Cut or abolish the corporate income tax to help workers
Last week, some details of the GOP’s proposed tax reforms finally emerged. Among the raft of measures, they propose to lower the federal corporate income tax rate from 35% to 20%. This would be sound economic policy and we should hope that this measure makes it through Congress. And lawmakers in St Paul would be wise to take the prompt and drastically lower – if not abolish – Minnesota’s corporate income tax.
No doubt opponents will call this a giveaway to the rich or some such. In fact, evidence suggests that some of the big winners will be workers.
Just because it is called the ‘corporate’ income tax that doesn’t mean that corporations pay a cent of it. They don’t. Corporations are, after all, simply contractual arrangements between individuals: stockholders, employees, and customers. It is individual members of one or all of these groups who will pay the so-called ‘corporate’ income tax, either with lower dividends, salaries, or higher prices.
Taxing corporate income leaves less capital for investment. This, in turn, leads to reduced productivity. This depresses wage growth. There is a wealth of empirical evidence to support this. In 2007, economist Alison Felix found that a 10% increase in corporate tax rates reduces wages by about 7%. In 2009, she found that states with higher corporate tax rates have significantly lower wages. With co-author James R. Hines, Felix also finds that the effects of lower corporate tax rates are especially strong for union workers. In another paper with his co-authors, economists Mihir Desai and Fritz Foley, Hines finds that the foreign affiliates of American multinational firms tend to pay significantly higher wages in countries with lower corporate tax rates. A recent review of the literature by Ben Southwood at the Adam Smith Institute found that, on average, workers paid 58% of the total amount raised by the tax.
Capital is mobile. It will move to where it can earn the best return and that return is reduced by taxation. Because of this, the effects of corporate income taxes on wages will be larger in more open economies with a more mobile capital stock. Looking at Germany, for example, Clemens Fuest finds that for every percentage point increase in the corporate tax rate, wages decreased by between 0.3 and 0.5 per cent.
And Minnesota is one of those open economies with a more mobile capital stock. This is especially the case between states. Yet, Minnesota has the third highest corporate income tax rate in the country. At 9.8%, only Iowa (12%) and Pennsylvania (9.99%) have higher rates. Our corporate income tax pushes investors away. In 2015, the average American worker had $391 of venture capital behind them. In Minnesota, the figure was just $108. This lack of capital chokes new business creation. In 2000, new and young businesses as a share of all businesses were 41% in Minnesota and 43% nationally. By 2014, that number had fallen nationally to 34% but in Minnesota to 30%.
We’ve reviewed the evidence at a little length. Hopefully it will blast the more bovine opponents of corporate tax reform out of their traditional ideological safe space of complaining about ‘tax cuts for the rich’. Even President Obama supported a cut in the federal corporate tax rate.
As we outline in our new report, The State of Minnesota’s Economy: 2017, with an ageing population, improving productivity is vital for Minnesota’s economic future. Our high corporate income tax rate is an obstacle to this. We must hope the federal cut passes in Washington. Armed with the evidence, we must also hope that legislators in St Paul will be similarly bold.
John Phelan is an economist at Center of the American Experiment.