The Republican presidential candidates all have the same answer to America’s budget and debt woes: Cut the corporate tax rate. Unfortunately, fixing the nation’s economy is more complicated than simple slogans that make for good politics and lousy policy.
Mitt Romney, the presumptive GOP standard bearer, promises to introduce a bill on his first day in office that would reduce the top corporate income tax rate from 35% to 25%. Former House Speaker Newt Gingrich does the ex-Massachusetts governor one better, calling to reduce the corporate rate to 12.5%. Rick Perry, the Texas governor, wants the rate set at 20%. Herman Cain speaks of instituting “across-the-board tax cuts to provide long-term relief” and is promoting his 9-9-9 tax plan.
The candidates and their ideological supporters often point out that U.S. corporate tax rates are among the highest for members of the Organization for Economic Cooperation & Development (OECD). That’s true, but it doesn’t tell the whole story. Of course, raising taxes too high can throttle growth. However, low corporate tax rates don’t necessarily lead to prosperity, and high rates don’t necessarily impede growth.
For instance, Ireland’s corporate rate is 12.5%, among the lowest in the world, and the country is a basket case. Ireland’s tax rate was so low that it attracted more than 1,000 companies, many of them from the U.S., to establish their European operations there. Its economy — nicknamed the Celtic Tiger — grew rapidly between 1995 and 2007.
A year later, Ireland was mired in a deep recession when the worldwide economy tanked. Banks got clobbered as the country’s real estate bubble burst. Ireland needed a 67.5 billion euro bailout from the European Union and International Monetary Fund in 2010, and it’s still teetering on the edge. Irish officials are resisting pressure from other EU members, who have long complained that it gives Ireland an unfair advantage, to raise its rate as a condition of its bailout. It’s hard to see how Ireland will be able to resist such pressure over the long term.
Australia, which has corporate tax rates of 30%, is forecast by the OECD to have the fastest economic growth rate in the developed world in 2012, thanks in part to its abundant natural resources. According to The Day newspaper, the government in Canberra is expecting a surplus in the 2012-2013 budget, and on Tuesday Fitch raised its rating on the country’s sovereign debt to AAA. Business leaders are urging the government not to raise taxes on them as part of their strategy to return the federal budget to the black.
Another fast-growing economy, Israel, recently raised its corporate tax from 24% to 25% in 2012 after a wave of protests similar to Occupy Wall Street swept the Jewish state.
What often gets left out of the discussion about tax rates is any notion of what businesses actually pay, also known as the effective tax rate. Thanks to a plethora of loopholes, the statutory rate (35%) becomes more like a sticker price on a new car. Some companies, including General Electric (NYSE:GE), have gained notoriety for their aggressive tax-minimization strategies. A study released earlier this year by PricewaterhouseCoopers found the effective tax was for the largest U.S. companies between 2006 and 2009 was 27.7% — still the sixth-highest in the world.
Ironically, one country ahead of the U.S. was Germany, Europe’s largest economy. While Germany has slipped into a mild recession, Germans are adamantly opposed to lowering taxes. Even a recent poll of German business leaders found 49 % thought it would be wrong to cut taxes, and 78% considered it to be unrealistic to expect tax cuts this year. Those results would be impossible to duplicate in the tax-phobic U.S.
Companies do benefit from lower taxes, but many other things, such as realistic regulations and a skilled workforce, also help them. Tax rates only tell part of the story.
Jonathan Berr doesn’t own any stocks mentioned here. Follow him on Twitter @jdberr.