IMAGINE YOU RUN a company and are planning your forward budget. Unlike a government, revenues are not guaranteed, so what you decide is important not just for your success but for your very survival. Being canny is thereby built into what you decide; and your planning decisions tend to look forward using three and ten year approaches.
In your staff mix you can see that Mr MacKay’s tax increases will have a small marginal impact on individuals, but you know that it is likely that those individuals will in time be looking for a compensatory wage rise. This will add to your wage costs, your employers’ NIC bill, and reduce flexibility for competitive pricing. You also factor in that many of your staff have a pre-legislated rise in your employee pension scheme costs over the next three years. There are other regulatory uncertainties; all of which are likely to add to costs. Finally, you realise that all of these small marginal changes are going to affect other companies from whom you buy and to whom you sell.
So in the round you decide that cost pressures ahead are generally changing adversely; that is, a set of small marginal effects are producing a corporate cash challenge.
Now, ALL your staff are important to you, from loyal shop floor operatives, through your energetic middle managers, to your fellow directors with their invaluable specialist talents. Their finances matter to you greatly. What do you do?
The answer is that you over-compensate – deliberately. Why?
The answer lies in something called “over-trading”. Companies that are growing have to buy their inputs before they can sell those as outputs. This means that growth eats cash. Growing companies that do not compensate properly for this get in trouble; they find they cannot pay their suppliers quickly and suppliers respond by responding to orders reluctantly; they find their banks hound them because they can see that they are living at the limit of their overdraft; middle managers notice these struggles and morale drops as heads of department are kept on a constant reduced diet. In short, the freedom to do business evaporates.
Over compensation is the only way out of this; good companies do zero-budgeting annually – essentially re-inventing their business proposition in the light of a marketing approach that integrates price, product, people, and channels to market. Correctly applied, this can inform decisions based on marginal cost and market pressures that can involve changes – but done early to minimise corporate disruption.
That there is a magnified leverage effect to marginal changes in the business environment is rarely recognised, few politicians understand the arithmetic of over-trading; the unpriced public sector offers no insight into the sheer pain and ghastliness of finding yourself in that situation.
What are the policy consequences of these insights?
First, that the response to Scotland’s income tax rises will be greater than expected, driven not by marginal individual behaviours, but by the way businesses respond with a leveraged reaction to a multiplicity of cost margins. That’s likely to be a tactical response over three years.
Second that because, to coin a phrase, everyone expected the Scottish requisition, the Scottish Government have reinforced an existing trend within Scotland – the perception that head winds will become greater; public spending is not constrained. That’s likely to see a structural response over ten years.
My timescales may be too charitable. In the shorter term, the NIC and VAT and rate payments that are made monthly act like lead weights on every productive decision made; and where alternative decisions can be made elsewhere Scotland’s economic growth rate will stall prior to then falling yet further.
We should not underestimate the arithmetic of this leverage effect. A 2 per cent uplift in costs in a £100,000 wage bill that’s 50% of turnover needs a £4,000 + VAT uplift in sales to fund it. Add in £2,000 in input costs from other suppliers trying to achieve the same uplift and we are looking at a more than 6 per cent sales increase to fund the cash to stay in the same place. Those new sales may simply be unachievable; they will certainly not be quick to realise.
Remember too that to obtain exit from a position of over-trading will require a period of under-trading to re-build cash reserves. You can see how directing a business through the choppy waters of cost and tax increases can be highly demanding. Payroll costs are at the core of all costs pressures and it is no surprise that we now live in a world of outsourced contractors working on contracts and commission, many with zero hour conditions. High taxes create inequalities.
The politics of the left in this are clear. We are asked to cherish our public services and their workers are offered 3 per cent and 2 per cent wage rises. These cash injections into centrally funded collective services enter sectors that have poorly understood productivity and unpriced outputs. For decades they have absorbed mountains of tax revenues, always seeking more, yet also always under-performing; we have the least valuable state pensions, the longest waits for healthcare and the least technically literate workforce in the developed world – yet the left still say that the injection of more resource will lead to improvement. For as long as we have no prices involved that consumers can evaluate and service producers do not face losses from incompetence, they are utterly wrong about this.
At the core of this is a totalitarian view of the world. A moral stance driven by a notion of social justice that is blinkered solely to the efforts of the public sector – and its clientele ignores its implicit coercion of the productive who pay for its largesse. That coercion has spread far beyond the moderate taxes and constrained collective actions that optimise the balance between the state and individual to achieve the best welfare for all. In tax matters, force is being used to serve the political ambitions of a select collectivist elite; as the state grows ever larger we are coerced more into a mistaken view – against all evidence – that a larger state can somehow increase growth.
There really are no free lunches; the more our economic freedoms are lost to taxation, the less political freedom we have to choose how to build success for everyone in Scotland.