Taxing in Scandinavia

Jim Stanford and Stephen Gordon are keeping me busy today. Another missive from Jim Stanford in the Globe prompted this post from Stephen that leads to some interesting points of comparison between the Nordic model and the Canadian status quo:

Welfare states can be competitive

Jim Stanford sets aside our shared scepticism about the WEF competitiveness rankings to make two points in his column in today’s Globe and Mail:

Get real about Canadian competitiveness:

Nine of the 15 countries ahead of us on the WEF list collect higher taxes than Canada. Indeed, the Scandinavian welfare states cleaned up this year: Finland was second in competitiveness, Sweden was third, Denmark fourth, and Norway and Iceland also placed ahead of Canada.

Governments in these countries rake in 50 per cent or more of their respective GDP.

This is a point that deserves to be made more often (see, for example, here). There’s no reason to think that we have to choose between social programs and economic growth.

But he misses a crucial element of the Nordic model:

You’d never know from this weak effort that Canada’s corporations received bigger tax breaks since 1999 than any other stakeholder: The average effective corporate income tax rate fell to 25 per cent from 35 in that time (eating up $20-billion of the total tax cuts our governments delivered).This utter lack of correlation between taxes and competitiveness, however, did not stop Canadian business commentators from ascribing our weak performance to (what else?) high taxes, and demanding still more cuts. The National Post’s coverage was prototypical: The headline decried high taxes, and the article carried on the good fight — never even mentioning that Finland, Sweden, and Denmark took three of the four top spots.

You might be led to believe from this that corporate tax rates in the Nordic countries were higher than in Canada. This would be a wrong conclusion to draw. Here are the 2006 corporate tax rates for the 4 Nordic countries and Canada (2000 rates in parentheses):

Canada: 36.1 (44.6)
Denmark: 28.0 (32.0)
Finland: 26.0 (29.0)
Norway: 28.0 (28.0)
Sweden: 28.0 (28.0)

Notwithstanding the round of cuts in the past few years, Canada’s corporate tax rates are still higher than in the Nordic countries.
Stephen Gordon makes an important point because progressives are increasingly looking to the Nordic countries because they are successful real-world examples that we might want to emulate. But though the total tax take is much higher than in Canada, the tax mix is different. In particular, corporate taxes are lower, value added taxes higher. My take on the literature is that high taxes as a share of GDP is less of an issue than how the taxes are raised and how the proceeds are spent, ie what matters is the tax mix not the tax share of GDP.

This presents a challenge to progressive thinkers in the Canadian context who traditionally would be more inclined to support higher corporate taxes and lower value added taxes. The catch is that in Scandinavia higher value added taxes have been part and parcel of a social bargain with labour: they accept higher regressive taxes because the money raised is funnelled back into pro-growth social expenditures.

UC Davis’s Peter Lindert reviews this dynamic in Growing Public: Social Spending and Economic Growth since the Eighteenth Century (or check out the shorter essay online, “Why the Welfare looks like a Free Lunch”). He considers why the welfare state has not had the negative effect on growth that many economists assume it should. He argues that the actual experience of countries with large public sectors has been towards implementing pro-growth taxation and spending policies.

On the tax side, these governments have tended to tax capital lightly to avoid capital flight. They also tend to rely more on consumption taxes, particularly those for gas, alcohol, and tobacco. These are regressive taxes, but are considered to be more efficient by many economists because they do not distort decisions about saving and consumption over time. More importantly, these regressive taxes were introduced as part of a social bargain that the proceeds would fund beneficial social transfers.

The flip side of taxation is public spending. On the spending side, welfare state countries have invested in public health care and child care systems that have pro-growth impacts. They have also provided positive incentives for workers on social assistance to enter the labour market by allowing them to keep a large share of additional earned income. Benefits are phased out at a higher income level, whereas countries like Canada and the U.S. have tended to impose very high marginal tax rates on additional income received by social assistance recipients.

See also this recent post from New Economist on the Danish “flexicurity” model, which has been praised by many but requires up-front investments in labour market training that many countries may not accept because the benefits accrue outside the standard political cycle (the same challenge exists in regard to the economic benefits of early learning and child care programs).

8 comments

  • Some solid points about the tax mix. The Nordic countries also have the advantage that their welfare states are more coherent. That is, they work better as an integrated system and thus achieve higher efficiency.
    Having said that, however, your comparative tax data would be more compelling if you were to compare effective corporate tax rates. If Stanford is correct that the effective Corporate tax rate is 25% in Canada then you need to show that it is lower in the Nordic countries. A relatively efficient way to do the comparison would be to look at actual corporate tax receipts as a percentage of total taxes. This could be easily constructed from OECD data.

  • I believe Lindert did those calculations, but those numbers would be out of date by now.

    One *teensy* quibble – Finns are *not* Scandinavians, as any Finn will be quick to point out. Hence the use of the term ‘Nordic’.

    🙂

  • Hmm. I know that – for reasons that I confess that I don’t fully understand – you don’t like the CD Howe Institute’s methodology for calculating METRS, but it puts the three Nordic countries it looks at quite a long way down the list:

    http://www.cdhowe.org/pdf/ebrief_11.pdf#search=%22METR%20Howe%22

  • The problem with just singling out corporate taxation rates for comparison is that it overlooks the responsibilities expected of Nordic corporations in other areas. For example, the Swedish workforce is something like 70-80% unionized; which means higher wages, better benefits and pensions. So while the corporations might save on direct taxes, a high share of their profits are still used extensively for the public good.

    In comparison, even though Canadian corporations have had their tax rate slashed significantly in recent years, they’ve also worked to de-unionize in order to cut wages, benefits and pensions. This causes the state to lose not only the direct amount from corporate taxes but also an indirect amount from personal taxes due to the lower wages. The state also must then pick up the slack on benefits and pensions.

    This has set up a system in Canada where the only beneficiary of corporate tax reductions are the corporations; who not surprisingly are now sitting on mountains of cash.

  • It was Andrew Jackson who made a post on METRs (http://progecon.wordpress.com/2006/09/20/cd-howe-institute-and-business-taxes/)

    I have looked for a decent methodological paper on METRs and have not gotten too far. There is a paper by Chen published by CD Howe in August 2000 (www.cdhowe.org/PDF/chen.pdf) which has some theoretical background and numbers but nothing that connects the two.

    This topic merits a post of its own but in short (1) I do not think what I have seen of their methodology actually makes sense, though I accept Stephen’s point that adjusting for differences in depreciation is important; and (2) how these are empirically estimated is a highly mysterious omission from published reports from CD Howe.

  • Robert’s point is really the key in terms of making a policy relevant set of comparisons. That is you could have exactly the smae tax structure but in abscence of the supporting institutions and norms it will not produce the same outcomes. Beyond this the nordic countries are only useful as a foil to supply side arguments. Consider the Trust debate. Not a single worker hired, nor a single new product trucked to market, nor an increase in productivity. Zero, save for the 800 million extra created out of thin air for investors. Stanford is right about the rate of capital taxation. Dead on.

  • Is anyone aware of any definitive OECD or other comparative study that debunks the myth that low tax levels cause economic growth?

    Thanks

    JUles

  • I did a report in 2001 called Size of Government and Economic Performance: What does the Evidence say?. It has references to various studies on the topic, and it is available at:
    http://www.policyalternatives.ca/index.cfm?act=news&do=Article&call=819&pA=A2286B2A&type=5

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