Tax settings and inequality

Co-authored with Terri Butler, Member for Griffith. 

It is time to recognise that taxes are more than simply the price of civilisation: they profoundly shape our economy and society.

As the dust begins to settle around what’s left of the Turnbull government’s “Enterprise Tax Plan”, our nation needs a completely different conversation about taxation policy. The decisions to be made about taxation – such as how much is to be raised, and by what means – affect much more than just finding the revenue to secure the provision of necessary services. They are decisions about, and determined by, how we see ourselves, and one another. Decisions about taxation are decisions about the sort of future we, as Australians, see for our nation, and for ourselves.

Today, Australians are experiencing record levels of inequality. Unchecked, this will get worse, separating the experiences and opportunities of Australians, dampening all of our prospects. We are on course for a future which promises a new Gilded Age for a lucky few, at the expense of confined and insecure lives for the many.

To reverse this trend to inequality we need more than a set of policies: we need a consistent argument for the changes needed to deliver growth that is inclusive and sustainable. This has to be anchored by a new approach to tax.

In this essay, we argue that increasing inequality is a problem, and that it is not inevitable. In that context we argue that a good society – a more prosperous and more equal one – rests upon, among other things, tax settings that are genuinely progressive, and which are seen to be both fair and efficient. These are questions of political choice, not necessary products of technocratic determinism. We say that past experience shows us the ways in which tax choices have exacerbated inequality on the one hand, and helped reduce it on the other. More recent developments and understandings, especially around how inequality can adversely affect economic growth, lend weight to taking a broad view of tax policy. By a broad view, we mean an understanding that taxes aren’t just devices through which revenue is raised, they also shape economic behaviour and influence social and political behaviour, too. And they can affect economic growth, as we’ve just observed.

We aren’t arguing here for particular policies – that’s the work of Labor’s national policy forum, shadow ministers and national conference. Our concern is to change the way in which our nation approaches tax, as we make our wider argument to renew Australian social democracy, and our contributions to the work of a Shorten Labor Government. We are determined to help shape a more equal Australia, and we are convinced we will not achieve this unless we take a different approach to taxation.

As we write, Australia has enjoyed more than 25 consecutive years of economic growth. But have all Australians shared the joy?

At the moment, Australian workers are experiencing the lowest wages growth recorded. This is compounding a wider income inequality: over our lifetimes, the gap in earnings between the richest and the poorest Australians has increased dramatically. That this gap has been widening has a lot to do with tax settings. The research of our colleague Andrew Leigh, with the late Anthony Atkinson, has shown that in Australia reductions in personal tax rates were responsible for nearly half the increase in the income share of the top 1%. Others have noted similar circumstances: for example, the US Congressional Research Service found, in 2012, that reductions in top marginal rates and in capital gains tax increased income inequality.

This increasing inequality when it comes to earnings is exacerbating inequality of wealth. Higher net incomes, especially decoupled from productivity, present their recipients with much greater capacity than the rest of us to become owners of capital.

Earnings from capital significantly outpace wage growth. The wage share of national income has been falling continuously and dramatically since the late 1970s.

Today, disparities of wealth are even greater than disparities of income. Wealth is concentrated at the top, with the bottom 40% of Australians owning only 5% of all our nation’s wealth.

So, thanks in part to our tax arrangements, we’re on a pathway to an extremely unequal society. To us, this is bad in and of itself.

But it’s worse than this. This isn’t simply a matter of perspective, or values (though these matter, too). Excessive levels of inequality impact negatively on our prospects of economic growth. That the poor are getting poorer is only part of our inequality story.

It’s also the case that there is no clear evidence of a positive impact on economic growth from tax reductions. Nor in respect of job creation. Witness the modesty of the claimed growth dividend of the Turnbull Enterprise Tax Plan (even in its original version). This is why business leaders like to speak of the relationship between tax cuts (individual and corporate) and growth (of the economy, of jobs) as ‘instinctive’. That’s polite boardroomspeak for ‘not supported by evidence’. Australia’s Treasurer, Scott Morrison, isn’t an instinctive kind of guy: instead he asks Australians to check out opinions in the pub, rather than have regard to economic modelling, in assessing his company tax cuts. He would say that though, wouldn’t he?

