Thursday, April 07, 2011

A Negative Sum Game

If the United States has a corporate tax rate of up to 30%, and the average of G-20 trading partners is about 20%, is it really an urgent priority for Canada to reduce its  top rate from 16.5% to 15%?   My own limited  economics training leads me to an analysis something like the following: in a simple closed economic system, one might simply choose to integrate corporate and personal income taxes altogther, since the burden of such taxes would fall upon citizens anyway and by just folding them into the personal income tax system, we can tax every individual according to the politically determined canons of vertical (progressive or flat?) and horizontal (equals treated equally?) equity. At the opposite extreme of a completely open and perfectly competitive world system, corporate tax rates might also tend toward zero, since we would be caught in a "race to the bottom" for capital as well as labour.

But in the real world, we know that  many corporations can take income and resources out of the country, without paying for all of the physical and human infrastructure that have made their businesses profitable. We also know that it is difficult to apply the normal canons of of horizontal and vertical equity to foreign investors.  We also know that any big gains we achieve in terms of investment are likely to be competed away in the long-term--the more successful we are, the more pressure on our trading partners to do the same. This leads to another problem: if we get into a race to the bottom, Canada will be hard pressed to succeed, because it already has personal income taxes that are higher than the U.S. and  a  health care system the costs of which are growing twice as fast as the rest of the economy. In other words, we can't win a race to the bottom.

Here is an intersting discussion about corporate income taxes in this morning's Globe and Mail:

“Although modelling strategies and data sets vary from study to study, the consensus from the peer-reviewed academic literature is clear: lower CIT (corporate income tax) rates are associated with investment levels that are higher than what they would have otherwise been.”

So, let’s skin this cat another way.

Jeffrey Sachs is the director of The Earth Institute, Quetelet Professor of Sustainable Development, and Professor of Health Policy and Management at Columbia University. (He’s also committed to fighting poverty and hunger, but he’s still a real live professor.) Here’s what he told the BBC only yesterday:

“Of course, all of our countries are caught in what you could call a kind of tax arms race or what could be called a race to the bottom in fact, which is that each country is trying to get the tax rate lower than the neighbours or the competitors. The result is that everybody is cutting corporate tax rates around the board.

“It is only causing fiscal crisis everywhere and it's a kind of negative sum game, meaning that when both sides do it, neither gains the advantage relative to the other. In fact both lose by adding to the fiscal pressures and the need to then cut the education spending or the social expenditures that are crucial for making sure that the poor half of our societies can also participate and be productive members of our economies in the future.”

He pointed as an example to Ireland, the one-time Celtic Tiger that’s now a pussycat on life support and was once the envy of Europe because of its low-tax regime.

“So you sure can make a little bubble in the short term, but it's not really building the long-term platform for prosperity. Second, I wouldn't say it to Ireland alone, I would say to the European Union, the United States, Japan, other high income countries, indeed in the G20 as a whole. Let's stop this horrendous process where we are being gamed by global companies that are playing off our governments, one against the other and ending up by depriving ourselves of the productive base of our societies which after all are our skilled and educated work forces.”

And then there’s Peter Fisher, Professor Emeritus of Urban and Regional Planning at the University of Iowa and Research Director of the Iowa Policy Project in Iowa City. He’s got a PhD in economics, and has written a few books, one published by the Economic Policy Institute.

He studied corporate taxes and the impact on state economic growth. To make a long study short, here’s what he found, and he cited 23 references:

“Proponents of business tax breaks claim that taxes are a significant factor in the location choices of businesses, and that a state can tax-cut its way to economic growth and generate tax revenue in the process. As we will see, there are good reasons to be skeptical of such a claim, and several decades of research on the relation between state taxes and growth confirm that such claims are vastly overblown and sometimes completely misleading. Business tax breaks turn out to be an expensive and inefficient way to attempt to stimulate a state economy.

“Some have pushed the argument even further, proposing elimination of corporate income taxes altogether. There is a strong case, however, for state taxation of corporations. Corporations doing business in a state benefit from the investments that state government has made in education, infrastructure and public safety services. Government is responsible for educating workers and the children of those workers, and for building, maintaining and policing the roads that businesses rely upon.”

To once again paraphrase Clemenceau: "Economics is too Important to be Left to the Economists."


Mark McLaughlin said...

You can't use the 16.5% Canadian rate without adding in the provincial rates. It's fundamentally dishonest to compare to other countries without stating the REAL aggregated number.

The real rate is anywhere from 23% - 33%

Mark Crawford said...

You mean tht the number we are getting from the U.S. is an aggregate number, while ours isn't? You would think that that would made clear somewhere, and thanks for pointing that out.

Oh well, my article is more about the principles that ought to underly business taxation than the specific numbers anyway. The criticism of the Conservative government would be more about the timing of corporate tax cuts than the idea that they ought to be ultimately implemented. As with GST cuts, there are better sources of stimulus.

Mark Crawford said...

P.S. If you're talking about effective tax rates, I guess that you would also want to include payroll taxes--such as the enormous burden that health insurance places on many U.S. businesses. That would also have to figure into any comparison of US and Canadian rates.