Corporate Tax Cutting is the Most Effective Thing We Can Do to Stimulate the Economy

Here's an article from Kairos Journal on the effectiveness of cutting corporate tax rates in raising revenues for government operations. Will our leaders ever get it right?

The Joys of Cutting Corporate Income Tax

In his spring 2007 budget, the British Chancellor of the Exchequer¹ cut the main rate of UK corporation tax (the tax levied on company profits)² from 30% to 28% and was roundly abused by some for doing so: Brendan Barber, General Secretary of the UK Trades Union Congress, declared that on corporation tax, the chancellor had gotten his priorities wrong: “The public will simply not understand why, when businesses are enjoying record profits, the chancellor found money to cut their tax payments.”³

Many Christians might share Mr. Barber’s views and assume that taxation on company profits is a relatively painless way to raise the money needed to finance government expenditure, but in fact the chancellor could hardly avoid the action he took. Since the early 1990s countries all over the world had been cutting their rates of corporate income tax in a bid to retain or attract footloose international companies. Between 1996 and 2004, for instance, 11 out of the 30 member countries in the Organisation for Economic Co-operation and Development⁴ reduced their corporate taxation. This included every one of the big G7 economies – every one, that is, except the UK.⁵

Some of those cuts were dramatic, particularly amongst smaller countries: Ireland progressively reduced her tax from 28% in 1999 to 12.5% in 2003, and Iceland cut her rate from 30% to 18% in 2002 – and both cuts remain today.⁶ But the smaller nations were not alone. Germany, too, slashed her corporate tax rates,⁷ and the OECD average dropped from 34.8% in 1998 to 27.7% in 2007. This left the UK’s 30% in the upper range, whereas it used to be comparatively low among its peers.⁸ As a result of this and other factors,⁹ 22% of British companies voted with their feet and located at least part of their operations overseas,¹⁰ with others threatening to follow.¹¹

Unfortunately, the UK has not gone far enough with its cuts. Not only is the new UK rate of 28% once again above the current OECD average, which is still falling (26.7% in 2008),¹² she is missing out on the fact that cuts in company taxation can be so beneficial to the economy (by attracting international investment, by reducing corporate tax evasion, and by encouraging entrepreneurship) that they eventually lead to an increase in corporate tax revenue. (American economist Arthur Laffer popularized this insight in the 1980s.) This notion has become reality in Canada, Austria, Belgium, Denmark, Germany, Ireland, the Netherlands, Sweden, and Japan.¹³

In contrast, Finland and Greece, which raised their corporate tax rate, saw a fall in revenue. Aware of such trends, the UK TaxPayers’ Alliance commissioned research that found what might happen if the UK were to gradually reduce its tax rate to the Irish rate of 12.5% by 2016.¹⁴ The results were startling: By 2021, the UK’s GDP would be 8.7% higher, manufacturing employment would be 10.1% higher, and disposable income would be 9% higher than if the tax cut were not made.¹⁵

So who exactly suffers if the corporate tax rates stay high? After all, companies are not people. It has to be some combination of investors in the company (who receive lower returns), customers of the firm’s goods (who pay higher prices), or the employees (who receive lower wages). In a mammoth study published in 2008, three scholars from Oxford University’s Centre for Business Taxation reported findings drawn over the period 1996-2003, from 55,082 companies located in nine European countries. They concluded that every dollar of additional corporate income tax reduced wages by 92 cents in the long run.¹⁶ So the workforce ends up paying the tax through lower pay. Surely this is not what Secretary Barber and the trade unions want.

Footnotes:

