The Rat Race - Mensa Magazine Article

Taxing Question: Can we create a fairer system?

This is an article that I wrote appeared in the May edition of the British Mensa Magazine (I am a member of Mensa) It explores a different kind of tax system which has the potential to create a fairer society. There are debates in many countries, Japan being a notable example, as to whether it should be introduced.

Here is the ugly truth: most people try to gain status in society by showing off their wealth. They do this by buying what we call ‘conspicuous goods’ or expensive stuff that have cheaper and equally good alternatives.

You can see an extreme example of this in the online sensation Rich Kids of Instagram with its  unpleasant show of wealth by very young people (see panel opposite). Every primate including humans, vie to climb up the status ladder. Perhaps there is nothing wrong with this, it is just natural in a meritocracy. Or perhaps this is what is responsible for an increase in inequality as well as stress related diseases.

Wealth and income has increased steadily over the last 50 years or so in the West. But repeated studies have shown that overall happiness among people has not increased. British economist Richard Layard blamed it on the status-seeking behaviour of humans.

We have all become accustomed to working more, and spending more just to get ahead of others.

Consciously or unconsciously we buy things to display our higher material status. Remember the time you bought those expensive Nike shoes? Or that expensive watch? Or the Lamborghini? We do this to show others our wealth. We sometimes prefer cheaper alternatives, but end up buying costly  ones so that we are not noticed using the cheaper goods and having others “think less of us”. This behaviour is found among almost all humans. However, having a work-spend-and ‘get in front of the line’ attitude is not very healthy for the mind, body or for society.

When everyone works more and spends more everyone has something to lose. Stress and irritation prevails in individuals. Wealth disparities breed in society. So how do we stop this materialistic, consumption attitude? Time for some economics. Undesirable effects caused by activities are called externalities. For example, pollution is an externality caused by burning fossil fuels. If you ask an economist on how to stop negative externalities like pollution, they will recommend taxing it. So taxing pollution could discourage it and reduce pollution (the same thinking applies to the recent tax increase on sugary drinks). Such taxes are called Pigouvian taxes and have many supporters.

Spending to show status is also an externality since it has negative effects... reduced time spent on leisure, increased inequality and reduced trust in society. So can a new tax help eliminate this problem? Yes. Income tax is what we call a ‘progressive tax’. It means the more you have, the  larger proportion you pay. Value Added Tax (VAT) is the additional amount of tax paid on the things you buy – however, it is what we call a ‘flat tax’. Everyone pays the same 17.5 per cent of their consumption. Here is where the problem and the solution lies...

Take a moment to think about what can be done to discourage the materialistic consumption by making some changes to the tax system. It is less to do with Economics and more to do with logic.

Here is one potential solution. ‘Income’, i.e. the money a person earns is equal to the amount they save and the amount they spend. So what if we tax everything other than savings progressively? It means all the money you put in a bank savings account will be tax deductible. The rest, which is the consumption, can be taxed progressively... the higher your spending the larger share you will pay as tax.

Currently since VAT is a flat tax, those with a higher income pay a smaller share as part of their consumption. This new tax will help to reduce conspicuous consumption. Less money will be spent  on fancy handbags, expensive cars and other things that are bought to display status. People will  spend more time on other activities that increase well being, including exercise, family time, charity work and socialising with friends.

This idea is called the expenditure tax and was made popular by an economist called Robert Frank. It has been introduced already in some countries but only so far in a limited form.

Frank advocated a much steeper tax. He believed the richest in society should be taxed on about 70 per cent of their consumption. Such a tax doesn't look like it is coming soon even if, ironically, Bill Gates considers this to be the best tax system because of its fairness and efficiency. If only the Rich Kids of Instagram could be convinced...