We aren’t saying that there’s no relationship between tax and growth. There is, but it’s less direct than conservatives and business lobbyists would have us believe: how taxes are set and raised affects inequality, which in turn can present a substantial handbrake on growth. This may be why Christine Lagarde, head of the IMF, has lately been warning of the risks of a race to the bottom on tax (as well as on regulation, and trade).

We’re concerned that, in seeking to combat the notion that lower taxes somehow magically drive growth, a reductionist view can emerge which can constrain our recourse to tax policy to secure a fairer Australia. That is, taxes are about revenue and economic behaviour, only. This misses two points: that it’s not only economic behaviour that tax settings affect, but social and, crucially, political decision-making too, and the more subtle argument around driving, or reducing, inequality. These run together. At this time of populism and pessimism, we must recognise that tax settings shape the scope of political action: economic inequality isn’t divorced from its political counterpart.

It’s this relationship between taxation and inequality that we are interested in exploring, so that we can make the case to get us off this pathway to deeper inequality and lower growth.

Neither extreme inequality nor the conditions that create it are natural. They are results of human decisions and actions. That being the case, further increased inequality is not inevitable. It is possible to be optimistic about Australia’s ability to address the problem of increasing inequality, even while being realistic about the difficulties to be faced. History and politics tell us that rising inequality is a problem to which there can be a solution. That, notwithstanding the impact of technological change and increasing globalisation, countries can take steps to turn around the trend to increased inequality.

Those seeking to take action should also remember that technological change and increasingly open economic borders aren’t new. This story has been told before – the nature and organisation of work, capital and economic activity have never been static. We can appreciate how people have previously come together to respond. From the growth of trade unionism to the creation of the post-WW2 welfare state, political action has reshaped social and economic circumstances to the benefit of the many rather than the few. Robots and bilateral trade agreements, of themselves, can’t take this away from us.

We believe that government should promote egalitarianism and prosperity – our nation’s values, and our sense of purpose. These concepts are closely linked: we believe that more equal societies are capable of greater prosperity. As we’ve said earlier, we are convinced that high levels of inequality represent a handbrake on economic growth. Without prosperity, there’s nothing to redistribute.

Our nation cannot simply tax its way to equality, and governments must have recourse to other levers if they are to drive growth that is inclusive. It is particularly important that government remain undeterred by neoliberal instincts to ‘get out of the way’ and instead bring renewed vigour to investing in education and skills, in productive infrastructure, supporting workplace rights and trade unionism, having more regard for the concerns of consumers, and recognising the costs to growth of discrimination and exclusion.

Tax policies are especially important political choices. They can show the strength of the relationship between economic and political inequality, and they expose the myth of inevitability about increased inequality – enabling us to demonstrate to frustrated citizens that their political actions can make a difference to their lives. This is why the ‘Buffett rule’ has galvanised many: it is a readily understandable symbol of what’s wrong with the present arrangements. At a time when it is possible for Australian millionaires to claim so many tax concessions – including the cost of managing tax affairs – that they pay no income tax, the Buffett rule’s appeal rests on an appreciation that today’s tax settings are boosting inequality and unfairness, and that something should be done about it. The Buffett rule is not the only means by which to respond to the tendency of some high-income earners to reduce their taxable income to, or near, zero. Like all seeminglysimple measures it requires consideration. Nonetheless policy-makers should not underestimate its appeal to those who are concerned about inequality and unfairness.

It’s simply not the case that Australia is ‘over-taxed’ (whatever that means). Though conservatives and those with the the most to gain in reducing taxes – those at the top end of the income and wealth distributions – are prone to giving the contrary impression, Australia is in fact a low-tax nation, the fifth lowest in the OECD when comparing the ratios of tax to GDP.

The suggestion that Australians are somehow weighed down by an excessive tax burden isn’t just a furphy, it is a major barrier in the way of the tax conversation we need to have. It implicitly blames too-high taxes for the real stresses on individuals and households – rather than more plausible, and inter-related, culprits like low wages growth, job insecurity, high asset price inflation and the high levels of private debt that households are bearing.

When then-Treasurer Joe Hockey launched his tax discussion paper, Re:Think, his summary materials deliberately sought to give the impression that Australia had very high income taxes. We’ve seen something similar in the arguments about the impact of our company tax rates on international competitiveness, lately.

