[Public Lecture Series] Economics #13 Types of Taxes and the Tax System
Hello everyone!
In our last class, we learned about 'public finance' and 'budgets,' which are the mechanisms for the government's large wallet.
This time, we will focus on the main character of the money that goes into that wallet—in other words, the taxes we pay ourselves.
The theme is Types of Taxes and Tax Reform.
Let's start right away with today's first question.
'If you were told that the consumption tax would be raised to 20%, would you agree or disagree?'
'Then, what if you were told instead, "We will make income tax for the wealthy much higher, so the consumption tax will be zero"?'
'I absolutely hate the idea of a 20% consumption tax!'—I can almost hear you saying that (laughs). However, in reality, many European countries have a consumption tax (value-added tax) that exceeds 20%. In exchange, things like university tuition and medical expenses are free.
Conversely, you might think, 'Why not just take a lot from the wealthy?' But if you do that too much, there is a risk that talented individuals and large corporations will say, 'I'm escaping to a country with lower taxes!' and leave Japan hollowed out.
Why are we studying this unit? It is so that when we see discussions about 'tax hikes' or 'tax reform' in the news every day, we can calmly identify the fact that 'every tax has its pros and cons' rather than becoming emotional. What kind of taxes will you pay in the future, and how much will you contribute to supporting society? This is a theme that is directly linked to your real life.
1. What is the 'significance of taxation' in the first place?
First, let's start with the fundamentals. The taxes we pay have two major significances.
Significance 1: Funding public services (securing fiscal revenue)
We covered this last time, didn't we? It is the capital for providing public goods and social infrastructure such as police, fire departments, roads, and public schools. It is like a membership fee for society, where we all contribute to pay for the infrastructure we all use.
Significance 2: Adjusting social mechanisms (policy significance)
Taxes are not just for collecting money; they are also used as a 'control lever' to make society better. For example, income redistribution to reduce inequality or stabilizing the economy. These are all carried out by changing how taxes are collected.
The ideal of taxation: 'Two types of fairness'
When collecting taxes, the most important thing is that 'everyone can be convinced,' in other words, that it is fair. However, this word 'fair' actually has two meanings. This is often targeted in tests.
Vertical equity:
This is the idea that 'people with more economic means (the wealthy) should bear a greater tax burden.' The progressive income tax we learned about last time is exactly this.
Horizontal equity:
This is the idea that 'people with similar economic means should bear the same amount of tax.' For example, if two people have the same income of 10 million yen, it is fair for them to pay the same amount of tax regardless of their occupation or gender.
In a nutshell...
'Vertical equity is "vertical fairness to bridge the gap," and horizontal equity is "horizontal fairness to treat people in the same situation the same way."'
How to strike a balance between these two is an incredibly difficult puzzle for a country.
2. Tax classification map (National tax/Local tax, Direct tax/Indirect tax)
Now, let's create a classification map so that you can organize the many taxes in the world in your head. Broadly speaking, there are two perspectives.
Perspective 1: Where you pay it (National tax and Local tax)
National Tax: Taxes paid to the national government. Income tax, corporate tax, consumption tax, liquor tax, etc., fall under this category.
Local Tax: Taxes paid to the prefecture or municipality where you live. This includes resident tax, fixed asset tax, and automobile tax.
Perspective 2: Who pays and how? (Direct Tax and Indirect Tax)
This is a super frequent topic on the Common Test!
Direct Tax: A tax where the person obligated to pay the tax (taxpayer) and the person who actually bears the burden of the tax from their own pocket (tax bearer) are the 'same'. (Example: Income tax and corporate tax on company profits. You calculate and pay it to the tax office yourself.)
Direct tax is easier to adjust according to a person's income situation, so it has the advantage of being able to easily realize vertical equity (taking more from the wealthy). However, it has a major weakness in that it is 'easily influenced by economic fluctuations.' When a recession hits, everyone's wages drop, and company profits decrease, the national tax revenue drops sharply all at once.
Indirect Tax: A tax where the person obligated to pay the tax and the person who actually bears the burden are 'different'. (Example: Consumption tax, liquor tax, tobacco tax, etc.)
When you buy a juice at a convenience store, you are paying consumption tax, right? But you don't go and line up at the tax office to pay it directly. You pay money to the store, and the store pays it to the government on your behalf. This is an indirect tax.
In a nutshell...
'Direct tax is a tax you pay directly yourself, while indirect tax is a tax you pay indirectly through stores, etc.'
