Hansard

In my remarks, I will focus on one part of the brief paper that I submitted, on the treatment of deductions from the block grant once tax powers have been devolved, which is a matter of immediate practical concern.The difficulty is that the obvious things that occur to you to do in that situation are not usually the right things to do. The central authority in London says, “Now you’ve got the tax, you don’t need such a big grant. We’re going to take something off it.” The obvious thing to do is to assess the expected revenue from the tax—assuming that you are using the same rate as the rest of the United Kingdom—and deduct that, then correct the assessment for the outturn in the following year.That is all right, but what do you do in subsequent years? After all, if that deduction was, say, £50 million, and the economy grows, it would seem a little odd to deduct just £50 million for evermore if the tax base was growing with the economy. How do you manage how the tax base, and therefore the deduction, evolve over time?Two things might occur to you. One is to keep on doing that—to look at how the tax base has evolved and deduct that every year. That seems obvious but, in my opinion, it is a bad idea because it would prevent you from realising any benefits that you may achieve through good policy. It would also protect you against any weaknesses that you may create through bad policy and it would bias the direction in which you move taxes.Suppose I cut a tax, and it was the right thing to do and the tax base grows. I will get the same revenue even though the rate is lower. In that case, because my tax base has grown, the deduction from the block grant will grow and I will get no benefit from the success of my policy. I have wiped out the gain from the growth of the base, so why would I ever cut a tax in that situation?On the other hand, if I increase the tax and shrink the base, the deduction shrinks, the block grant goes up and I am not penalised. To be always raising taxes and never lowering them creates a bias as well as, in effect, protecting me from the effects of a tax change. There are things to be said in favour of that approach, but to me that is a big objection.There is another thing that it might occur to you to do. Let us say that the deduction in year 1 is worth £50 million, which is X per cent of the block grant. You might say, “We’ll just reduce the block grant by X per cent in perpetuity.” Over time, the deduction would grow at the same rate as the block grant, which will be linked to expenditure in the rest of the UK. That is not terrible—it is what the Calman commission recommended, in general.The weakness in that approach arises if it is applied to a shared tax base—as with income tax—because it gives you no protection if the UK does things that affect your tax base, which it can of course do. The base is shared, but because the UK controls thresholds and allowances it can unilaterally change the value of your base. Even if, for example, it shrinks the base by increasing personal allowances, your deduction will still go up at the same rate as the block grant. You can renegotiate, of course, but it is not good to have to go back and have an argument every time the UK makes a tax change. In short, the proportional deduction has things to be said for it—for a start, it is simple—but it leaves you exposed if you have a shared tax base.That is why the commission that I chaired recommended a so-called indexed approach to income tax in which you index the deduction to the growth of the UK tax base. As a result, any messing with the base is automatically reflected in your deduction, but if you manage to change your own tax base through good or bad policy, the deduction will not be affected. In other words, you retain your advantages.Although the Treasury said that such an approach was too complicated and could not be done, it has since said, “Okay—we’ll do it.” However, I know from the case of Northern Ireland that it has tried to apply the indexed deduction approach across the board because it wants only one method. The trouble is that that is not necessarily sensible either. It is reasonable for income tax, but there are certain taxes where you know that the UK tax base is going to grow at a different rate from your tax base. If you are indexed to the UK tax base, your tax base might not keep up with that indexation. An obvious example is any property-related tax. Although London has a large influence on the UK property market with regard to prices and transactions, it is completely detached; if there is a crisis in Greece, London property prices go up. If you are indexed to that tax base, you might be put at a disadvantage. For each tax, therefore, you must ask whether your tax base is likely to keep up with the UK tax base before you ask for that particular dispensation.The final method of adjusting the block grant deduction is simply not to do it. Instead, you say, “Let’s do a deal on a single reduction from the block grant and leave things at that. We’ll take £50 million off for ever and that’ll be fair enough.” If you can do that, it will be by far the simplest thing and it is, in fact, a perfectly reasonable approach with a number of the smaller taxes that have been part of the devolution agreements. The aggregates tax, for example, has a static base and therefore does not grow, and there is no reason why you cannot simply look at the expected future returns from the tax, discount them at a reasonable rate to get a lump sum, take off that lump sum and leave things at that. As I have said, that would be a perfectly appropriate procedure for some taxes. I have no doubt that you would have to haggle with the Treasury over the amount that you should deduct, but I suppose that that is life.I think that I have spoken for long enough, convener. I am happy to take questions.