On income taxes specifically, it’s just wrong, and deeply misleading, to pretend that Australians are highly taxed compared with their overseas cousins.

OECD figures show that when you compare income taxes and employee social security contributions paid, minus transfers (like Family Tax Benefit) received, Australians contribute less compared with people in other nations.

In 2016, the take-home pay of an average single Australian worker, after tax and benefits, was 75.9% of their gross wage, compared with the OECD average of 74.5%. For the average married Australian worker with two children, take-home pay, after tax and family benefits, was 87.1% of their gross wage (compared to 85.4% for the OECD average).

Australians pay no income taxes if they earn under $18,201. We pay 19 c for each dollar over $18,200, 32.5 c in each dollar over $37,000, 37 c for each dollar over $87,000 and 45 cents in each dollar over $180,000. There’s a 2% Medicare levy, and there’s a 2% “deficit levy” for people who earn over $180,000.

And it is important to remember that these figures apply only to taxable, not gross, income. Some people are very good at making sure their taxable income is much, much less than their gross income – like some of the 60,000 or so Australians each year who are both owners of negatively geared property and recipients of no taxable income at all. We’ll come back to this, later. Effective tax rates are of course what really matters to both individuals and to the economy. The capacity of many to minimise, or simply avoid, their obligations when many others cannot is a critical element of a tax debate.

Our income tax system is highly progressive, which is a good thing. This has been one of our most effective means of stemming the flow of inequality in this country.

Yes, the very rich still are more likely to own income-generating assets. The growth in returns on their investments is likely to outpace growth in wages and growth in the economy as a whole. The very rich remain likely to see their incomes and wealth grow more quickly than those in the middle will see their own incomes and wealth, if any, grow. But without our income tax system’s progressivity, the gaps would be even greater. The US income tax system is much less progressive than ours, and this shows.

Conservatives argue that high marginal rates for high income earners are bad for the economy. They claim that because people – as we’ve acknowledged above – will always engage in tax planning to avoid paying their taxes, that leads to waste, which could be avoided by lowering taxes. Despite a dearth of empirical evidence, they claim that the smartest Australians will leave, and go to jurisdictions with lower income taxes. And they claim – most implausibly of all – that progressive taxation disincentivises work. Neither of us has ever met someone who turned down a payrise because they didn’t want to pay 37 cents in each dollar earned over and above the first $80,000 earned, and they preferred to continue earning less than $80,000 instead.

It’s too often implicit in this nation’s economic debate that lowering corporate tax rates is a self-evident economic good. Good for who, though?

When the Business Council of Australia say that it’s in the interests of ordinary Australians to lower the company tax rate, let’s remember to check people’s interests when considering their arguments; tax policy should reflect the national interest not private interests.

Many countries that have lowered their corporate tax rates over the years have not had better growth outcomes over the years than Australia. While it is asserted that a lower company tax rate is necessary to attract investment, this flies in the face of the inconvenient truth that most of our capital from overseas today comes from jurisdictions with lower rates than Australia’s.

Thomas Piketty contends that there simply isn’t empirical evidence to support the ideological argument that lowering this rate boosts growth. As we’ve observed, he’s far from alone in this.

Research by the Australia Institute demonstrates that, since we last lowered the rate in Australia, the wage share of the economy has in fact fallen, and also makes clear there is no relationship between lower corporate income tax rates and economic growth. Nor is there a clear relationship between lower taxes and investment.

For us, it seems that placing more money in the hands of senior managers and shareholders should not of itself result in expenditure on capital deepening, and developing human or social capital, thereby increasing productivity and/or creating more jobs.

“Trickle down” is no sounder now than it was thirty years ago – unless the problem we are trying to solve is how to give more to those who already have more than enough. So that they can hold onto it.

And, as we think about company tax arrangements, we should bear in mind that Australia’s effective rate (ie, the one that really matters) before recent changes passed by the Senate was less than 25% for public companies and around 19% for private companies. Also that, today, one third of Australia’s largest businesses are paying no tax.

We appreciate that there are international constraints on Australia’s capacity to reduce inequality through our tax system, that we need more international cooperation to avoid the tax burden falling unduly on the less mobile income-earners. But we can’t hide behind this complexity as an excuse for inaction.

It is interesting, and revealing, that today expectations of redistribution seem to be most readily found amongst the ‘haves’, for their further benefit. Hence calls for company tax cuts at a time of record profits.

