Fools’ Gold has begun publishing a series of articles and documents asking the question: What is Competitiveness? We’ve already looked at the work of Paul Krugman and Robert Reich; now we will look at the views of the Tax Justice Network on a slightly different but related animal: so-called “tax competitiveness.”
One of TJN’s core points is that, as in other areas, tax ‘competition’ between countries bears no relation to the kind of competition that people are most familiar with: the micro-economic phenomenon where firms compete in markets. And yet these two utterly different processes so often get conflated, simply because they share the same word: ‘competition.’ The arguments usually don’t get very far beyond the ‘competition is good, so tax competition must be good, right?’
Well, TJN has been unpacking ‘tax competitiveness’ for some years now; it generally prefers the term ‘tax wars’ instead of ‘tax competition’. Tax wars conveys the harm and highlights the fact that these processes are more akin to currency wars or to trade wars than to anything that might be called ‘competition.’
TJN has three key outputs in this area:
A document entitled Ten Reasons to Defend the Corporation Tax, whose fourth point outlines the arguments in detail;
An earlier report entitled Mythbusters: “A competitive tax system is a better tax system;” and
A permanent webpage entitled Tax Wars, which contains these documents and a series of other articles and blogs looking at different aspects of these issues.
The most fundamental element in TJN’s arguments, perhaps, is that while international co-operation on international tax issues is almost always a good idea, it is often unnecessary. Countries can go it alone, and take a lead by continuing to tax capital and to preserve progressive tax systems.
TJN argues that – particularly for larger economies – tax-cutting generally will not help the local economy. So many of the pressures that countries feel to cut taxes or provide other subsidies to mobile international capital are founded simply on a false understanding of the concept: this myopia is itself the result of lobbying, bamboozlement and woolly and wishful thinking.
TJN’s uncompromising arguments in this area can be summarised as follows:
- Tax is not a direct cost to an economy, but a transfer within it. Tax cuts transfer wealth from one part of the economy (e.g. tax-financed roads or courts) to another part (e.g. corporate shareholders). This transfer does not automatically help the local economy. Tax levels may affect investment levels, but that is another matter (see below).
- The fallacy of composition. A closely related point. People assume that what is good for corporations must be good for the economy. But if benefits or giveaways to one sector come at the expense of costs to another sector, as is the case with (for example) a corporate tax cut, then this logic fails. When considering a national tax policy it always makes sense to consider it from the perspective of the country, rather than from the perspective of international investors. It is in the interests of sectional interests, of course, to equate their interest with the national interest.
- Tax wars redistribute wealth upwards. Capital is mobile across borders; workers aren’t. So governments feel pressured to cut taxes on mobile capital, which ultimately, and in aggregate, means cutting taxes on wealthy people. Poorer people must pay higher taxes or suffer degraded services as a result.
- The process of tax cuts and subsidies does not stop at zero. There is no limit to which the owners of capital wish to free-ride off benefits provided by society. Think of the arguments like this:
- If it’s generally a good idea to shower investors with tax cuts, why not cut their effective tax rate to zero?
- Why stop there? Why not effective negative tax rates, or net subsidy packages?
- Where does this downwards path stop?
- Tax cuts tend to attract the wrong kind of investment. Real investors don’t chase tax breaks. Countries need the “good stuff” which involves greenfield investment creating jobs, local supply chains, knowledge transfer, and which is generally embedded in the local economy. If it is embedded like this, then almost by definition it isn’t very tax-sensitive.
- Many studies are irrelevant or wrong. The ‘fallacy of composition’ point above suggests that many studies measuring whether a tax cut boosts “investment” are of little use, in isolation. The perspective that matters is whether they provide economy-wide benefits, rather than narrow sectoral benefits. In addition, many studies suffer from other problems: poor assumptions, circular reasoning (p24 col. 3), a failure to take into account ‘round-tripping’ (Section 4.4); to take into account timing issues (Section 4.4) and other problems. Some studies, of course, are influenced by those who would directly benefit from tax cuts.
- In many sectors, it doesn’t matter too much if particular investors exit, because others will take their place. This is particularly true for natural resources: an oilfield isn’t going anywhere and if there’s an after-tax return to be made, the investors will likely come. If investment slows that isn’t ultimately a loss to the country, in the long term: the value remains stored in the ground. But it’s not just about natural resources: where there is an Indian telecommunications licence, for instance, or permissiont to run a Turkish supermarket business, investors who see an after-tax opportunity will come. Don’t start from the perspective of individual investors: start from the perspective of the country.
