The War on Cash Will Hurt the Poor

The proposed law to limit cash deals is aimed at criminals and tax evasion. In practice, it will hit the poor and the already income-strapped public.

Strengthening the government at the expense of the citizen. Prime Minister's Office Chief of Staff Hared Locker. Photo: Nati Shohat/Flash90

The attack against individual freedom continues. On Sunday, The Ministers’ Committee on Legislative Matters approved the adoption of the recommendations of the Locker Committee to limit the use of cash.

The reasons stated by the government for doing so included the fight against black money, economic crimes and increased tax collection. In practice, however, legislation to limit cash could seriously harm individual freedom and greatly limit the ability of the citizenry to criticize the government’s power.

By law, there will be a ceiling of 10,000 NIS for cash deals, with the aim of lowering that ceiling to 5,000. Anything above that ceiling will require checks or debit/credit cards. The next stage will be limiting the redemption of cashier’s checks outside of those attached to an institution supervised by the government—a bank or the Mail Bank. This last article is meant to strengthen the banks and prevent the acceptance of non-bank credit.

The power of the public authority

Students always learn in civics class that there are three branches of government in a democracy: judicial, legislative and executive. What they don’t know is that there is a fourth branch, no less powerful, known as the public authority. The public cannot legislate, judge or execute—but it has other powers, which grant it the indirect ability to push legislation, change judgments and force the government to get something done.

Evidence of the power of this authority can be found almost everywhere: when the public comes out to demonstrate, it can bring about both the passing of laws and the annulment of others. The public can boycott certain items and have them taken off the market. It can prop companies up or bring them down. It can express outrage at verdicts, leading to either more severe or lenient verdicts as the case may be. These are just some of the ways in which the public can influence the governmental branches.

The public authority has another, unique power at its disposal—more elusive and less obvious than others—the power of avoidance and alternatives: the public reacts to the reality around it by avoiding certain things and choosing alternatives in its place. In the economic field, for instance, if the price of aluminum curtains shoots up, the public will reduce how many such curtains it buys (avoidance) and will buy more curtains of iron, wood or plastic (choosing an alternative). In a similar vein, if the government mismanages the currency and leads to a devaluing of the shekel, the public can move over to using other currencies as a ‘measure’. Thus, for instance, products such as apartments for purchase and rent have been priced for years in dollars and not shekels.

Paying almost 67% tax

One of the clearest examples of the power of avoidance and alternative is in the field of taxation. Thus, for instance, according to a report by the Administration of State Revenue, taxation in 2011 stood at 66.7% of public income. In other words, some 284.4 billion NIS goes to taxation for government in the broadest sense (including local authorities) out of a total of 426.6 billion NIS in overall income of the public.

Of course, that 66.7% number is not the amount in practice. Some get rebates and repayments of some kind, primarily through allowances and support funds from social security, and people with low incomes pay fewer direct taxes. But all, including the poorest of the poor, are exposed to the indirect taxes—customs, VAT, sales taxes and so on. A calculation of all the rebates and repayment shows that the effective tax rate, allowing for rebates and repayments, is 52.3% of the income of the Israeli public. This rate, we should note, is pretty much the same across all income brackets. The poorest Israeli and the richest Israeli both pay about 52% in taxes, all told.

Given these very high tax rates, it’s no surprise that the public authority uses methods of avoidance and alternative: no-one wants to pay 60% tax to the government and municipality, and therefore many avoid paying part of the taxes. For instance, almost every citizen in the country chooses alternative methods to reduce paying these taxes through payments ‘off the books’ to small service providers like plumbers, locksmiths, electricians, movers, and fixers of all kinds. The plumber gives a certain discount for the payment, and in return he gets to hide some of his income from the government.

עבריין בפעולה. צילום: פלאש90
A soon-to-be criminal in action. Photo: Flash90

Strangling choice

The public’s behavior may be a violation of the law (‘black money’), but it is also an expression of a limit on the government’s power: the more it increases taxes, so too will the efforts of the public to dodge them, to the point that any increase in taxes will not lead to a subsequent increase in income, and according to some economic theories will even lead to a drop therein.

