Sunday, September 14, 2008

High corporate tax rates are stunting economic growth

The NY Times ran an opinion article June 1, written by Gregory Mankiw, The Problem With the Corporate Tax. It was interesting that he put the words problem and corporate tax in the same title because he spent a good portion of the article applauding McCain’s proposed corporate tax cut.

“The answer is that while most taxes distort incentives and shrink the economic pie, they do not do so equally. Compared with other ways of funding the government, the corporate tax is particularly hard on economic growth. A C.B.O. report in 2005 concluded that the “distortions that the corporate income tax induces are large compared with the revenues that the tax generates.” Reducing these distortions would lead to better-paying jobs.”

Mankiw further addresses the Federal budget paying for such a broad-based tax cut. He concurs that ”increased economic growth would tend to raise tax revenue from all sources” in order to pay for the tax, but if all else fails, he proposes to raise the gasoline tax in order to pay for the corporate tax cut. John McCain calls for a 10% cut in corporate tax rate. The benefits of such a policy measure would be profound. The tax cut would rally the stock markets on higher profits, improve worker salaries, increase investment, open up jobs, and the implied productivity gains will certainly lead to stronger economic growth and a higher standard of living.

According to the OECD, the U.S is second only to Japan (separated by just 0.2%) in charging the highest corporate tax rate across many developed economies (39.3%).

Table source: OECD, table II.1.

Recently, Sweden cut its corporate tax rate, 1.7% to 26.3%. As Stefan Karlsson says, “This is good news for Sweden as this kind of supply boosting tax cuts are exactly what the Swedish economy needs when price inflation is high while the economy risks slipping into a recession.” If a 1.7% reduction in Sweden’s tax rate is expected to boost economic growth, imagine what a 10% reduction in the U.S. tax rate would do for the U.S. economy. The U.S. is starting at a high corporate tax rate (39.3%) relative to Sweden (28%), so the marginal benefit of cutting the corporate tax rate in the U.S. would be much higher.

The time is now for expansionary fiscal policy. Don’t just hand out a second round of stimulus check, where the merits of the first round have challenged. Invest in the future of America, and allow lower corporate taxes to reduce the distortions already set in place by the existing prohibitive tax rates. Right now the Fed is fighting a big battle against inflation and the lack of liquidity in the credit markets. Standard expansionary policy is being stone-walled since mortgage rates and longer-term interest rates remain elevated in spite of 325 bps of expansionary policy. A corporate tax cut will certainly rally Wall Street and the U.S. economy as a whole.

Please leave comments. Best, Rebecca Wilder

1 comment:

  1. Interesting that he would add to the gas tax to pay for a corporate cut. The concept of lower taxes has been proven time and time again. One should take another look at lowering the personal income tax as well - same reasoning applies.
    ps: Houston bunch come thru OK??

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