- Tax cuts generally don’t affect economic growth rates much. They do have an impact on inequality, but there is no clear evidence that they affect growth, particularly for larger economies. (Section 4.5) What is more, the poster children for tax-cutting aren’t what they seem. Ireland did not get rich from cutting its corporate taxes to 12.5 percent, as one of our inaugural blogs It got rich essentially for other reasons.
- Tax wars distort markets. A pursuit of so-called ‘competitiveness’ leads countries to cut taxes on mobile capital; this generally means lower effective tax rates for large multinational corporations (MNCs), at the expense of more locally-based smaller players. This helps MNCs out-compete their smaller rivals on a factor – tax – that does nothing to promote genuine productivity or innovation. This favours the large over the small and boost monopoly and oligopoly, increases economic (and therefore political) inequalities, and hurts fair market competition.
- As already noted, tax ‘competition’ (or tax wars) bear no relation to competition between firms in a market. TJN takes the strong view that the former, a macroeconomic and political phenomenon, is always harmful: a race to the bottom. Yet because tax wars share the word ‘competition’ with the more beneficial microeconomic processes where firms constantly innovate and cut costs to stay in business, many people assume they are healthy. Academic arguments to this effect, originally based on a 1956 paper by Charles Tiebout; lack any solid foundation (Footnote 26, p29). It turns out that Tiebout was probably joking when he first proposed his model.
This is a distillation of the main arguments that TJN has made for many years.
The main documents at the top of this blog, particularly its Tax Wars page, provide pointers to supportive references and quotations.
Disclosure: TJN is a supporter of the Fools’ Gold project.
We’ve already noted that the words ‘competitive’ and ‘competitiveness’ (as applied to whole nation states) are backed by a supportive cast of various other weasel words and terms. One of the commonest is ‘anti-business’ – a term that we’ll dissect in the near future. This UK-focused article highlights prominent usage of the term, in the run-up to next May’s General Election, focusing on the case of Stefano Pessina, boss of the retail pharmacy giant Walgreen Boots Alliance. As Matthew Watson argues, voters should check the evidence on both sides of the argument for tell-tale signs of self-serving use of such competitiveness mantras.
The Two Sides of Speaking Up for Business
By Mathew Watson, Professor of Political Economy and ESRC Professorial Fellow, University of Warwick. An earlier version of this post appeared on the Speri Comment blog in March 2015. Permission to re-post is very gratefully acknowledged.
In 2011 the U.S. economist Paul Krugman wrote an article in the New York Times in which he stated:
“The idea that broader economic performance is about being better than other countries at something or other — that a
companycountry is like a corporation –is just wrong. I wrote about this at length a long time ago, and everything I said then still holds true.*”
Krugman was referring, most notably, to “Competitiveness: a Dangerous Obsession,” a long essay he wrote in 1994 for the U.S. publication Foreign Affairs. A lesser-known essay of his, Pop Internationalism, contains the memorable phase:
“If we can teach undergrads to wince when they hear someone talk about ‘competitiveness,’ we will have done our nation a great service.”
It’s worth noting that the competitiveness discourse in those days was quite heavily focused on trade: the competitiveness agenda seems to have expanded its reach substantially since then to include tax, labour provisions, welfare, financial regulation, and many other areas of economic life.
Paul Krugman on ‘Competitiveness.’
Bad analogies have abounded in the years since the 2008 crisis. Two of the most pernicious have been that national economies are essentially like households or like businesses. While the first comparison has been roundly attacked, the second has been a bit harder to put to bed.
However, in his 1994 article for Foreign Affairs, Paul Krugman took this exact same argument head on. He not only challenged the idea that nations have to compete with one another like businesses, but went as far as to argue that “competitiveness is a meaningless word when applied to national economies”. I’ll give an introduction to the main arguments of his piece, and then propose some questions that are raised of its thesis by unfolding global events.
- Competition is about trade – which is of limited importance.
When politicians talk about national economic competitiveness, (like UK Prime Minister David Cameron and his #globalrace), they often mean exports. Krugman accepts this premise and then sets about showing why we needn’t be too concerned about it.
“In an economy with very little international trade, the growth in living standards… would be determined almost entirely by domestic factors, primarily the rate of productivity growth… ‘[C]ompetitiveness’ would turn out to be a funny way of saying ‘productivity’ and would have nothing to do with international competition.”
Krugman focuses on the U.S., which has a large domestic economy relative to its external trade. For economies with sizeable domestic markets, export competitiveness plays a far smaller role in determining national prosperity than politicians would have us believe. Issues of domestic economic strategy, such as productivity, are more important.
