The NHS Tax

Perhaps the most surprising thing about Norman Lamb’s comments about the NHS today is that they have received coverage in the media. After all, politicians and other vested interests have been warning of the imminent collapse of the NHS and calling for more money to be spent for decades, regardless of which party is in government or how much is actually being spent.

However Lamb has raised something interesting – hypothecated taxation.

He has proposed an “NHS tax” which would be “separated out from National Insurance on pay slips”.

These proposals are seriously misguided and should be resisted by the government.

Why is it such a bad idea?

Spending on a particular service should not be dictated by how much a particular tax raises. Neither should tax policy be determined by spending requirements of a particular government department.

Suppose that the government had set out the optimum level of funding for the NHS and that the “NHS tax” raised twice as much as was forecast. There are two possible outcomes:

  • The money raised from the “NHS tax” is spent elsewhere rendering the hypothecation meaningless
  • The money raised from the “NHS tax” is put into the NHS even though it could be better spent elsewhere. The hypothecation would lead to the inefficient allocation of resources

The same can be said of the reverse. If the “NHS tax” raised less than expected, either the level of funding will be insufficient to meet the plans that have been set or additional money raised from other taxes will have to be spent on healthcare. As before, the hypothecation becomes meaningless.

Strong hypothecation whereby all revenues generated by a tax are allocated to fund a particular service regardless of how much is actually needed is clearly undesirable.

But even with strong hypothecation, Lamb’s “NHS tax” could well just mask increases in other government spending. Tax revenues are perfectly fungible – one pound can be substituted for another pound. So if the “NHS tax” raised an extra £10 billion, the amount of funding it receives from the Consolidated Fund (the government’s bank account) could easily be reduced by £10 billion and this money spent elsewhere. The net result is simply an increase in overall spending.

Some of the most egregious examples of this have been highlighted by the Mercatus Center in the report The effects of dedicating tax revenues”.

The report found that:

  • For each dollar of general sales tax revenue earmarked to education spending, no significant increase in education spending was observed, but an increase of $0.55 in total government expenditure was found
  • Each dollar of corporate income tax revenue dedicated to education was associated with a decrease of roughly $2.72 in spending on education and a similarly sized increase in spending on other programs
  • For each dollar of personal income tax revenue dedicated to local governments, expenditures in other areas increased by roughly $0.84 and total spending by $0.94.”

Hypothecation is at best a complication, and a worst a mechanism for surreptitious tax increases. The British public’s often irrational fondness of our mediocre health system would make them more amenable to tax increases if they were led to believe the proceeds would be spend on the NHS. However for the reasons explained above, in the unlikely event that this happened, it wouldn’t be desirable.

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