Monday, July 3, 2017

Should we be concerned with the slowdown in tax revenue growth?

Exchequer tax revenue bottomed out in the middle of 2010 and has been on a fairly steady upward trend since then.

Exchequer Tax 12-Month Rolling

There has, however, been a bit of attention given to the “flattening out” that has occurred since the middle of 2016.  This is more apparent if we look at the annual changes in the moving sum depicted in the chart above:

Exchequer Tax 12-Month Rolling Annual Change

Here we can see that tax revenues recorded their fastest recent growth in early 2015 (13.6 per cent in February) and while it was still above 10 per cent in mid-2016 there has been a steep fall in the growth rate since then with growth down to 3.5 per cent in May 2017.  Should we be concerned about this fall in the growth rate of tax revenues?

There are three reasons that can serve to ameliorate our concerns:

  1. The level shift in Corporation Tax receipts in 2015,
  2. A spike in Excise Duty receipts in early 2016,
  3. The impact of €2.2 billion of revenue-reducing budgetary measures (of which €1.8 billion relate to Income Tax)

Corporation Tax revenues began to rise in the middle of 2014 but really ramped up in the second half of 2015. 

Exchequer Corporation Tax 12-Month Rolling

A level-shift from €4 billion to €7 billion occurred in a very short period of time and for the past 18 months or so receipts have been relatively stable at the new level.  This will obviously have had a dramatic impact on the annual growth rates.   The growth of Corporation Tax exceeded 50 per cent towards the end of 2015 and was still above 40 per cent in June 2016.  Since then the growth of Corporation Tax has fallen markedly as the rise to the new level washes out of the annual growth rates.

The other tax exhibiting a strange recent pattern is Excise Duty.  If we truncate the vertical axis we can highlight this.

Exchequer Excise Duty 12-Month Rolling

Excise duties rose unexpectedly in early 2016 and have returned to somewhere near where they might have been had the steady upward trend seen since the middle of 2013 continued at the same rate.  The reason given for the spike is that excise duty from cigarettes increased markedly in advance of the expected introduction of plain packaging legislation.  The pattern for new car sales will also have contributed to the Excise Duty outturn.  The nature of the spike in early 2016 means that the annual changes in Excise Duty have turned negative.

Here are the annual changes in 12-month rolling sums of Corporation Tax and Excise Duty receipts:

Exchequer CT and Excise 12-Month Rolling Annual Change

What we see is that the growth rate of both have been falling since the middle of 2016 though obviously much more markedly in the case of Corporation Tax.  It is likely that these are driving the similar trend we see in overall Exchequer Tax receipts.  So let’s look at the growth of Exchequer tax revenue excluding these Corporation Tax and Excise Duty (notwithstanding that they are two of the big four ‘tax heads’):

Exchequer All and Ex CT and Excise 12-Month Rolling Annual Change

The navy line is the pattern that has caused some recent concern.  The maroon line is the annual change excluding Corporation Tax and Excise Duty, and while this did fall during 2015 it has been relatively stable for the past 18 months or so, generally showing growth of between four and six per cent.  All the recent slowdown in the growth of Exchequer Tax revenue is due to Corporation Tax and Excise Duty.  Are the 2015 level-shift in Corporation Tax and the 2016 spike in Excise Duty reflective of underlying trends in the economy?

One tax that may reflect the underlying trends of the economy is Income Tax and this appears to have flat lined recently.  This was growing at between eight and ten per cent through 2015 and up to the end of 2016 but the improvement slowed in 2017 to less than half that amount.  The latest Fiscal Monitor shows that Income Tax to the end of May is only up 2.5 per cent on the same period of 2016.

May Exchequer Tax

One reason not to be concerned with this is that around €1.8 billion of measures reducing Income Tax were introduced across Budgets 2015, 2016 and 2017, of which the bulk related to the Universal Social Charge.  One way to assess this could be to compare the growth rate of PRSI (which hasn’t had significant policy changes from a revenue perspective in recent budgets) to the growth rate of Income Tax (which has). 

Income Tax v PRSI

We see a large gap opening up in the past six months or so.  PRSI receipts have grown between eight and nine per cent year-on-year.  Income Tax revenues were growing at close to that level up to late last year but the growth has fallen to around three per cent now.  If this drop was reflective of underlying trends in the economy we could expect both Income Tax and PRSI to be similarly affected. 

The fact that they are not points to something else and the eight per cent growth of PRSI receipts reflects the underlying strong growth in the economy.  And in replying to a PQ the former Minister for Finance indicated that the PAYE component of Income Tax was up eight per cent in the first third of the year compared to the same period of 2016.  Again, this is in line with what we see in the labour market.

On the other side, VAT seems to be growing a little stronger than the underlying trends in the economy would suggest.  It might be something we come back to. As shown below, the growth of VAT on a rolling 12-month basis jumped at the start of 2017 and is now growing at nearly ten per cent.  Although seemingly positive maybe this is the one we should be concerned about.

Exchequer VAT 12-Month Rolling Annual Change

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