Fiscal Forum: Future of the EU Tax Mix with Dr. Monika Köppl-Turyna

In September 2024, I had the opportunity to interview Dr. Monika Köppl-Turyna, director of the EcoAustria Institute for Economic Research, about the future of the EU taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities.  mix. A lightly edited transcript from that interview is below and shows that there is a trade-off between stability and flexibility in European tax policymaking. It also shows that there ought to be a balance between fairness and competitiveness when thinking about improving tax policy.

Sean Bray: How would you characterize the EU tax mix?

Monika Köppl-Turyna: It’s very labor-oriented, but it has to do with the fact that most of the taxation consists of social security contributions because we have a very large welfare state in most countries. Most countries finance it through social security contributions. One exception is Denmark, which is essentially only tax based. And that is the reason why most countries raise most of their revenues from labor taxation or social security contributions. Then follows consumption taxation, which is the second largest or maybe some countries’ largest chunk of the tax mix, followed by some smaller items such as property taxation and business taxation, both of which do not really contribute much to the income of the Member States. So, it is basically labor taxation, social security contributions, and consumption.

Sean Bray: From your perspective, are there 27 separate tax mixes, or do you see it as an EU tax mix?

Monika Köppl-Turyna: These are definitely 27 tax mixes because European law does not give any kind of taxation competencies to the EU institutions. Maybe some things such as the carbon taxation of industry are exceptions. We have the certificate trade, which is a form of taxation, regulated at the EU level, but generally, there is no competency of European institutions in that matter. Taxes are just a national issue, and in that matter, they differ a lot. So, we can really only talk about tax mixes of individual countries.

Sean Bray: What improvements should be made, in the medium term, for a stable and democratically legitimate European tax system?

Monika Köppl-Turyna: As I was mentioning, most countries are very keen on taxing labor and, in particular, we have very high social security contributions in most countries. If you look at Organisation for Economic Co-operation and Development (OECD) data, the countries that have lower levels of taxation are pretty much all outside of the EU, such as Switzerland, Canada, or New Zealand. So, I would say the first thing that matters is really the level of taxation, which is very high internationally, even within the developed world. There are a few exceptions to that within the EU. The UK is no longer in the EU, but it used to be one of those countries with lower taxation. Besides that, most of those are very high. So, I’d say the first thing is the issue of how high the taxation on labor is. And it has to do with the fact that we have those large welfare states and, in particular, the fact that we have a lot of demographic changes now, forcing countries to spend lots of money on the pension system and on long-term care in the health system. And the situation is not going to get better. So, in my opinion, the first step that we need to take is to take demographic change really seriously because, from that, we can do something about taxes. There will be no possibility of reducing labor taxation without first thinking seriously about pension reforms in most countries.

There are a few exceptions to that, such as the Netherlands, Denmark, and Sweden, which had the reforms already way back, which put a lot of focus on the capital pensions. Denmark did those already in the 1980s, but Sweden also did it in the 1990s. This helped relieve the pressure on the pension system. But in most other countries, which do not really have strong private and capital pensions, we have an issue of huge expenses on the side of the state and the cost of the pay-as-you-go system. We have to take this seriously so we can talk about reducing labor taxation.

Sean Bray: What role should corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. and taxes on capital gains play going forward in this broader mix?

Monika Köppl-Turyna: There are a few studies, very famously the one by Arnold and coauthors, about growth-promoting taxation. It turns out that most of them are not really growth-promoting. We obviously know that labor taxation is not growth-promoting because it creates wrong incentives, creates incentives to work less, and discourages entrepreneurship. But it’s not the case that all the other taxes are better because the most negative thing is the effects that we have are actually from corporate taxation. So, I wouldn’t be so keen on saying we need to reduce labor taxation in favor of increasing corporate taxation because this would likely lead to even slower productivity growth in the EU. So, the first thing is the level, and the level has to be done through getting a grip on the expenditure side of things, having proper pension reforms (e.g., the age at which you’re entitled to retirement payments), and this will relieve the pressure on labor taxation.

On the other hand, there is one thing we can talk about, and this is property taxation. In particular, immobile property, taxation of land or buildings, which most studies show to be more growth-friendly compared to corporate taxation, which is the worst you could do. We as an Institute have been saying this for many years, but one thing you could do in Austria is reduce some parts of the labor taxation in favor of increasing taxation on land and property. This is the one form of wealth taxation that is growth-friendly because that’s the one in which the tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. does not erode very quickly in comparison to the standard wealth taxation. We have seen the base erode in many cases once European countries have tried this, such as in France or Norway. The negative consequences for the economy would be far higher than the kind of income we wanted to generate with those taxes. So, we are strictly against classical wealth taxation in this aspect. What we do favor is increasing the mix of property taxation, which is very low in Austria, mostly due to political reasons. And, in that way, you could do something about labor taxation. I wouldn’t increase corporate taxation. We have studies that show that it really is not a good thing in terms of investment and productivity growth for companies.

