Utopia, you are standing in it!

Source: Company tax cut won’t help Australian economy, jobs – Crikey.

It is unfortunate that the Australia Institute today misspoke when it claimed that every economist agrees that the effect of a company tax rate cut is small.

The top economists in the field of public economics disagree. Their views are freely available on the Internet. They are easiest to find by googling the words abolish the corporate tax. Optimal rate of tax on capital is zero are other good words to Google.

Source: Abolish the Corporate Income Tax – The New York Times.

It has been well known for decades of the optimal rate of tax on income from capital and from capital gains are zero. The Australia Institute has joined with Paul Krugman in not reporting this as Greg Mankiw explains

Paul Krugman responds to my post about a recent column of his.  He is correct that not all economists agree that low capital taxation is desirable; he appropriately cites Diamond and Saez, who are on the high-capital-tax side of this debate. FYI, here is another recent paper, written in part as a response to Diamond and Saez, which finds that optimal rates of capital taxation, while positive, are quite low.

But that is not really the issue. If Paul had said “reasonable economists disagree, here are the arguments, and here is why I tend to favor one side rather than the other” I would not have objected.

Instead, in his original column, he wrote as if there were no reasonable arguments for the policy pursued by the Bush administration, and he attributed the most vile motives to those who advanced the policy.

This episode illustrates a fundamental difference between Paul and me.  I try not to assume the worst in other people, just because they disagree with me.

Taxes on incomes from capital should be much lower because capital migrates from high-tax to low-tax locations, reducing capital-to-labour ratios in the higher company tax countries.

The low-tax on income from capital countries experience higher capital-to-labour ratios, a higher marginal product of labour, and higher wages. Robert Lucas described abolishing taxes on income from capital is one of the few genuinely free lunches out there in applied welfare economics.

Mankiw and Weinzierl “Dynamic Scoring: A Back-of-the-Envelope Guide,” Journal of Public Economics (September 2006): 1415-1433 argue that, in the long run, about 17% of a cut in individual income taxes is recouped through higher economic growth. For a cut in company taxes, their figure is 50%.

The Australia Institute manages to put itself in the contradictory position of saying a company tax rate just means more revenue for the IRS in the USA but Google, Facebook and other multinationals managed to avoid tax on a massive stale through tax havens. If the former is correct, their less company tax in Australia means more company tax paid in the USA means multinationals must be rather unsuccessful at avoiding tax through tax havens.

Multinationals are both avoiding company tax in Australia and offshore and paying it in full in the USA if Australia’s company taxes cut if the Australian Institute is to be believed today.

More than 50% of US corporate profits earned abroad are made in nations considered tax havens on.wsj.com/1h2Uitv http://t.co/6L8Hqislxd—
Nick Timiraos (@NickTimiraos) September 29, 2015

The Australia Institute obviously has not picked up on the relentless bullying that Ireland was subject to by the rest of the European Union over its 12.5% company tax.

The Irish company tax rate of 12.5% was initially on export profits. To finesse European Union member state complaints about that 12.5% company tax rate on discrimination grounds, the Irish government extended that low rate to all companies in 1995.

I am yet to see a minister of finance welcoming a company tax cut in a competing jurisdiction, rubbing his hands in anticipation of greater tax revenues on the foreign profits of multinationals that are headquartered in his country.

If there is an ounce of sense in what the Australia Institute said about foreign taxmen benefiting from low company taxes in Australia, high corporate tax rate countries such as Germany, France and the USA should welcome low company tax rates in destination countries for foreign investment originating in those countries but they do not.

Rather than seek tax harmonisation, high tax country should welcome low company taxes in competing investment destinations but they do not. Why is this so if the Australia Institute is making sense?

The Nordic countries follow optimal tax theory and have high but flat taxes on labour income, low taxes on business income and a high, broad-based consumption tax. That is the only way they can fund their welfare states.

The Nordics are alert to not killing the goose that laid the golden egg. Company taxes are relatively low in Scandinavian countries as compared to the USA so that businesses do not flee to other jurisdictions.

A large welfare state such as those in the Nordic countries require a significant amount of revenue, so the tax base in these countries must be broad. This  also means higher taxes on consumption through the VAT or GST and higher taxes on middle-income taxpayers.

Business taxes are a less reliable source of revenue because of capital flight and disincentives to invest. Thus, the Nordics do not place above-average tax burdens on capital income and focus taxation on labour and consumption. All those nuances are lost if you are to believe the Australia Institute today.