Against Bracket Creep - For a Transparent Fiscal Policy

The responsibility for increasing taxes lies with the parliaments. Automatic tax increases are therefore undesirable, because they are beyond the democratic control of the opposition and the public. However, this is exactly the case with the bracket creep within the context of income tax collection in Germany. This creeping tax increase amounts to billions of euros for the treasury every year. The switch to a "tariff on wheels" is therefore imperative, according to Lars P. Feld, president of the Walter Eucken Institute, Clemens Fuest, president of the Centre for European Economic Research (ZEW), and Christoph M. Schmidt, president of RWI (Rheinisch-Westfälisches Institut für Wirtschaftsforschung). Feld, Fuest, and Schmidt make their case in an article published in the "Frankfurter Allgemeine Zeitung" on December 1, 2014.

Bracket creep is a process known in many progressive tax systems: When incomes rise, they are pushed into higher tax brackets. Inflation-related income increases lead to an increase in the tax burden of citizens, even if their real income remains the same. Unlike other countries, the Germany tax system has no automatic inflation adjustment to compensate for this effect. According to calculations by RWI, some 7.6 billion euros will flow into the treasury due to bracket creep effects in the period between 2007 and 2014. This amount clearly shows the impact of this backdoor tax increase.

"In the future, this money should stay with the taxpayers," Feld, Fuest, and Schmidt say. They advocate a "tariff on wheels" for the income tax, i.e. an automatic annual adjustment of tax rates that would even out the effects of inflation. Regarding the percentage of the tax burden in total income, people with a gross annual income between EUR 10,000 and EUR 30,000 would benefit most from such a tariff. Their tax liability would be reduced by ten per cent. Of course, people with significantly higher incomes would also benefit from such a "tariff on wheels". If the government wants to prevent this effect for the sake of distributive justice, it would be at their liberty to modify the income tax rate.

According to Feld, Fuest, and Schmidt, the view that the government simply cannot do without the revenues from bracket creep is by no means an argument against a "tariff on wheels": "If the government needs more money, the cabinet is free to procure the missing financial resources through open tax increases at any time. However, the government must then of course face up to the public debate with citizens."

An in-depth version of these arguments was published on December 1, 2014, as an article in the Frankfurter Allgemeine Zeitung.

For more information please contact

Clemens Fuest, Phone +49(0)621/1235-100, E-mail fuest@zew.de