Politicians and economic commentators constantly talk about “taxpayers’ money”. In this video, I argue that this phrase fundamentally misrepresents how government spending and taxation work.

The conventional story says that the government collects taxes and then uses that money to pay for schools, hospitals, pensions and other public services. I argue that the actual monetary process works in the opposite order: government spending creates money, while taxation subsequently removes money from circulation.

When the UK government spends, payments are made through the banking system. Taxation then withdraws spending power from the economy. There is no pot containing individual taxpayers’ payments waiting to be spent again on public services.

But that does not mean tax is unnecessary. Far from it. Tax plays essential economic and social roles. It helps control inflation by removing spending power, can redistribute income and wealth, and can encourage or discourage particular activities.

Tax can therefore be used to tackle inequality, discourage pollution and harmful consumption, support socially desirable activities and strengthen the relationship between citizens and government.

The mistake is treating government finances as though they work like household finances. Households need income or credit before they can spend. A currency-issuing government operates differently.

Understanding that difference changes the way we think about government spending, taxation, inflation and the supposed financial constraints placed on public policy.