In the second part of this “Two Views” exchange, David Choat replies to James Caygill’s post.

First of all, I’d like to thank James for agreeing to participate in this ‘Two Views’ on GST exemptions. It’s not easy sticking your neck out and being the one to say ‘they’ve got it wrong’. As it happens, I think Labour have made the right move in deciding to remove GST from fresh fruit and vegetables, but I also think it’s important that progressives be willing to publicly debate the merits of initiatives like this. It’s more respectful to Labour (and the Greens) to assess their plans in a balanced way, than to feel that their merits are so fragile that only uniform unwavering praise from their supporters will get them through.

I can’t help thinking that a major part of James and my differing views on this initiative stems from our differing views on GST overall. At the risk of putting words in his mouth, James appears to see the establishment of a simple, exemption-free GST as an enduring achievement of the Fourth Labour Government. I have much more mixed feelings. I see GST as part of the Rogernomics reform of the tax system in the mid-1980s. And while I wouldn’t want to go back to all the complexities and rebates of the Muldoon-era tax system, the Rogernomics reform represented a significant rebalancing of our tax system in a less progressive direction, and was a major contributor to our becoming one of the most unequal societies in the OECD.

A combination of factors — including voter psychology, media ownership, the risk of capital strikes and perhaps some timidity on the part of progressives — mean that we are largely stuck with this settlement of a relatively flat income tax regime twinned with (regressive) GST.

So I don’t accept James’s dichotomy that we should either accept the current design of GST as sacrosanct or rethink it entirely. We don’t really have the freedom for the latter at this juncture, so we should treat GST as a not-particularly-beloved part of the furniture — not something we can easily get rid of, but something we have no compunctions about adding or removing the odd feature from, if it suits our current purposes.

So what about this particular proposed adjustment?

I’d accept James’s point that this isn’t necessarily the most brilliantly effective mechanism for redistributing money into the hands of the needy that could possibly be designed.

And that it isn’t necessarily the best mechanism conceivable for encouraging people to eating in a more healthy way either.

But I think it will make some progress on both those fronts. And not many initiatives have a ‘double-bang’ like that, especially on such important issues as those.

It also has the secondary attraction of acting as some form of repudiation to the Key-English-Hide government’s regressive and unpopular GST hike. Labour and the Greens were right to oppose the increase to 15% being imposed in the first place, but reversing it wholesale, as James suggests, would be a more messy prospect. Much of the so-called ‘tax switch’, other than for the very rich and the very poor, is largely ‘churn’, with Key-English-Hide giving with one hand and taking away with the other. But that means that reversing it would involve a lot of churn too.

Better to target the truly offensive aspects of the package (the impost on the poor, the giveaway to the rich) and put in place specific measures to address those (as Phil Goff has signalled by promising to restore the top tax rate). This initiative allows Labour to do that, without simply leaving the GST changes to stand untouched.

All of that adds up to quite an appealing résumé for a policy that, while costly, is not overwhelmingly expensive. A bit of context for that statement may be in order. My understanding is that taking GST off fresh fruit and vegetables would cost around $250-$300 million a year. That’s around about the amount of additional funding Labour put into schools and early childhood education in Budget 2008 (which included SchoolsPlus), or the (operating balance) impact of interest-free student loans. It is small enough to be paid for (albeit with considerable difficulty) out of the $1.1 billion (ongoing) already set aside for Budget 2012. Working for Families, by contrast, had a full-impact cost of $1.1 billion a year for the initial policy in Budget 2004 plus an extra $500 million a year for the extension promised in Labour’s 2005 manifesto. And the personal income tax cuts in Budget 2010 had a full-impact cost of $4.3 billion a year.

Returning to the GST exemption impact on redistribution and health, I should add that I’m also a bit more positive about this measure’s likely affects than James. He contrasts the exemption unfavourably with HEHA (Healthy Eating/Healthy Action), but I’m not so sure. There were some good measures in HEHA but my impression is that it was pretty targeted and reliant on public education and exhortation, which I tend to be a bit sceptical of. But James knows this area better than me, so I’m happy to stand corrected.

I’m pretty confident, though, that one important thing that HEHA didn’t do is alter the relativities between fresh food and fast food, which I see as one of the most important underlying drivers of our obesity troubles. As I often do, let me turn to Matthew Yglesias who shares the following graph (from David Leonhardt) showing the divergence between fresh fruit and vegetable prices and those of other food and beverages (especially fizzy drinks) in the US over the last thirty years:

In that context, I think there’s a real value in measures that try to target price directly. (And since the impact while be disproportionately upon the poor, who spend more of their income on groceries, I prefer a GST-free carrot to the stick of ’sugar taxes’.)

In terms of the policy’s other impact, on people’s pockets, James prefers a continuation of the sort of direct redistribution that progressive governments have focussed on recent years, through tax credits (like Working for Families) or targeted tax cuts. I hope we’ll see some of this in future, too, but one of the emerging themes on Policy Progress recently is that those sort of measures will not be enough on their own. We’ve seen that in the reflections of James Purnell, in the guest-posts of David Craig, and even from new UK Labour leader Ed Miliband.

The amount of change to our income distribution needed to make New Zealand a decent egalitarian society again; the limitations of trying to sail against the tide of market forces that are pushing widening income dispersal (without trying to change that tide); and the greater legitimacy that people ascribe to what seem to be market allocations of income. All these suggest that we need to widen the set of mechanisms we bring to bear on tackling inequality.

Obviously, simply removing GST from fresh fruit and vegetable is not The Answer to that challenge. But anything sensible we can to positively impact the distribution of disposable income in a way that supplements more direct measures should be welcome (especially if it doesn’t attract howls that we’ve “turned people into beneficiaries”).

Finally, I should address James’s challenge that the policy simply won’t work: supermarkets will pocket some or all of the reduction, so there will be minimal effect on prices. This is essentially an empirical question, so I did a quick search on Google Scholar. This quote from a paper from Latvian economist Alf Vanags seems to sum up the state of literature:

Hard evidence is somewhat thin on the ground but the studies cited in Blundell (2009) suggest that for “many goods we should expect a full pass on” (p 33) and that pass through is unlikely to be less than 75%.

This broad view is also taken by Copenhagen Economics (2007) who note “there is little doubt that permanently lowering the VAT rate on a particular good (or service) sooner or later will lead to a reduction in the price of the good more or less corresponding to the monetary equivalent of the lower VAT rate. If the VAT rate goes down by 10 percentage points on a good with a before tax price of €100, the price paid by the consumer will sooner or later drop by €10 for the vast majority of products. In economics jargon, there will be a strong tendency towards full pass-through” (p9).

I’m not claiming that GST-exemption on fresh fruit and vegetables is the best policy Labour has ever come up with, or that it should be the central plank of their election campaign. I’m certainly hoping for more from the next progressive government than cheaper groceries. But I think this initiative will be a worthwhile component within a broader suite of policies.

Coming up: short replies from both James and David.