The proposal to limit the use of cash—that is, a deal not documented or subject to government supervision or knowledge—is meant to eliminate the ability of the public to place limits on the ability of the government to collect taxes. In theory, for instance, if in the present situation the raising of the VAT from 18 to 30% leads to a response in the form of massive tax evasion, then in a situation in which every deal is subject to government supervision this will not be possible, and all the citizens will pay the tax in full.

Not all the payments will apply equally, of course. The electrician who now has to pay full tax as per the law will simply raise his rates as will all the self-employed. The price of products will also go up as well as various services. In other words, the rise in taxes will be transferred from those who have options to those who don’t.

Citizen A., a teacher by trade and Citizen C., a lawyer, will support the legal amendment on the basis of the explanation that the taxes are taken out of their salary anyway, and they will therefore enjoy better services from the government thanks to the elimination of black money. In practice, there is no free lunch, and the reduction of the income of the people who provide a service will simply lead him to increase his prices. In other words, their after-tax disposable income will shrink, because the products and services they consume will cost more.

The bottom line, as always, is that a rise in the tax burden or a reduction in ‘black money’ will reduce the income of the entire public. Put differently: if nobody pays off the books, everyone pays more. This includes those who don’t pay off the books today.

Criminals won’t care

Nevertheless, the assumption that everyone will now pay taxes in full is not realistic. Reduction in economic crime is one of the selling points of this proposal, but it’s questionable if it will have that effect. A cocaine smuggler or violent extortionist will probably not take the cash limit rule seriously, as all their deals take place outside of the government eye, anyway.

Even if the government gathered all the bills in existence and burned them in the public square, crime deals would still go down. If not in shekels, then in gold, dollars, yen, cigarettes, diamonds or any alternative they think appropriate. Increasing enforcement will also change nothing, as it will simply increase the risk and subsequently the price the criminals will charge for their ‘services’. Just as in the case of law-abiding citizens, the rise in enforcement will be transferred from those who have options to those who don’t. If the risk to the pimp increases, the person who pays is the streetwalker. If the risk to the drug dealer increases, the addict pays the price.

ממשיכים להצר את חירות האזרח. צילום: פלאש90
Continuing to limit the citizen’s options. Photo: Flash90

The injustice of unequal distribution

Something similar will happen throughout the whole economy: taxes can’t be raised without the public authority responding in kind, and attempts to remove the means to avoid high taxation will simply change and increase the means to avoid it nonetheless. The public is not married to the shekel, and if shekels will not be available as a tool for avoidance, they’ll use other means—either other currencies or even barter. In fact, the government’s raising the ‘bar’ in an attempt to raise taxes will simply raise the bar of creativity to dodge them, with an extra cost. According to the proposal, any cash deal above 10,000 NIS will be illegal, and this will increase the risk of those who pay in cash. The response will be a general rise in prices in compensation for the risk taken by those who use this means of payment.

The harm will also not be distributed equally among the public. Just like other cases, the damage will be transferred from the rich to the poor, from those who have options to those who don’t. The more income someone has, the more they will be willing to invest time, effort and money to bypass the new rules. The less income a person has, the less time and money he will be able to invest in doing so. So the public income will decrease further, but the poor will lose proportionately more of theirs.

The distribution of incomes will also change. When the tax rate is low, most citizens prefer to concentrate on work and dedicate only a small amount of effort to tax evasion. In other words—the lower the tax rate, the lower the tax evasion. Higher taxes, stringent enforcement or attempts to prevent cash deals are a good way of increasing the cut of the “evasion industry.” The rich have an incentive to higher yet more lawyers and accountants. A member of the middle class can hire a financial planner. The poor will simply pay.

And there is another aspect of this phenomenon of moving incomes from those who have options to those who don’t: when taxes rise, the strong leave. The more the effective tax rate goes up, the more those who can simply pack up and go elsewhere. There are those who have condemned those who do so, but they are not worthy of condemnation; they are simply rational beings responding to a clear economic incentive. Those who stay are those who simply don’t have that option. Limiting cash deals will not end crime. It will merely make life even harder for the poorest people than it is today.

English translation by Avi Woolf.

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