In our country, good, old fashioned hard work has always been its own reward. Achievement justly recognized. And innovation, through a great legal system, has always been richly defended and rewarded. But those things are changing.
Hard work is no longer its own reward, because your work increasingly goes to others who work less. Achievement isn't always recognized in our newly born entitlement society, because it's as if everyone now believes that roads, bridges and iPods are a given, and that they will always be, and should always be, available upon demand. And innovation, though it is still protected through a great legal system, oftentimes doesn't make up for the other problems encountered when we're not recognized for our hard work, and when our real achievements get little more than a tip of the hat, and a pat on the back. The entitled say: “Attaboy. We knew you could do it. Now where's my iPod?”
The case I want to make in this post is in regard to a recent statement from the President about closing tax loopholes, or tax havens, in offshore places like The Cayman Islands. This is a horrible idea, and if this mindset gains traction, which I think it already has, it will be yet another economic travesty pursued by the new President and his Cabinet, and by many other Presidents and Cabinets that came before.
And I would especially like to throw in China with The Cayman Islands as another great example of why closing loopholes and tax havens is a bad idea.
For at least the last fifty years, our government has played a heavy-handed role in our economy. I know it's much longer than that, but I've stopped keeping track of the years, because I'm more focused on the fact that it happens at all. And this heavy-handed role has enormous costs. It negatively distorts the economy. It makes businesses less competitive; individuals less solvent; it costs us jobs, tax dollars, even whole industries – the most labor intensive of which have almost all been shipped overseas. The world gets smaller every day. And one of the ways we can judge just how small the world is becoming is through tax competition. Never heard of it? Good. Keep reading.
The idea is simple. It's no different than price competition between similar companies – say hardware stores on opposite sides of the street. If you are the owner of a small business, and your taxes go up in one state, or county, you have the opportunity to become more competitive, with other similar businesses, if you move to another state or county with lower taxes. And there's no difference whatsoever for multi-national companies. If one country offers a competitive advantage to your company, you move there. The specific competitive advantage we're talking about is the tax rate. Put simply, if you are the owner of a massive multinational company, and your taxes go up in the United States, other countries with lower tax rates begin to look more attractive. In order to remain competitive, with other companies, that may already be located in those more attractive tax havens, what do you do? You move.
Either you move your corporate headquarters to an off American shores location, so the overall rate of taxation paid by your entire company is lower; or you move the most heavily taxed portions of your business off American shores, so you can lower the amount you pay on just one portion of your business. Or you do both. Either way, American jobs and taxable income are lost when government decides to raise taxes, regulate more, or punish more in some other, closely related arena. But lowering the costs of doing business promotes job growth, promotes innovation, promotes private investment and increases the overall tax base.
Lowering taxes increases tax revenues? Yep. It sure does.
The United States has one of the highest corporate tax rates in the world. So not too long ago The Cato Institute decided to do a study on this very subject. Their findings were impressive. Every few years, they publish a “Handbook for Policymakers.” In one of their last publications, they included their findings, and they had some very interesting things to say about tax competition. Here's, pardon me, a lengthy quote from their book. (If you don't want to read it, just skip to my summary below.)
There would be two key advantages of the United States’ switching from a worldwide to a territorial system of business taxation. First, it would end the current tax barrier to the repatriation of foreign earnings. Currently, repatriated foreign earnings are subject to the 35 percent federal corporate tax, which suppresses profit repatriation and thus investment in the United States. Under a territorial system, business profits earned abroad would be repatriated free of a U.S. tax burden. Second, it would help make the United States a good home for the headquarters of multinational corporations. Currently, a high tax rate and the worldwide tax system make the United States a poor choice for locating corporate headquarters. If the United States switched to a territorial system, companies could earn profits abroad without a U.S. tax burden placed on top of the foreign taxes paid. That would make it easier for firms to expand their foreign sales, which in turn would lead to expansion in firms’ U.S. headquarters activities, such as management, finance, and research. Reducing the U.S. corporate tax rate is also a crucial reform because of the mobile nature of the corporate tax base in the globalized economy. Because of the high U.S. tax rate, companies put large efforts into moving their investments and reported profits abroad to low-tax nations, such as Ireland. America’s high corporate tax rate is a loser for the U.S. economy, and it is also a loser for the government because it causes the tax base to shrink dramatically. Recent experience shows that governments lose little, if any, revenue when they cut their corporate tax rates. Corporate tax cuts create strong dynamic responses that offset reductions in revenues. In our book Global Tax Revolution, we calculated the average corporate tax rate and averag corporate tax revenues as a share of gross domestic product for 19 industrial nations. The average corporate tax rate across countries was 40 percent or more until the mid-1980s. But then tax rates plunged, with the average rate falling from 45 percent in 1985 to 29 percent by 2005. Interestingly, corporate tax revenues did not decline as rates fell. In fact, tax revenues soared from 2.6 percent of GDP in 1985 to 3.7 percent in 2005, which is a 42 percent increase. Corporate tax revenues have surged in most countries that have cut tax rates. Lower rates generate more real investment and higher incomes in subsequent years. In addition, tax rate cuts result in increases in reported profits as companies reduce their tax avoidance and tax evasion activities. The bottom line is that a corporate tax rate cut is a winner for the economy, for workers, and potentially for the government as well as the tax base expands over time.