The ‘haves’ have had good reason for their optimism. Their interests have been enthusiastically supported by a political narrative that presumes the main barrier to our collective interests is the supposed disincentives preventing them from realising their true potential. This ideological view sits uncomfortably with the evidence, of course.

Australians should not let conservatives get away with pretending that individuals carry a huge personal tax burden, or that our taxes are too high more generally, compared with other countries. They simply aren’t. And nor should we accept that progressivity – high marginal tax rates for those on incomes that are double (or more) average earnings – is a problem.

Unless and until we can overcome these powerful falsehoods, it will be next to impossible to successfully mount a political campaign to make more effective use of the tax system to challenge inequality. Which is what we are determined to do.

Tax policy isn’t only concerned with ‘how much, and where from’. We must have regard to wider economic consequences of tax decisions, and, noting the powerful signalling effects of taxation, the democratic and societal consequences too.

Tax can be the key to reducing political as well as economic inequality, by responding to the real sense of grievance that people are shut out from decision making. As many people feel that politics can’t solve the problems in their lives, the haves continue to ask for more.

Nearly twenty years ago Peter Mandelson, that architect of British New Labour, famously said that he was “intensely relaxed about people getting filthy rich as long as they pay their taxes”.

But, too often, they haven’t been. The social contract between globalisation’s biggest winners and the rest of us has been torn up: by those winners. Revelations in the ‘Panama Papers’ show a shocking, worldwide epidemic of tax evasion by significant political figures. These follow the Luxembourg Leaks, which demonstrated the lengths many multinationals went to in order to avoid taxation obligations.

This problem goes to the very legitimacy of taxation systems, here and abroad, as well as to governments’ capacity to ensure that everyone pays their share.

Whichever came first, it is the case that political and economic inequality are running together. At the most fundamental level, people both have less social mobility, and feel that they have less social mobility, leading to a diminished confidence that power relationships can be reshaped. Right around the developed world, there is a powerful sense that the rules of the economic game have been rigged, against the interests of ordinary people.

As we’ve touched on earlier, while imposing taxes is one thing, recovering taxes is quite another.

The big winners of globalisation in too many cases aren’t paying their taxes. Those individuals on very high incomes (especially if their earnings aren’t principally derived from wages), and for whom indirect imposts like the GST aren’t a major concern, have a great capacity to step around their obligations to revenue and to society. Large corporations – especially those operating across national borders – and their owners are similarly nimble.

This capacity to minimise tax is being used, effectively, at the expense of everyone else. The revenue flowing into public hands, for public benefit, declines at the same time that dozens of multimillionaires and a third of the biggest companies doing business in Australia are paying no tax. Research conducted by Oxfam suggests that the use of tax havens cost Australia $4.8 billion in foregone revenue in 2014.

The consequences: the inherent unfairness in some people not paying their share, and the reduction in public revenue, making services and infrastructure less affordable.

Those consequences are why the domestic and international movements to reduce tax evasion matter so much. Labor has led the way – in promoting measures to improve compliance, engagement with the international community, and seeking to increase the extent to which people can find out what’s going on inside corporations.

Those with the means to do so will naturally be inclined to seek to minimise tax. Many will deploy some of the fruits of that activity for charitable purposes. But, even leaving aside our concern at the rich being able to individually choose how they contribute to society whilst others cannot, does anyone seriously believe that even the most altruistic and philanthropic of these people is reinvesting one hundred percent of their windfall in the betterment of our society? It is more plausible to expect that monies kept in private hands by way of tax minimisation are largely being used to generate yet more income and wealth for the direct beneficiaries of tax minimisation, and their descendants. This in turn is creating – as Thomas Piketty has pointed out – an increasing concentration of wealth in the hands of a relatively small number of people, as returns on assets exceed economic growth (and real wages growth for working class and middle class families).

We have already considered the first conservative falsehood that has shaped Australia’s tax debate – the proposition that we are a high-tax nation. There’s a second, equally powerful, untruth that has also been a major influence: that our government spending is ‘unsustainable’.

First, some context: in low-tax Australia, former Treasury Secretary Ken Henry has reminded us, revenue fell from 26% to 23% of GDP in the decade following 2003. One of the lowest tax to GDP ratios in the OECD. Maybe, just maybe, it could be the personal income tax cuts and middle class cash transfers that are unsustainable?