Furthermore, trade surpluses are not always a sign of health. Krugman gives the example of Mexico in the 1980s, a country forced to ensure large surpluses “to pay the interest on its foreign debt since international investors refused to lend it any more money”; Mexico then began to run large trade deficits after 1990 as foreign investors recovered confidence and poured in new funds. To find modern parallels one only has to look at the UK, where the current account has been deep in deficit for nearly all of the last 30 years without a commensurate stagnation in living standards. The case of Japan today also springs to mind, as their notorious ‘Lost Decades’ accompanied a huge surplus.
Ultimately, competition of the #globalrace variety is generally not as important as it’s made out to be, particularly for larger economies. Countries don’t need to compete like companies do – they are more self-reliant and they benefit much more from the success of others.
- The competitiveness myth is sexy.
Despite relying on simplifications that don’t hold much water, the idea of the nation as a business is compelling. It evokes imagery not just from the business world, but also from sports, with the whole country pulling together as a team in order to assert itself in a fierce global environment.
Krugman details numerous examples of how competitiveness jargon was used to sell unpopular policies. But even today governments around the world routinely justify tax breaks for the rich, financial deregulation, attacks on labour unions and public service cuts all in the name of gaining an advantage over other national economies.
- It’s a dangerous myth.
Krugman argues that not only is the obsession with national competitiveness fundamentally misguided, but it is also harmful. If the principle of absolute competitiveness is internalised too much, it can lead to trade wars and protectionism when political leaders feel that their countries are simply unable to compete on an even playing field. Indeed, “a government wedded to the ideology of competitiveness is as unlikely to make good economic policy as a government committed to creationism is to make good science policy”.
Another very real danger that Krugman doesn’t mention is the xenophobic and racist sentiments that can be roused when the rhetoric of national competition is drummed into people’s heads. In Britain, UKIP is the most proficient at this particular manoeuvre – but it has been a phenomenon associated with all the major British parties at one time or another.
Some things to ponder
Last week, UK Chancellor Osborne had the tough task of standing up in the House of Commons and trying to say something positive about the British economy. As economics blogger Michael Roberts points out, GDP growth, productivity, inflation and income growth are all below what was expected by the 2010 OBR forecast. However, with a sprinkle of “promote competition”, a dash of “competitive taxes”, and the slightly embarrassing characterisation of Britain as the “Comeback Country”, Osborne managed to shield the underlying economic weaknesses from view. In other words, Krugman’s point about the political salience of the competitiveness narrative is just as relevant today.
Yet, Krugman’s claim that Western countries are not “to any important degree in economic competition with each other”, is perhaps a little harder to digest in the current context. Amongst the most pressing issues now is the crisis of the peripheral Eurozone countries, especially Greece. One of the central causes of this crisis is Germany’s massive trade surplus and the consequent deficits of the “PIIGS”. Unable to compete with Germany’s harsh suppression of its own workers’ wage growth, many of these peripheral countries came to rely instead on cheap credit to fuel unsustainable public spending (Greece, Portugal) or housing bubbles (Ireland, Spain). Can we really say that these countries did not find themselves under real pressure to compete on exports? Or, if Krugman’s analysis only applies to “leading nations” with large domestic markets, then must 133 million Europeans (the population of the PIIGS) just accept their fate?
Another confusing point in Krugman’s analysis is why competition is limited to global export markets. Even in an economy that is totally domestically-oriented, investors can sell their equity in a company and shift their money overseas if they think they can earn more profits. For example, investors may shift their funds from a US restaurant chain to a Brazilian one if it can offer higher returns. Individual firms are in competition with every other firm, not just those that share the same consumer markets.
Regardless, Krugman’s article is still a sharp and important provocation in a contemporary world in which lazy assumptions about national competitiveness are too often left unchallenged.
Further quotes from the 1994 article:
- “Countries are nothing at all like corporations . . . countries do not go out of business.”
- “The rhetoric of competitiveness — the view that, in the words of President Clinton, each nation is “like a big corporation competing in the global marketplace” — has become pervasive among opinion leaders throughout the world. People who believe themselves to be sophisticated about the subject take it for granted that the economic problem facing any modern nation is essentially one of competing on world markets.”
- “The idea that a country’s economic fortunes are largely determined by its success on world markets is a hypothesis, not a necessary truth; and as a practical, empirical matter, that hypothesis is flatly wrong.”
- “The growing obsession in most advanced nations with international competitiveness should be seen, not as a well-founded concern, but as a view held in the face of overwhelming contrary evidence. And yet it is clearly a view that people very much want to hold.”
- “The obsession with competitiveness is not only wrong but dangerous, skewing domestic policies and threatening the international economic system.”
