Vincent Cable: Lib Dems should back fairer, but not higher taxes

We need to consider upper middle-income professionals, who are not rich

That is why at our conference in Blackpool this week, the Liberal Democrats are launching a commission to look at the party's tax policy in the round. The aim is to develop principles and ideas for taxation that will be key to the way we approach public service funding and reform. It is these vital building blocks that will determine the way we move forward with all of our policies.

In setting up a tax commission the Liberal Democrats recognise that there are difficult trade offs - between redistribution and preserving economic incentives; between ensuring the tax system works and simplicity; between changing polluting or health-damaging behaviour and maximising yield.

A key debate in Blackpool will be how far the "progressive consensus" supporting public services will sustain levels of tax which are increasingly seen as unfair and onerous by many on low and middle incomes.

Broadly speaking, we have supported Gordon Brown's increased funding for health, education and policing. But there are major question marks over the effectiveness of much of this spending and its misdirection in a highly centralised, target driven, public sector culture. I find it difficult to believe that there will be a big political market for promising to out-spend and out-tax Gordon Brown at the next election.

After the bewildering complexity arising from the Chancellor's endless tinkering with the personal, corporate and environmental tax systems now is the time for radical simplification.

It is this concern which has led to the recent interest in flat-rate taxes. Like the Conservatives we have been looking at this idea, but unlike them we have not come close to endorsing a single flat tax. Replacing progressive income tax rates with a single rate as seen in Eastern Europe makes little sense in a UK context. It would redistribute income towards high earners and away from lower and middle-income taxpayers, depending on how personal allowances are structured. Such a change would be socially unjust and politically unacceptable.

But the search for simplicity remains valid and could be achieved in other ways: for example by lifting low-paid workers and pensioners out of tax altogether; by reducing the 10 per cent rate to zero; and by funding such changes by scrapping some of the complicated but lucrative reliefs in capital and income tax offered to wealthy taxpayers.

Such an agenda also focuses on the issue of "fairness". It remains a bizarre feature of the British tax system that even after eight years of Labour government the top 10 per cent of the population pay a lower proportion of their income in tax than the bottom 10 per cent. Council tax does much of the damage. The panicky postponement of council tax revaluation reveals Government nervousness about the distributional consequences of council tax, as well as their confusion over what reform to implement.

We also need to consider the upper middle-income professionals, who are not by any means rich and will soon be facing, under Labour, a 40 per cent income tax rate plus 1 per cent National Insurance plus 9 per cent student loan repayments as well as their pension contributions and council tax. For such people, the result will be a marginal tax or deduction rate well over 50 per cent.

I am often pressed to say whether a 50 per cent tax rate on marginal incomes over £100,000 will continue to be part of Liberal Democrat policy. It may. There is little doubt that an explicit commitment to income redistribution of this kind is both distinctive and popular. We also have to consider, however, the downward trend in top rates to below 50 per cent in most major Western countries. My concern is to promote a system of taxation which is progressive but would also ensure compliance.

One way of shifting the burden of direct tax from low and middle-income taxpayers would be to place more reliance on environmental taxation. It is clear that there are some sectors, like aviation, where taxation does not at present reflect environmental externalities and that is where the emphasis should shift.

We have, at this conference, an opportunity to start a fundamental review of our policy programme, which acknowledges the political and economic implications of the rise in tax and spending since 1997. Whatever detailed conclusions emerge from the party's tax review, there must be an underlying philosophy of fair and simpler - and also greener - but not higher taxes.

The writer is the Liberal Democrats' spokesman on Treasury affairs