Column: Why was consumption tax introduced in Japan? The history of the 'direct-indirect tax ratio'
In the history of Japan's public finance, a major issue was the direct-indirect tax ratio.
This is the ratio of 'how much direct tax and indirect tax make up' of the country's total tax revenue. In the past, Japan relied on direct taxes like income tax and corporate tax for most of its tax revenue (the proportion of direct tax was very high). However, this meant that when a recession occurred, tax revenue would drop significantly, making national management unstable. Furthermore, looking ahead to the future aging society with a declining birthrate, it was thought that there was a limit to relying only on the income tax of the working generation. Therefore, in 1989, the consumption tax was introduced as a leading indirect tax that would be widely and fairly borne by all citizens, ensuring stable tax revenue even when the economy is bad or the population is aging. The background to the consumption tax starting at 3% and rising to 5%, 8%, and 10% was the government's aim to improve this direct-indirect tax ratio and stabilize the financial resources for social security.
Let's compare the characteristics of consumption tax and income tax
As part of preparation for the Common Test, it is essential to understand the characteristics of consumption tax and income tax by contrasting them. Consumption tax has the greatest advantage of 'stable tax revenue,' but it also carries a significant problem. That is
regressivity.
Regressivity is a phenomenon where 'the lower a person's income, the heavier the tax burden becomes relative to their income.' For example, suppose a wealthy person with an annual income of 10 million yen and a part-time worker with an annual income of 2 million yen both buy the same 100-yen notebook and pay 10 yen in consumption tax. While the amount paid is the same 10 yen, the damage (burden) that 10 yen causes to the household budget is greater for the person with an annual income of 2 million yen. In other words, if left unchecked, consumption tax becomes a tax that is harsh on the poor. To alleviate this
regressivity
even slightly, the reduced tax rate system, which you see in stores, was introduced. By keeping the consumption tax rate at 8% for 'food and beverages' (excluding alcohol and dining out) and 'newspapers under subscription,' the government is trying to curb the burden on daily necessities.
3. Challenges facing Japan's tax system
Now, from here on, let's delve into the challenges of the modern Japanese tax system that lie behind the textbook. Here, too, I will pose a question to you.
'Salarymen, self-employed individuals, and farmers. Did you know there is a rumor that the percentage of income grasped by the tax office differs depending on the occupation?'
This is a common complaint heard when discussing the Japanese tax system, known as the 'Kuroyon (9-6-4)' or 'Togo-san (10-5-3)' rule. Salarymen (wage earners) have 90% to 100% of their income transparently grasped by the tax office because of the 'withholding tax' system, where taxes are deducted from their salaries in advance. On the other hand, this is an analogy for the sense of unfairness that only about '60% (or 50%)' of income for self-employed individuals and '40% (or 30%)' for those in agriculture, forestry, and fisheries is accurately grasped (*there are various theories, and it is said that the tax office's current capture technology has evolved further). In this way, discussions about fairness regarding the
income tax burden rate of self-assessed taxpayers
and the capture rate of income continue to this day.
Corporate tax rates and the puzzle of 'tax avoidance'
Another major issue in the modern economy is international competition over corporate tax rates. Japan's corporate tax rate has been lowered compared to the past. The reason it has been lowered is to increase the international competitiveness of companies and have them keep many offices and factories in Japan. If Japan's tax rate were too high, companies would move their bases to countries with lower taxes (regions called tax havens, etc.). Using legal loopholes to skillfully and legally avoid tax burdens is called
tax avoidance. The fact that large corporations around the world are engaging in this tax avoidance, causing the loss of vast amounts of tax revenue that should have originally gone to those countries, has now become a major international issue. Currently, countries around the world are cooperating to create rules (international tax reform) to put a brake on excessive downward competition, such as 'making the minimum corporate tax rate 15% globally.' This is exactly the 'current status' of this unit.
Summary
Well, today's class is coming to an end. This time, we ran through everything from the types of taxes to the challenges behind them. We tend to think of 'taxes = things taken away.' However, as we learned today, taxes are an important balancer for reducing social inequality, stabilizing the economy, and supporting our future social security. From now on, when you hear terms like 'consumption tax debate,' 'corporate tax cuts,' or 'new tax increase plans' in the news, please don't just get angry or happy, but remember the 'merits and demerits of direct and indirect taxes' and the 'perspective of fairness' we learned today. The subject of Public Affairs is a textbook for seeing through the essence behind the news and thinking for yourself about what kind of society we want to create. Well then, that's all for today's class. Thank you for your hard work!