Soon the traffic light will have to make a decision. Does it take inflation seriously and is it really aligning its policies accordingly? Or does it get lost in the minutiae of a debate about a series of specific relief measures? In September, the government has to submit two reports – the progression report and the subsistence level report. What sounds technocratic has significant implications for almost everyone’s life. Or should she have. It is about adjusting the tax burden to the price increase – by increasing basic and child allowances as well as child benefit and income tax is readjusted by adjusting the tariff.
Federal Finance Minister Christian Lindner wants to present a series of proposals in anticipation of this coming week. Lindner will not do this alone because he likes it, but because he has to. Customization is required by law.
A principle in tax law is that the burden is based on individual performance: Poor people pay little or nothing, top earners are taken (they still have a lot more in life). Economic performance has a lot to do with prices. It’s about purchasing power.
What Lindner will soon be putting on the table will quickly become the subject of heated debate. One direction is already discernible: Compensation for the “cold progression” (that’s the thing with the tax rate) will result in relief for high earners in particular. According to a current calculation, a family with two children and a gross household income of 40,000 euros would save 316 euros a year. At 150,000 euros it would be 1002 euros. The calculation is based on the assumption that the tax rate compensates for inflation of six percent.
unfair? Not really. That’s the way it is in a progressive tax system, i.e. one that is linked to performance – those who pay more taxes are absolutely better off with an adjustment. If not adjusted, the actual burden would be reversed – 326 euros here, 1002 euros there. Who can afford that better?
But this mechanism is not perceived as entirely fair. Therefore, if the progression is adjusted (i.e. the continuously higher taxation of income up to the top tax rate, currently 42 percent), it should also be possible to offer high earners less relief.
There are options – starting with a separate top tax rate of 45 percent for the rich, which you simply don’t include in the inflation adjustment. This will not be noticed at all in this income group.
In any case, it would be unfair if the traffic light coalition did nothing or too little to adjust for inflation. Of course, politicians don’t like losing revenue. But they are required now. Lindner has therefore already hidden a reserve of ten billion euros in the draft budget for 2023 – the drop in income for the federal states would be correspondingly high.
You could do a lot of good with that, but with a different kind of distribution, argue those who don’t want to adjust for inflation. About other relief measures. However, there is no longer any justification for this.
With a small price increase, it would probably be acceptable if politicians remained inactive. But no longer with inflation of six or seven percent for the year – and the prospect that the level will remain high in the coming year. Fiscal capacity is falling so significantly this year that there is no way out. Salaries don’t keep up. And the Chancellor’s concerted action also aims to prevent a wage-price spiral from developing. So Olaf Scholz will not be against the inflation adjustment.
The effect of higher taxation by not taking this step is primarily a problem for lower and middle income people. Because it is with them that the tax progression hits hardest. The effect of this phenomenon can best be illustrated with cases that are not all that rare – the people who have seen little or no increase in salary for years and have no prospect of improvement. Their purchasing power decreases every year, but their individual tax burden would remain the same – would not be adjusted.
Even with those who get salary increases, the “cold progression” still nibbles away from the gain. Only when inflation is overcompensated, which is often the case in good sectors, does the phenomenon play little or no role. In this respect, the phenomenon of “cold progression” also plays an important role in distributive justice among employees. It punishes losers, but it doesn’t affect winners.
In this context, one should not overlook the inflationary effect of the real estate price bubble of recent years, which has been reflected locally in significantly higher rents. This is hardly taken into account when measuring inflation. Accordingly, the loss of purchasing power due to massively increasing rents is not an issue for tax purposes. Incidentally, regular adjustments would actually also be required for the tax allowances for employees and savers.
In short: anything other than adjusting the tax rate to inflation in the fall is inconceivable. Then it has to be lavish. In the coalition, you shouldn’t even start arguing about it.