While we believe that tax policies have much wider ramifications than simply enabling a balancing of revenue and expenditure, attitudes to these questions are revealing.

When conservatives assert that Australia’s fiscal challenge is all about constraining spending, and not concerned with revenue sustainability this is an ideological proposition. It’s a direct attack on our social compact, on those policies which have constrained inequality.

There’s no formula for the perfect tax-to-GDP ratio. But there are features of a good society, many of which are derived, directly or indirectly, from tax policies.

We observe that, in Denmark and the other Nordic countries, there are income distributions that are considerably less unequal than here.

In these countries the size of the state is considerably larger than it is in Australia. In part these countries generate more tax revenue due to having more direct taxpayers with more people in work (also by having settings designed to boost workforce participation), who earn higher wages.

And economic growth there has been comparable to, indeed greater than, growth in many other OECD economies. At the very least, these examples warrant consideration and should spur us to be skeptical at claims that current levels of Australian government social spending are ‘unsustainable’.

(It’s almost as if adequate public funding for government services and infrastructure actively promotes growth in both potential and real GDP, and enables people to have the opportunity to share in the benefits of that growth. But that’s enough facetiousness from us.)

Arguments for change need to be made consistently and constantly, if Australians are to reduce inequality. Something more than a series of well-designed policies is needed. This is why are are calling for a wider look at tax – at how the present settings have contributed to today’s challenges, and how a different approach can establish a more equal, prosperous Australia.

In recent years Federal Labor has laid the foundations for a different agenda when it comes to tax and to its relationship to expenditure. Despite commentary to the contrary, in government and opposition we have demonstrated a willingness to take a wide look at the tax and transfer system, and to look to hypothecation to help fund and build support for the National Disability Insurance Scheme.

Labor has undertaken detailed policy work to combat multinational tax avoidance; reviewed the consequences of superannuation concessions for our budget and society; and, perhaps most importantly, proposed changes to negative gearing and capital gains tax arrangements to make these regimes fit for purpose – in their own terms, and as we look to restrain the growth of wealth inequality, given the effect of housing investment in that regard.

As a nation, our progress in responding to the causes of growing inequality has been uneven, and constrained by political decisions and political pressures, both of which warrant reflection and discussion. But as a nation we should not concern ourselves with rewriting history or content ourselves with merely attributing blame; rather, we should seek to shape the future.

The key lessons of the recent past are that the need to respond to growing inequality does not go without saying, and that good policy is of itself insufficient. There is an urgent need to articulate, clearly, consistently and constantly, a framework for approaching the tax debate, in order to build and sustain support for, and a commitment to, those reforms which would found a more equal and more prosperous nation. It cannot be assumed that this goal is shared by all Australians, even though it is in Australia’s interests.

Those seeking to respond to growing inequality should be making the case for measures which:

• support our social compact with one another;

• promote sustainable and inclusive economic growth; and

• ensure fairness in the distribution of wealth, income and life opportunities.

The challenge is to locate proposed tax changes within a wider agenda for a fairer and more prosperous Australia. When the economist Anthony Atkinson asked what could be done to reduce inequality, he found the maths – for the UK – were such that tax changes alone can’t do the trick, as there’s simply too much ground to be made up. While there are significant differences between our two societies, and their tax and transfer systems, which leave Australia today more equal than Britain, we take the point. Questions of the distribution of market incomes also need to be addressed, alongside and working with fiscal measures. We agree that reducing inequality isn’t all about tax settings and changes, but these measures are fundamentally important to making progress: they can set the agenda and send powerful messages about what sort of nation and society we want.

Through such a lens, those who are alarmed at rising inequality should be bold in exploring new ideas (and making the case for the application of old ideas to changing circumstances, like a genuinely progressive approach to taxing income, however derived, against the current changes in the nature of, and methods of organising, work).

Generational inequality has been a feature of the debate in Australia for some years, though it is highly contested and ideas of what constitutes inequity between generations can vary widely according to your point of view. Gender inequities are well-documented yet progress on measures such as the workforce participation rate and pay gaps has been slow. Here the intrinsic and instrumental can come together, increasing productive economic activity through both direct incentives (or, removing disincentives) and also by signalling an end to informal exclusions.