1	At the time, Gordon Brown.
2	The exact way in which profits are assessed for taxation purposes can be excruciatingly complicated. The rules applied to depreciation of capital, the treatment of overseas earnings, the treatment of distributed (in the form of dividend payments) as compared to retained profits, the deferral of tax payments, etc., all vary considerably over time and from country to country. Many countries have different rates of corporate income tax for different levels of profit and also for different types of business. For some discussion of this, see the study carried out by the Congressional Budget Office of the Congress of the United States, “Corporate Income Tax Rates: International Comparisons,” Congressional Budget Office Website, November 2005, http://www.cbo.gov/ftpdocs/69xx/doc6902/11-28-CorporateTax.pdf (accessed September 8, 2009).
3	See Mark Milner, “Corporation Tax Cut ‘Could Have Been Bolder,’” Guardian Website, March 21, 2007, http://www.guardian.co.uk/business/2007/mar/21/budget2007.politics2 (accessed September 8, 2009).
4	Which includes Australia, New Zealand, the U.S., Canada, Mexico, Korea, Japan, and Turkey, as well as most European nations.
5	Jane Croft, Andrew Jack, and Maija Palmer, “Tax Cut May Help Keep Business in the UK,” Financial Times Website, March 22, 2007, available from http://www.ft.com/cms/s/0/4d30da3a-d8ad-11db-a759-000b5df10621,dwp_uuid=2f7f9ed0-9b50-11db-aa70-0000779e2340.html?nclick_check=1 (accessed September 8, 2009).
6	These tax cuts contributed to the stellar rates of economic growth that earned Ireland and Iceland the labels “Celtic Tiger” and “Nordic Tiger,” before they were hit by the Credit Crunch. For these figures, see the annual surveys of corporate income tax rates around the world by the international accountancy firm KPMG. For example, see “KPMG’s Corporate and Indirect Tax Rate Survey 2008,” KPMG Website, http://www.kpmg.com/SiteCollectionDocuments/Corporate-and-Indirect-Tax-Rate-Survey-2008v2.pdf (accessed September 8, 2009).
7	Germany cut corporate income tax from 52.3% in 1999 to 38.36% in 2001 and, after a slight increase for several years, to 29.51% in 2008. See ibid.
8	Ibid.
9	On wider measures of competitiveness, Britain has fallen (as of 2009) to 21st in the Institute of Management and Development’s index of world competitiveness; see “The World Competitiveness Scoreboard 2009,” IMD Website, http://www.imd.ch/research/publications/wcy/upload/scoreboard.pdf (accessed September 8, 2009).
10	Also, 17% of firms said they were considering location overseas for the first time. See “Chancellor Must Insist on Tighter Grip on Spending to Half Slide in Tax Competitiveness,” CBI Website, March 5, 2007, http://www.cbi.org.uk/ndbs/press.nsf/0363c1f07c6ca12a8025671c00381cc7/8d05ddf1699699d380257292004cff3b?OpenDocument (accessed September 8, 2009).
11	In 2006, Lloyd’s of London insurer Hiscox announced that they would relocate to Bermuda to avoid high corporate tax rates and excessive regulation; Shire Pharmaceuticals, a large FTSE-100 company is relocating to Ireland for tax purposes; and United Business Media and WPP, one of the world’s largest advertising groups, are also planning to leave for Ireland. See Matthew Elliott, Matthew Sinclair and Corin Taylor, “How Cutting Corporation Tax Would Boost Revenue,”Conservative Way Forward Website, 2008, http://www.conwayfor.org/Files/MediaFiles/CWF%20corporation%20tax%20paper%20FINAL%20lowres.pdf (accessed September 8, 2009).
12	“KPMG’s Corporate and Indirect Tax Rate Survey 2008.” The world average is lower, at 25.9%.
13	France and the Czech Republic, which also increased their corporate tax rates, also saw corporate tax revenues fall but then rise when they subsequently cut rates. See Elliott, Sinclair, and Taylor.
14	This was carried out by the Centre for Economics and Business Research using a dynamic economic model. See “The Dynamic Impact of the 2007 Budget and a Comparison with the Impact of Gradually Introducing an Irish Level of Corporation Tax,” TaxPayers’ Alliance Website, April 2007, http://tpa.typepad.com/research/files/dynamic_model_of_uk_economy_budget_2007_irish_ct_rate_simulation_results.pdf (accessed September 8, 2009).
15	“New TPA/CEBR Dynamic Model of the UK Economy,” TaxPayers’ Alliance Website, April 16, 2007, http://tpa.typepad.com/research/files/press_release_new_tpacebr_dynamic_model_of_uk_economy.pdf (accessed September 8, 2009).
16	Wiji Arulampalam, Michael P. Devereux, and Giorgia Maffini, “The Direct Incidence of Corporate Income Tax on Wages,”University of Oxford Website, http://users.ox.ac.uk/~mast1732/RePEc/pdf/WP0707.pdf (accessed September 8, 2009).