What their study found is that a very modest reduction in corporate taxation resulted in a massive gain in tax revenues for the government, since a more reasonable tax rate resulted in less corporate tax evasion. In other words, the harder you tax them, the less you get back. It's what economists call “diminishing returns.” And they studied 19 developed nations to get their figures.
But we don't have to look at anyone's figures in order to prove that their numbers are correct. There are other, very visible examples. Our companies have been going to The Cayman Islands and, owch, China for years. The reason this is happening is because the business environments offered by those countries are more appealing than the business environments offered here in the United States.
Now here is where our shame comes in. We lost over 48,000 men fighting communism in Vietnam. We fought a cold war, using trillions of U.S. taxpayer dollars, to force the Soviet Union to implode. We've isolated Cuba since the fifties. We fought communists once again in Korea, and once again, lost tens of thousands of men.
(As a quick sidebar, there's no better example of the rewards of economic freedom than the stark contrast between North Korea and South Korea at night. Simply stand on the border and look to the free south. You see motion, activity, lights and life. Now turn around and look to the communist north. You see nothing. Blackness. Less regulation, more life. More regulation, less life.)
But American companies have been going to China, a country that is politically the very antithesis of everything the United States is supposed to stand for. In other words, a communist country is a more inviting business environment for American companies than the United States itself. It means that the biggest communist country on earth regulates less and taxes companies less than the American government. This should be a major slap in the face of our leadership. But apparently not. They seem to feel no shame.
Our leadership appears to be going ahead with vigor in growing government, regulating more, nationalizing more, taxing more, and closing “loopholes” and “havens” that have gone offshore. The problem, for now and the foreseeable future, exists not in pursuing those companies that the current statist administration and their goons see as derelict, but rather asking ourselves why those companies have elected to move offshore in the first place. The biggest reason: taxes. The second biggest reason: regulation.
After losing so many thousands of fighting men and women in opposing everything communism stands for, the last things we should want to lose to those countries are our jobs, our companies and our economy. We fought hard to destroy communism. But now we're propping them up through our own ill-conceived tax policies that are focused on “greedy” companies, “tax havens” and “loopholes,” companies paying their “fair share,” and an overall tax rate that's already ridiculously high in comparison to other developed nations.
We are voluntarily shipping our jobs to countries that we once treated as enemies of the United States. We are giving our jobs to the enemy. And our government wants to do it faster, and on a larger scale, by, in essence, forcing our companies to become less competitive. We're losing the international tax competition – to the communists, and to the little islands whose leadership is smart enough to understand that most islands can't produce much.
As Americans, we should all be ashamed and embarrassed of our leadership. They're destroying our economy. They're losing an extraordinarily large economic battle. I believe, in the very near future, if we don't dramatically change our perceptions of the value of businesses and the harm in taxation, that the United States will be seen by others as a once bountiful oasis. That it once was an island, an economic powerhouse, a country built upon the good, strong shoulders of capitalism, individualism and the deeply-rooted desires for hard work, innovation and their concomitant rewards.
If what we really want is for our economy to take off now, what we need to do is reduce taxes, regulate less, allow more tax loopholes and tax havens, and reward American companies for doing what we believe to be right, rather than punish them for doing what we believe is wrong. We need to reward innovation, reward hard work, and in so doing, recover our economy from the communists, and from the little islands that understand that you attract more businesses through reward than forcibly retain more businesses through punishment.
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