- “Most people who use the term “competitiveness” do so without a second thought.”
- “Over and over again one finds books and articles on competitiveness that seem to the unwary reader to be full of convincing evidence but that strike anyone familiar with the data as strangely, almost eerily inept in their handling of the numbers.”
- “In each case, the growth rate of living standards essentially equals the growth rate of domestic productivity — not productivity relative to competitors, but simply domestic productivity.”
This is the first in an ongoing series of articles we are planning, to explore what competitiveness is, from the perspective of particular public figures or intellectuals. For the first in this series we’ve chosen Robert Reich, a former U.S. Labor Secretary. He’s written a short article in plain English that helps illustrate some issues. It begins with an excellent summary:
“Whenever you hear a business executive or politician use the term “American competitiveness,” watch your wallet. Few terms in public discourse have gone so directly from obscurity to meaninglessness without any intervening period of coherence.”
The Tax Justice Network has just published a major report entitled Ten Reasons to Defend the Corporate Income Tax.
The press release is below, but the part that is of particular interest for the Fools’ Gold blog is Section 4, which talks about the corporate tax in the context of so-called ‘competitiveness.’
Here is the press release:
From the European Trade Unions Congress, a new resolution:
“Tax competition between nation states . . . is unhealthy for those states and for citizens who have to pay their taxes. Tax competition leads to reduced tax rates, exemptions, incentives (loopholes) and the reduction of effective tax rates for MNCs, rich people and for those states which were early starters in offering them. . . Taxation policy is a national competence and an area which is central to the sovereignty of EU Member States. This, however, does not prevent a certain degree of coordination to end the race towards the bottom.”
One of our core arguments is that, while co-ordination to address these issues is essential and welcome, unilateral leadership is also quite possible. Countries that don’t join in the race don’t, in general terms, tend to get penalised: quite the opposite, in many cases. Those that do, and particularly the larger ones, are being bamboozled into doing so. Breaking the prevalent false consciousness on this is an essential – and an eminently achievable task.
By Jack Copley.
Financial markets are fundamentally concerned with the future. Loans to businesses enable future profits, derivatives supposedly insure against future risk, and speculative practices attempt to profit from future price movements. Yet to truly understand how we arrived at the current financial status quo, we must turn our gaze backwards. This is exactly what Greta Krippner does in her 2012 book Capitalising on Crisis.
The first in an occasional series. Some further reading material, from recent articles elsewhere.
Public risks, private rewards: how an innovative state can tackle inequality Mariana Mazzucato, New Statesman.
An original and important examination of the role of the state in promoting entrepreneurship and innovation, by prize-winning Prof. Mariana Mazzucato at Sussex University in the UK. “When we have a narrow theory of who creates value and wealth, we allow a greater share of that value to be captured by a small group of actors who call themselves wealth creators.” (FG: The dominant ‘competitiveness’ agenda involves showering these supposed ‘wealth creators’ with subsidies, paid for by others.) She is author of The Entrepreneurial State: debunking public vs. private sector myths.
Recent research from the UK suggests that such policies constitute hand-outs, rather than effective means to shape firms’ investment decisions.
By Matthew Watson, Professor of Political Economy and ESRC Professorial Fellow, University of Warwick, UK. An earlier version of this post appeared on the Speri Comment blog in November 2014. Permission to re-post is very gratefully acknowledged.
It is now more than a generation since British politicians first discovered how the image of globally footloose firms might be used to make the case for establishing a business-friendly environment. Whatever the commitments given at the time that hard-won social rights would not be bargained away on the altar of competitiveness demands, tax cuts for firms that might otherwise threaten to relocate overseas still had to be paid for somehow. That, after all, is the logic of the ‘race-to-the-bottom’ dynamics unleashed by an increasingly globalised economy.
- Update: reposted on Naked Capitalism site in the U.S., and the Angry Bear tax and economics blog, and the Middle Class Political Economist.
- Update 2: See also Ireland’s Recent Success Not Built on Low Taxes, by Kenneth Thomas, author of Investment Incentives and the Global Competition for Capital. In which he makes similar arguments.
Did Ireland’s 12.5 percent corporate tax rate create the Celtic Tiger?
Ireland has long been a poster child for corporate tax-cutting. The standard argument goes something like this. “Ireland has very low corporate taxes . . . Celtic Tiger . . . just goes to show that corporate tax cuts grow your economy.” This argument is popular in Ireland too where government officials like to call the flagship 12.5 percent corporate income tax rate a “cornerstone” of industrial policy.
But is any of this even true?
Well, now take a look at this little graph that we created for this blog. We aren’t aware that a graph like this has been made before.