Since 2008, the UK has experienced extremely low productivity growth (0.5% per year), in contrast to the US, where productivity has grown at three times that rate;Capital investment is the primary driver of productivity improvements, which in turn lead to higher wages for workers. Increased taxation on capital gains reduces investment and worsens the UK’s productivity stagnation;CGT is effectively a form of double taxation, as capital gains in most cases result from profits already taxed at the corporate level or through dividends. This reduces the incentive to invest in equities and capital-intensive projects;CGT does not account for inflation, meaning that investors are taxed on nominal gains, which may represent no real increase in value. This is particularly harmful in periods of high inflation; High CGT rates disproportionately affect start-ups, small businesses, and venture capital investment, limiting innovation, job creation, and economic dynamism. Reducing CGT would encourage more risk-taking and long-term investment;Countries like Belgium, the Netherlands, and New Zealand have no CGT and do not suffer from income conversion issues. In contrast, the UK’s high CGT rates lead to a “lock-in effect,” where investors hold onto assets to avoid the tax, reducing market efficiency;Historical evidence shows that reductions in CGT rates lead to increased tax revenues as investors are more likely to realise gains. For instance, when Ireland halved its CGT rate in 1997, revenues doubled within two years;Our modelling suggests that eliminating CGT in the UK could increase national income by 0.9% annually, equivalent to £25 billion, with two-thirds of lost revenue offset by increased tax revenue derived from that higher national income with further revenue increases resulting from higher investment and productivity.
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Table of Contents
- Peter Young 2
- Acknowledgements 2
- The views expressed in this report are those of the authors and do not necessarily reflect any views held by the publisher or copyright owner. They are published as a contribution to public debate. 2
- Copyright Adam Smith Research Trust 2024. Some rights reserved. 2
- Published in the UK by ASI Research Ltd. 2
- 23 Great Smith Street London SW1P 3DJ 02072224995 infoadamsmith.org 2
- Foreword 3
- Executive Summary 5
- Introduction and overview 6
- Confusing capital gains and income 6
- Double taxation 7
- Inflation 8
- The conversion fallacy 8
- The effect of CGT on investment 9
- The lock-in effect The destructive effect on capital markets 10
- Capital gains tax rates and revenues 10
- The effect of capital gains tax reduction on economic growth 12
- Overcoming political constraints on reform 12
- Policy Recommendations 13
- Capital Gains are not income 14
- Double taxation 18
- Inflation 19
- The conversion fallacy 21
- If capital gains are not income should they be taxed at all 22
- Economic Analysis 23
- The effect of CGT on investment 23
- The lock-in effect 28
- The destructive effect on capital markets 30
- Capital gains tax rate and revenues 33
- Higher rates have obvious consequences 33
- The US evidence on rates and revenues 33
- The Swedish evidence on rates and revenues 34
- The Irish evidence on rates and revenues The Australian evidence on rates and revenues 35
- The UK evidence on rates and revenues 35
- The effect of capital gains tax reduction on economic growth 38
- Conclusion and recommendations 40
- The imperative to overcome political constraints on reform 40
- Policy recommendations 42
- Annex 1 An explanation of the UK capital gains tax model 45
