether proportional tax treatment is more “fair” is moreover a matter of political decision, rather than economic effects, with the argument that hardly any tax burden could be defined as fair.
We support systematically the implementation of a flat tax rate mostly due to arguments, regarding labor market functioning. First, the suggested change implies reduction in the marginal tax rate for the most popular working positions, as well as the most productive and hard-working employees. This induces change of incentives not only for the common Bulgarian employee, but also for the progressive part of the economy as a whole. For every additional BGN 100 the tax burden for the employee and the employer will decline rapidly. For a person, who receives over BGN 1400 monthly the burden of additional BGN 100 will decrease more than 2 times.
The other (maybe even strongest) argument for a flat tax rate stems from the fact that one and the same tax rate reduces differently work of people with different income. The labor supply has certain elasticity, which is positive. Elasticity of supply by higher income decreases, i.e. one and the same tax percentage point reduces more notably labor supply by people having higher income, other things equal. This is the macroeconomic rationale behind the question why tax rate reduction bears more positive effects for the economy with a flat tax rate as opposed to graduated tax rates.
Labor demand could differ significantly for occupations, which generate higher income, and those characterized by lower earnings. For example, under infinitely inelastic demand, the tax burden would shift entirely to the employer’s profit and consequently would not have any effect on the level of employment. However, this example seems relatively isolated from reality. Regarding most common positions, paying in Sofia around BGN 800-1000, in Varna, Plovdiv Burgas and Stara Zagora – around BGN 500-700, labor demand has certain positive elasticity, and we do not expect it to be significantly different by regions and occupations.
The more elastic the labor demand is, the stronger the effects of tax treatment on employment, i.e. the employee bears larger burden than the employer. That is the reason why the flat tax rate effects will affect most notably labor market segments with the most elastic demand. In our opinion those are “basic” and medium skill-set positions, which constitute over 70% of registered employment in Bulgaria.
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