Lowering or Eliminating the Corporate Tax Would Stop American Corporations From Relocating

Walgreens, the Fortune 500 Company drug retailing chain, was looking to relocate its corporate headquarters using a tax inversion. Demonized by Obama as an "unpatriotic tax loophole," Walgreens was looking to relocate to Switzerland, a country known for being a tax haven, while maintaining its material operations in the current county, so that it could reduce its corporate tax burden. Earlier this week, however, Walgreens caved into the political pressure exerted by Democratic lawmakers and activists to keep its corporate headquarters located in Illinois. Is Walgreens, or any other company looking to relocate its corporate headquarters, an exploitative, greedy entity that only cares about the bottom line or was Walgreens right in moving its corporate headquarters because the idea of having to pay such a corporate tax rate is that ridiculous?

Before getting into the economic effects of corporate taxes, let's briefly define the corporate tax. Although corporate tax law varies enough from country to country, in as brief terms as possible, the corporate tax is a tax on the income or capital of legal entities, most notably legally-defined corporations. Who pays the corporate tax? I can get snide and say that for proponents of Big Government, corporations are only people when you want to tax them into oblivion. Aside from that, I guess not. But in all sincerity, one can only levy a tax against a corporation. People ultimately pay taxes. Is it done by passing the costs on to the consumer? How about in the form of lower wages? Perhaps it's done through lower stock dividends. The answer will vary by industry, but looking at studies on the issue will show that someone ends up paying for the tax. There are some who think that the burden goes to the worker in the form of lower wages (Carroll, 2009; Randolph, 2006), although the Congressional Research Service [CRS] finds that the owners of capital take the burden (CRS, 2014a, p. 16). Economist Steve Horwitz is spot-on of the deleterious effects of the corporate tax, regardless of incidence: "If corporations respond to tax hikes by reducing compensation or firing workers, the impact of the tax hike hits the employees. If they raise prices, the impact falls on the consumers who buy the product. And if they take a reduction in profits, the falling stock value lowers the value of various investment funds on which millions of Americans depend for retirement and other income." Considering that one of the main functions of a tax is to discincentivize behavior (the other being to collect revenue), this makes economic sense.

I'm not against the corporate tax simply because it's a tax. Granted, I believe that the private sector can and should do just about everything that a government can theoretically do because the private sector tends to allocate resources more efficiently, thereby generating better results. However, being a consequentialist libertarian, I realize that there are some basic services that the government has to perform, which would explain why I believe in smaller and less intrusive government than no government involved. In order to perform these rendered services, the government needs a revenue base. I would rather have that revenue base be as minimalist, indirect, and efficient as possible. The corporate tax cannot be considered efficient or helpful. The Organization for Economic Cooperation and Development (OECD), which is not a free-market organization by any means, recognizes that corporate taxes are the most harmful when it comes to economic growth (OECD, 2008, p. 2). The corporate tax reduces productivity of labor, disincentivizes investment (Chen and Mintz, 2011), creates a huge marginal excess tax burden (Conover, 2010), and acts as an additional tax on already-taxed income, thereby creating a double taxation effect. 

When I look at the corporate tax for America, it gives me a particular gag reflex. Compared to OECD countries, we have the highest statutory corporate tax rate, not to mention one of the highest effective corporate tax rates in the entire world. Look at the revenue as a share of the GDP, and it can hardly be considered an efficient form of taxation.

What can the American government do about its relatively high effective corporate tax rate? Although I found this Congressional Budget Office report outlining some policy alternatives, I'll go through three policy alternatives that I found more palatable: lower the tax rate, create a territorial tax system, and eliminate the corporate tax. 

The first policy alternative would be for the federal government to lower the marginal corporate tax rate. If the corporate tax rate is high compared to the rest of the developed world, it gives the United States a distinct disadvantage in terms of attracting investment. The Leibniz Information Centre for Economics calculated "tax attractiveness," and found that the United States is on the bottom of the list in terms of overall government treatment of business income. Having to pay one of the highest effective corporate tax rates is not exactly an economic turn-on. Conversely, Canada, Estonia, and Ireland have reduced their corporate tax rates and it has done wonders. Economic advisers for the Obama Administration published a report on corporate tax reform back in 2010 stating that lowering the corporate tax would "encourage saving and new investment (p. 69)." Lowering the corporate tax translates into an increase in foreign direct investment (Wijeweera et al., 2007). Increasing the corporate tax rate doesn't do the trick because as former Obama economic adviser Christina Romer discovered, a corporate tax increase of 1 percent of the GDP leads to a three percent decrease in output (Romer, 2010). Interestingly enough, a decreased tax rate would increase revenue due to the effects of the Laffer Curve (also see Schuyler, 2013; Brill and Hassett, 2007).

The second policy alternative would be to create a territorial tax system. The difference between a global system and a territorial one is that in the latter, the government only collects only on income generated within the borders. The International Monetary Fund, as well as the people over at the Left-Leaning Center on Budget and Policy Priorities, calculate that a territorial tax system would actually create more incentives to invest overseas. Those over at the Right-leaning Heritage Foundation estimate that a territorial tax system would actually create more domestic jobs and increase wages. From the looks of it, a territorial tax system would be preferable to a global system. 

However, let me propose a simpler solution: eliminate the corporate tax (Viard and Toder, 2014; Fehr et al., 2013). It's one of the few things economists across the board can agree on. There are even those on the Left who think that eliminating the corporate tax is a swell idea (also see here and here). The Congressional Research Service found (CRS, 2014b, p. 8) that the only tax rate that really could really stop inversions is 0 percent, which partially makes me wonder about elimination versus reduction of the tax rate. We can eliminate the corporate tax and substitute it with more efficient taxes. Regardless of which reforms we opt for, let's find a better way to produce government revenue while we protect shareholders, workers, and consumers from economic stupidity like the corporate tax.

1-3-2015 Addendum: If you need more reasons to dislike the corporate tax, the Wall Street Journal recently put out an article with ten reasons.

4-30-2017 Addendum: Last month, the Congressional Budget Office (CBO) released a paper on corporate tax rates in developed countries. The CBO found that the U.S. has the highest statutory rate, the third highest average corporate rate, and the fourth highest effective corporate tax rate. 

5-16-2021 Addendum: I came across a research paper from the National Bureau of Economic Research (Baker et al., 2020). It found that only 31 percent of the tax incidence falls on the shareholders. The remaining 69 percent is paid by the consumers through higher prices (31 percent) and by the workers via lower wages (38 percent).