Re-visiting the Hawke-Keating legacy

John Howard mustn't believe his luck. After his election in 1996, he saw Labor systematically distance itself from the Hawke-Keating economic reforms. The result? As the economy turned around, and with Labor without a story, Howard could easily take the credit. In politics, you make your own luck.

Circa 2005, economy chugging along but with structural problems, Labor rediscovers Bob Hawke and Paul Keating but Howard appears to be embarking on an ambitious tax and welfare reform project of his own. What is Labor's response this time? Return to Hawke and Keating and use it as a curtain to disguise an empty policy cupboard. Why do we do this to ourselves?

With the Howard Government preparing to reform tax and welfare, what should be federal Labor's broad approach? Support the Government, but insist it goes further by cutting the top tax rate of 47 per cent and aligning it with the company rate at 30 per cent. Aligning the rates, remember, was precisely what Keating did in the mid-1980s.

Labor needs to revisit its approach to the Hawke-Keating economic legacy, including acknowledging that it represents a lot more than just banking and finance deregulation. Tax and welfare reform were fundamental too. Extensive reductions in the top marginal rate, the alignment of the top rate with the company rate and dividend imputation were Labor efforts.

Hawke and Keating dramatically reduced the size of the welfare bill, introducing the then unpopular assets and activity tests. In fact, it can be said that the Hawke-Keating project was a lot more than just liberalising markets, important as this was. Their true legacy was diverting resources and capital from the public sector to the private sector - shrinking government and removing distortions that prevent resources being directed to their most productive ends. Labor in 2005 needs to get this and build on it.

There are plenty of good reasons Labor should align the tax rates. The 12 cent and 17 cent difference between the top two rates and the company rate is a recipe for tax avoidance and shuffling. In today's world, paying more than the company tax rate of 30 per cent is optional. After you've gone beyond that threshold, you merely incorporate and be done with it.

No amount of complicated rules and architecture around the alienation of personal services income will help stem the tide. The view that the tax system is progressive is illusionary, given modern work patterns of independent consultants and contractors - all enjoying the company rate.

Moreover, the gap between the two rates is a gift to the conservatives - their industrial-relations framework hangs off it. The tide to non-union agreements and working arrangements is fuelled by workers wanting to lower their tax obligations through incorporation. Labor can cut right through on industrial relations by guaranteeing that all workers, irrespective of their working arrangements, will pay no more than 30 cent in the dollar tax.

Finally, cutting the top tax rate would benefit the allocation of resources across the economy as a whole. In its submission to the Productivity Commission's first-home-ownership inquiry, the Reserve Bank of Australia argued that directing savings to the investment housing market is driven by a desire to reduce high rates of taxation at the top. This capital can be directed to other, more productive forms of investment in the economy - something that Labor wants to see happen.

So how would Labor pay for such an expensive plan? In three important ways.

The first would be to sift through the $30 billion in tax expenditures that curdle the system. A considerable number of these expenditures are deliberately designed to reduce the severity of the top marginal tax rate. Others are merely handouts to industry sectors. In fact, the whole fabric of tax expenditures needs a thorough clean-out. Tax expenditures are outlays by another name and mask the true size of government.

Second, Labor must ditch the nonsense that the proceeds of bracket creep will somehow be returned to taxpayers, spelling out what being returned means. In fact, Labor has been genuinely fickle in this regard, rallying against the Government for being the highest taxing government - true - while licking its lips at the spending scope this provides. Labor must clearly define itself as the party of rate cutting, returning bracket creep with a whopping 17 per cent cut in the top rate.

Finally, and importantly, Labor must sign on to real welfare reform and extend mutual obligation to the sticky areas of the disability pension and parenting payment. Australia can no longer sustain a situation where large slabs of the labour force are not active and on benefits, leaving the existing workforce to pick up the tab with long hours (or years) of work and higher taxation.

You wouldn't know it but Labor under Keating aligned the top tax rate with the company rate. This is just as much part of the Hawke-Keating legacy as financial market reform. If Labor in 2005 is genuine in maintaining the tradition of Labor pre-1996, then it will not shirk from the tax and welfare reform challenge. Rather, it will demand the Government go further.