Sean Bray: What political constraints do policymakers face when designing tax policy at the EU and Member State levels?

Monika Köppl-Turyna: The first political obstacle is really the fact that pension reforms are not very popular. If you really want to have sane and stable public finances, you need to do something about pensions, but that’s the least popular thing you can do. That’s why governments try to avoid it. We have this huge discussion in Austria about this.

The second thing is that it feels good to tax the very rich because it’s, “don’t tax you, don’t tax me, tax the guy behind the tree,” as US Senator Russell B. Long once said. For most people, it doesn’t feel like they will be “victims” of new taxation of very rich people. This, on the one hand, has to do with the fact that there is little understanding of the economic consequences of this taxation. If you think, okay, I’ll tax this huge company, it might mean that this company will move out, and I’ll lose my job. But most people don’t think in those terms—so it feels good. And on the other hand, if you want to have a wealth taxA wealth tax is imposed on an individual’s net wealth, or the market value of their total owned assets minus liabilities. A wealth tax can be narrowly or widely defined, and depending on the definition of wealth, the base for a wealth tax can vary. , it will need to go deep into the middle class to be able to theoretically generate any kind of meaningful revenue. The calculations presented by some political institutions show you numbers that no economist really believes, and then they say, if you really want to have a wealth tax, then we need to start at the level of, let’s say, EUR 100,000 for it to generate proper income for a short term. Because in the long term, there would be negative consequences for the economy and base erosion, and then, all of a sudden, it turns out that it hits pretty much everyone. But that’s not how we discuss things. We are suggesting that it will be only 1 percent of the people that generate billions. That’s not going to be the case.

And the third thing is that one of the more efficient taxes is consumption taxation. That’s one of the reasons why actually a big chunk of the tax mix is usually consumption taxation, because it’s pretty easy to control. We have the value-added tax (VAT), and it is much easier to control than some other forms of taxation, but it’s regressive and hits the low-income people more. So, if you want to have a more efficient tax system, let’s say going away from labor towards property or towards maybe higher consumption taxation, it doesn’t affect incentives to work which makes it a more efficient way of taxing things. But it will hit the low-income people more, so that’s why it’s also politically unpopular. These are the kinds of constraints I can see in the discussion this time and in the discussions we have.

Sean Bray: What political appetite, from the Austrian government or population, do you think there is for any kind of EU-level taxation?

Monika Köppl-Turyna: I don’t think that’s on the table. But honestly, it would probably make sense to have some competencies at the European level. We have this discussion with other economists that the EU should focus more on providing European public goods, such as infrastructure. For example, we have the energy crisis, and, all of a sudden, it turns out that our electricity markets are not very well connected. They never have been. We know this. And there should be somebody who coordinates the building of electricity infrastructure or maybe hydrogen infrastructure. So, for European public goods, it probably would make sense to have some taxation competencies at the European level.

For instance, carbon taxation kind of fits well with the EU’s energy agenda. But then most people are afraid that if we give more competencies to Brussels, it will not be the case that they will invest in European public goods, which we need, but they will redistribute more in the cohesion policy. Or they will redistribute more to common agricultural policy, which is just saying that we need agriculture subsidies to the Member States who have more voice at the European level. There is this kind of struggle. It might economically make sense to have some taxation competence at the EU level, but there is, I would say, a fairly well-grounded fear that this money will not be spent efficiently. And I think we’re stuck in this discussion. I don’t have the impression that there is something moving here.

Sean Bray: What do you make of tax fairness, and what do you think would make the future EU tax mix fairer?

Monika Köppl-Turyna: I’m an economist. I always have a problem with the word fairness because that’s not an economic term. And I would be very glad if some of my colleagues who talk about tax fairness would explicitly tell me what they mean. Because as economists, I don’t think we have the tools to be talking about fairness. This should be politicians or religion or ethics specialists who should talk about it. For me, as an economist, fair is when it’s efficient, and it generates growth, so that we can have growth redistributed to the population. The perfect tax system should be as efficient as possible and then still leave some place for redistribution because through that, we are able to raise the incomes of more people, even at the cost of rising inequality. But rising inequality is less of an economic problem, and more of a political problem. So, for me, a tax system should be primarily growth-enhancing and efficient. And then, secondarily, the second goal should be to redistribute so that we are able to support the poorest of the economy. But that’s how I understand fair, and I think we focus much too much on redistribution within the tax system and basically within any kind of policy tool. When we talk about pension reforms, the first thing to pop up is really redistribution. No, that’s not the point of the pension. Pension is there for a particular goal, and we have other tools in the policy mix that should care for redistribution. So, there should be much more focus on growth-enhancing taxation and less on redistribution, in my eyes, at the European level.

