Corporate aristocracy holding out against tax revolution
Smaller companies, which innovate and create jobs, carry an unfair share of the burden
In pre-revolutionary France aristocrats were exempt from direct taxation. On present trends the world’s elite corporations may soon find themselves similarly privileged. In the larger advanced countries the corporate tax base is eroding, partly because the avoidance opportunities thrown up by globalisation allow international companies to allocate profits to low-tax jurisdictions. Nowhere is this more true than in the US, where President Barack Obama is seeking to impose a tax on more than $2tn of retained profits that US corporations hold offshore, which cannot be repatriated without incurring a tax penalty.
In the early 1950s the US corporate income tax take reached 5.9 per cent of gross domestic product. Then a strand of economic thinking known as public choice theory argued that a predatory state was using its tax-collecting power to maximise revenue in the interests of self-serving politicians and bureaucrats.
By 2013 the corporate tax take was down to 1.6 per cent of GDP. Despite a high headline tax rate, a multiplicity of tax breaks born of corporate lobbying, together with offshore avoidance schemes, wrongfooted the supposedly predatory state.
In the EU the decline has been less striking. Corporate income tax revenues went from more than 3 per cent of GDP in 2000 to about 2.5 per cent in 2012, with a notably steeper decline in the UK than in Germany, France and Italy. But the pressure of international tax competition is apparent in the decline in the average top rate of tax on corporate income in the EU from 35 per cent in 1995 to 22.9 per cent in 2014.
This is clearly unhelpful when public sector debt in much of the developed world has risen to unsustainable levels since the financial crisis. Smaller companies, which innovate and create jobs, carry an unfair share of the tax burden as they are less global and may lack the pricing power to pass on the cost of corporation tax to their customers.
A little noted feature of such tax avoidance is that it coincides with and contributes to increased cash hoarding by companies. As well as the US, with its offshore cash pile, the Japanese, Chinese and South Korean corporate sectors are saving more than they invest, contributing to a global savings glut.
Traditionally the corporate sector has been a net borrower from the household sector. But in several big economies it now acts as a net lender to governments. In a world suffering from deficient demand, argues Charles Dumas of Lombard Street Research, the risk is that households are denied consumption opportunities, causing a serious impediment to stronger growth. This is not exclusively a matter of tax incentives. In Japan the corporate hoarding instinct may have reflected deflationary expectations. Certainly corporate governance has been a factor, with little accountability to shareholders and thus little pressure to distribute profits.
So, too, with South Korean chaebol conglomerates whose owner-managers dislike paying dividends to outside shareholders. In China, meanwhile, state-owned enterprises have historically been discouraged by Beijing from distributing cash. More generally, animal spirits and the urge to invest has been subdued since the financial crisis.
In the Anglosphere, governance is also a problem since boardroom incentive structures increasingly discourage investment. Academic surveys of chief financial officers in the US have shown that quoted companies frequently forgo profitable investment opportunities to bump up short-term earnings. Less investment leads to higher corporate savings in the form of retained profits.
All governments wish to clamp down on tax avoidance. Yet even the powerful US has been more successful in tackling individual tax evaders with, for example, its assault on Swiss banking secrecy, than corporate avoiders. While tax reform is in prospect, with bipartisan impetus building on Capitol Hill, broadening the tax base will be a challenge.
To create a more robust economic recovery it would make sense in many countries to shift income from companies to households to encourage more consumption. Yet some of the biggest hoarders are doing the opposite. Japan, for example, is diverting income to the corporate sector through devaluation and the recent rise in the consumption tax. China’s rebalancing of its economy from excessive investment towards consumption is happening in slow motion. Only South Korea has introduced a tax penalty for hoarders.
The conclusion must be that the global corporate aristocracy will be promoting underconsumption around the world for quite a while yet — without having to fear the fiscal equivalent of the guillotine.
