The latest nonsense from the WSJ on the alleged Laffer curve apparently also irked Bruce Bartlett who emailed me an OECD document of tax rates in various nations from 2000 to 2006. I think Bruce was hoping someone could do a proper regression – but note Max is having way too much fun with these regressions. I decided to graph the changes in the alleged tax rates for Canada, Japan, Mexico, Switzerland, and the US (my selection of nations to include was sort of arbitrary but there will be a point in a moment).
One may take from the graph that other nations are lowering their corporate tax rates but ours is stuck at 39.3%. Canada’s was 44.6% in 2000 but it was only 36.1% in 2006. Mexico’s was 35% in 2000 but it was only 32% in 2000. Even high tax Japan has dropped its rate to 39.5%, and yet ours is at 39.3%. So the OECD seems to suggest. But there seem to be several things missing here.
First – if you are wondering why the US rate is 39.3% rather than 35% – think state income taxes. Of course, US corporations often don’t pay a 4.3% effective state tax rate as tax planning plays such as Delaware Intangible Holding Companies (can your say transfer pricing) allow opportunities to lower this effective tax rate. At the Federal level, US corporations used to have that FISC/EIE game and now have a Section 199 game. So if you tax director has you stuck with a 39.3% effective tax rate – fire him now.
That Swiss rate of 21.3% might look low but it is not as low as the 12.5% Irish rate. So why are so many US based companies shifting intangible profits to Switzerland rather than Ireland? Could it be that the Swiss Federal rate is only 8.5%? The alleged 21.3% rate contains a high local government rate. Only thing is that a lot of companies are located in the Swiss equivalent of Delaware.
Also note that the Mexican corporate profits tax is lower than the US rate. So why do many companies try to source more income in the US and less in Mexico (can you say transfer pricing again). It seems that the Mexican government imposes a tax on profits to pay for their version of Social Security.
The WSJ’s amateurish graphs and all the regressions in the world are not that impressive unless one addresses two matters. The first matter is the above concern regarding measuring effective tax rates. But I think that The Economist hinted at a more important concern a while back:
Why, no, there isn’t. You could also choose to have enormous deposits of oil and natural gas! Seriously, I don’t understand how anyone is making that argument from that graph. Throwing out Norway, where high GDP is due to fossil fuel reserves that cannot be achieved through any policy decision, there seems to be a downward sloping, although noisy, curve running from America and Ireland through Canada and the higher-spending European countries. Even if you throw out America – even if you throw out Ireland – the relationship is pretty clear.
This comment was directed at something Mark Thoma wrote but if we toss out Norway as an outlier that has an alternative explanation of high tax revenues as a share of GDP. Kevin Drum notes what happens when one tosses out this outlier:
Norway, with a corporate tax rate of about 29%, generates enormous amounts of corporate tax revenue. But then, since it’s the only way to get an upside-down U out of the data, the graph goes nearly vertical. Even the Journal’s editorial writers, normally a pretty barefaced bunch, were apparently too embarrassed about this economic singularity to follow the right side of their graph to its logical conclusion, but we can: at a rate of about 33% corporate taxes produce no revenue at all. An increase of a mere four percentage points destroys tax revenue entirely! Mirabile dictu! A junior high school geometry student would be embarrassed to produce work like this.
Or may the WSJ is telling us that as soon of the effective tax rate drops just below 30%, we will find lots of oil in them thar hills – black gold, Texas tea.
Update: A couple of more points about this WSJ nonsense. The following statement is not quite right:
All of which means that the U.S. now has the unflattering distinction of having the developed world’s highest corporate tax rate of 39.3% (35% federal plus a state average of 4.3%), according to the Tax Foundation.
From what I have read from the Tax Foundation, they tend to agree with this:
The standard national corporate tax rate is 30%. Including local taxes, the effective standard corporate tax rate is 40.9%.
Unless the WSJ oped writers do not consider Japan to be part of the developed world, their statement is false. The other thing is the comparison of C corporate profit taxes to GDP when corporate profits are not the only form of capital income. In 2006, US C corporate profits represented only 12.2% of US GDP but the share of capital income to GDP was much higher as there are several forms of capital income. And yes, interest income and S corporate profits are taxed – just differently.
Our post had considered two aspects of the right-hand side variables: (1) are we measuring tax rates appropriately; and (2) are they other factors driving capital income and taxes from such income (such as oil revenues)? But the real issue is whether we should put any stock in looking at a subset of capital income when making cross-national comparisons?