We didn’t talk about carbon taxation. I think that’s one of the most efficient ways we could do things. We like to tax “bads” as opposed to “goods.” We like to tax, I don’t know, tobacco consumption and all the kinds of things that we know are harmful. So taxing bads is a good thing, but it’s also not very popular. And it’s also regressive, like any other kind of consumption taxA consumption tax is typically levied on the purchase of goods or services and is paid directly or indirectly by the consumer in the form of retail sales taxes, excise taxes, tariffs, value-added taxes (VAT), or an income tax where all savings is tax-deductible. . But that would be one way to also make the tax system more efficient.

Sean Bray: How do we define the “bads,” and who ultimately gets to decide what should be considered “bad” for excise taxAn excise tax is a tax imposed on a specific good or activity. Excise taxes are commonly levied on cigarettes, alcoholic beverages, soda, gasoline, insurance premiums, amusement activities, and betting, and typically make up a relatively small and volatile portion of state and local and, to a lesser extent, federal tax collections. purposes?

Monika Köppl-Turyna: That’s exactly my main critique of the European taxonomy. It’s not about taxing, it’s about providing money to companies, but the idea is exactly the same. Ex-ante, we would define who is a good company and who is a bad company working in which sector. And essentially ex-ante would include large chunks of the economy from financing or make it more difficult for them to finance themselves and then maybe restructure themselves by being greener. So, I don’t like those kinds of instruments. They’re very static, and do not allow for market dynamics. Efficient taxation should be as simple as possible, with as few exceptions as possible, unless you really want to have a particular policy goal. But then, the more you start defining policy goals and making the tax system more complex, the more political influence you have to accommodate that starts to weaken the growth effects of the policy.

Sean Bray: What is the role of the EU Capital Markets Union for growth?

Monika Köppl-Turyna: The one issue we have is not enough capital for growth. And one part of that is obviously taxation, but I would say the larger part of that is going back to the pension reform. In those few countries in which you have proper capital pensions, such as Denmark, you have actually very nice capital markets, a lot of risk investment, and a lot of private equity. So, this is what the European Union should be doing, not only because it helps tame the expenditure on the pension system, but it also helps develop the financial market.

A big part of why America is where it is in Silicon Valley is due to an obscure legal change in 1978, which said pension funds are allowed to invest in venture capital. And since then, it has boomed. We should have something European and go along the same direction by building up pension funds that are the big institutional investors providing money to fund companies. There is a lot of wealth, but traditionally the European system is much more concentrated than the American one in terms of companies, but it is also different in terms of being very strongly bank financed and less equity financed. And it’s a culture in a sense. But it’s not the case that we don’t have money. There are a lot of endowments. But the point is that the law is very restrictive. So, the point where a person who got this chunk of wealth to be endowed dies, then the lawyers take over and they’re very restricted in terms of what they can do. So, what they essentially do is buy property, which is one way to create wealth but isn’t very efficient for the economy. It would be better if they would invest more in companies or a capital market or in startups, but that’s how they’re very restricted in legal terms in Austria, at least. So, there is money there, but you need to provide more incentives for this money to flow into the economy.

Sean Bray: Would an inheritance taxAn inheritance tax is levied upon the value of inherited assets received by a beneficiary after a decedent’s death. Not to be confused with estate taxes, which are paid by the decedent’s estate based on the size of the total estate before assets are distributed, inheritance taxes are paid by the recipient or heir based on the value of the bequest received. make the economy more efficient?

Monika Köppl-Turyna: That’s a very vivid discussion among economists. Some would say that inheritance taxation is more efficient than labor taxation because it’s “ex-post.” So, it doesn’t affect incentives, which essentially is true. But on the other hand, it discourages saving, and saving is what you want in the economy. It’s very basic macroeconomics that savings equal investment (minus the outflow of capital), so essentially what you save in the economy you can invest in the economy. And there is one interesting paper that says if you really want to build up capital stock over time, then you should subsidize inheritances because it has a positive effect on the saving rate, and it allows you to build capital stock over time. There are pros and cons of inheritance taxation, but the bottom line is that the very sheer numbers are very low. So, even if you would have this inheritance taxation as part of a tax mix, it wouldn’t make much of a difference in terms of sheer numbers. One exception is Switzerland which has fairly high revenue from inheritance taxation, but in all the other countries in which we have it, it’s really just 0.5 percent of GDP. You are not able to significantly reduce any kind of other taxes just with this. So, the big part is still getting grip on the expenditure side.