As a nation we should do more thinking about changing arrangements to support a wider distribution of wealth, beyond superannuation, say through settings that promote employee share schemes. Subject to considering how to avoid unintended anti-growth consequences (like the perverse incentives that could arise from paying dividends to owner-workers instead of reinvesting profits back into the business to increase productivity), this could be a critical response to the growing disparity in asset ownership at the heart of Piketty’s concerns.

Those of us who want to contest neoliberal ideas that the collection of tax is somehow inherently illegitimate should also consider the importance of language. The way that tax revenue is used, and the way that the use of tax revenue is described, matters.

In a society of targeted social spending, hypothecation can be used to build social and political support both for making contributions and for social investments. In this regard, let’s look to the attitudes of citizens over the theoretic concerns of central agencies.

Just as communication about tax and its use deserves consideration, so does the power of tax settings as a means of communicating. Taxes have power as signalling devices, as well as revenue sources. From building a fundamental social solidarity across all Australians, to, together with regulatory instruments, driving particular behaviour changes, progressives should pit our evidence-base and concern for people against the prejudice of those who privilege their own selfishness and cry ‘nanny state’ all too readily. The successes of increased tobacco imposts, combined with plain packaging laws, should be celebrated, not simply defended. Another possibility: this type of approach could introduce a little more sharing into the so-called sharing economy. And whether or not we actually tax robots, let’s not rush to rule out recourse to taxation levers as we consider the consequences of increasing automation.

It is true that Australia’s federation presents challenges. But none should be insuperable, and none should be allowed to get in the way of setting out a progressive reform agenda in which states and territories can be partners and not rivals of the Commonwealth.

Similarly, it is clear that well-resourced individuals and multinational corporations pose difficulties for nation states. But this need not mean acceding to a race to the bottom, pending a global settlement, and nor does it require presuming that every threat of jurisdictional flight will be carried out, particularly against a low-corruption nation with a presently strong middle class, like ours. Australia should be a leader, and an exemplar to the rest of the world.

All of this must sit alongside an approach that is concerned to make the tax system work better for ordinary Australians, not lawyers and accountants (and those able to afford the services of those professions). There’s much work to be done in reducing complexity, building understanding and with that increased understanding, creating confidence that Australia has a system that works for all of us, not just those in on the rules of the game.

Talking about tax, is actually talking about how we see ourselves: our priorities, the things we value, the things we’d like to change, and, fundamentally, whether it’s ‘them and us’, or just one big ‘us’.

It must be the latter. We are all in this together. Rising inequality is causing our social compact to fray. That compact needs to be rebuilt, and reinforced.

In this essay we have argued that rising inequality is a serious problem. That should, but doesn’t, go without saying. We have also argued that rising inequality is neither natural nor inevitable but is a product of people’s and government’s choices, decisions and actions. We have argued that any serious consideration of how to respond to the problem of rising inequality necessitates a serious discussion about tax: how it works, how it is described, and how it is used, as a means of raising revenue, of communicating and influencing, and of engendering fairness.

As a nation we can join together and overwhelm the forces that create inequality – inequality of income, wealth, and power – by taking action. Our nation has pioneered monetary policy that can have some impact even when prevailing inflation is low. Australia can have a government budget that is aimed at increasing our nation’s economic potential and helps to keep our economy fulfilling that potential. To do that our nation can invest in infrastructure that will make our economy more productive and thus contribute to economic growth. We can and should do that when circumstances demand it, even if that investment means the government’s budget is in deficit over the cycle, if the likely economic return on the investment justifies the deficit.

As a country, we can invest in the capacity of Australians – which means funding education and skills training. That should start in early childhood. By taking seriously early childhood development and by investing in education we can increase our nation’s economic potential and we can increase working class and middle class Australians’ capacity to enjoy, and likelihood of enjoying, the fruits of economic growth. We can increase women’s workforce participation, more fairly distribute responsibility for caring for those who cannot wholly care for themselves, restore security through making it less catastrophic to have unexpected time out of the paid workforce, restore power at work through greater collectivism, break the correlation between wealth and health, and protect, defend and democratise natural capital.

All of these things matter, if we want a fairer future. None are possible unless we tackle, head on, the interests and ideologies which have dominated tax policy, and the way we talk about tax.

Originally published by the Australian Fabians.

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