Banks Call for Tax Cuts

Last week, The Toronto Star ran a front-page story, “Cut tax or risk jobs, banks say,” on the Canadian Bankers Association (CBA) pre-budget submission to Queen’s Park.

While acknowledging the elimination of Ontario’s corporate capital tax and the slashing of federal corporate income taxes, the bankers argue that it is also imperative for Ontario to cut its provincial corporate income tax from 14% to 10%. As the original story and a barrage of letters in today’s Star point out, the government has recently provided much support to the chartered banks, which have responded by refusing to fully pass on interest-rate reductions from the Bank of Canada.

But even ignoring all of that context, the CBA’s claim does not stand up on its own terms. Banks in Toronto face a 33.5% corporate income tax rate (19.5% federal plus 14% provincial). The main market into which Canadian banks are expanding is the US, which has a 35% federal corporate income tax rate. Even where there is no state tax on banks – Nevada, Washington, and Wyoming – the US federal rate exceeds the combined federal-provincial rate in Ontario.

But the more relevant comparison is between Toronto and American financial centres. As the CBA notes, “Toronto is the third largest financial services centre in North America, after New York and Chicago.” New York and Illinois have state corporate income taxes of 7.5% and 7.3% respectively. Since state taxes are deducted from the income to which federal taxes apply, the combined federal-state rate is about 40% in these jurisdictions.

On top of that, New York City has its own bank tax, which has no municipal counterpart in Toronto. If Ontario is losing financial-sector jobs to the US, corporate taxes are certainly not to blame. Canadian corporate tax rates are already very “competitive” and should not be cut further.

17 comments

  • What is the progressive case *against* corporate tax cuts? Every time I work through the tax incidence issues, I find that corporate taxes are regressive. Corporate taxes are passed along to workers and (to the extent that they have significant market power) to consumers.

    The most significant increases in inequality are due to the dramatic rise in the pay of CEOs and other high-earners. And they get paid *before* corporate taxes are levied: corporate taxes do *not* come out of CEOs’ pockets.

    This is getting to be an issue for me. Corporate taxes might have been progressive 60 years ago, but not anymore. There are other, better ways of generating tax revenues.

  • Don’t think so. Corporate taxes must be paid by owners, workers or consumers, or some mix of the two. You can assume that corporate taxes are regressive but I have not seen any compelling evidence that this is so. The most reasonable assumption in the literature is that corporate taxes are borne by the owners, at least to the extent that Canadian tax rates are equivalent to or less than US ones (which they are). In this case corporate taxes are progressive.

    Certainly, we did not see recent corporate tax cuts show up as lower consumer prices or higher wages. They went to the owners.

  • What sort of tax incidence analysis gives you that result? De jure incidence is not the same thing as de facto. It doesn’t matter who has to sign the cheque to the Receiver-General if that tax can be passed on to someone else.

    To the extent that the supply of capital is (more or less) completely elastic for small, open economies such as Canada, there’s no way that owners of capital will bear the burden of corporate taxes. And the data appear to be consistent with that theory:

    just over half of an increase in tax liability would be passed on to the workforce in the short run. In the longer run, the fall in employee compensation would exceed the original increase in the tax liability.

    And that’s not an outlier. No one has been able to figure out how to combine high corporate taxes with high levels of social spending, and there are no real-world counter-examples to point to. As you may recall, the Nordic countries have much lower corporate taxes than we do.

    Corporate taxes are NOT progressive. At this point, the burden of proof is on those who would claim otherwise.

  • But the argument is that only taxes above the “world rate of capital” would be so passed on. And that is assuming full capital mobility. Canadian tax rates are below those in the US, the reasonable proxy for the world tax rate for Canada.

    You are making a strawman argument about tax levels that would be far in excess of US levels that would then be transferred onto workers over time. I’m not so much disagreeing with you but noting that this is not our reality nor is it what the post was originally about.

  • The *net* (after tax) rate of return is what will be equalised. Increasing taxes means that investors will require higher gross rates of return on investments in Canada. And that will be achieved by either cutting costs (expecially labour costs) or simply pulling out entirely.

    And the US is not an appropriate benchmark. The US is not well-characterised by a small open-economy model; Canada is. And then there’s the reserve currency issue: investors will accept bad returns there simply because the returns are denominated in USD. That’s not the case for Canada.

  • And you didn’t answer the main challenge: What is the analysis behind the claim that corporate taxes are progressive? The usual story (corporate taxes are paid by capitalists, and corporate profits are the source of inequality) is not consistent withe the available evidence.

  • Stephen, I have edited/condensed some of your previous posts to straighten out the PDF link. I trust that these changes meet your approval.

    We have debated corporate taxes before and there is no reason to repeat all of those debates on this thread. However, I will address a couple of the specific points raised here.

    It’s true that executive salaries, along with wages and all other business costs, are paid before corporate taxes are levied. This fact does not lead to the conclusion that corporate taxes do not touch executive compensation but do bear entirely (or mostly) on workers’ wages.

    Of course, I second Marc’s analysis that corporate taxes (at least up to a global average) are borne by owners. But even if corporate taxes are fully shifted to workers and consumers, they are still no more regressive than payroll and sales taxes. If progressives want to maintain payroll and sales taxes to finance public programs (as I believe Stephen does), why would we not also maintain corporate taxes for the same purpose?

    More generally, I question the premise that all corporate tax is really paid by shareholders, workers or consumers. A significant (if not defining) feature of modern economies is the emergence of corporations as major actors in their own right. Especially in recent years, the corporate sector has amassed huge surpluses above and beyond what is (or will be) paid as dividends to shareholders. These surpluses dwarf executive compensation and should be taxed at an appropriate rate, particularly given the corporate sector’s use of public services and infrastructure.

  • There are plenty of low CIT jurisdictions with high GINIs so the best gloss that could be put on the argument is that low CITs are a necessary but not sufficient condition for higher equality.

    “And that will be achieved by either cutting costs (expecially labour costs) or simply pulling out entirely.”

    SG has a point: progressives rightly observe that tax arbitrage, profit rate equalization and plant relocation are some of the more pernicious aspects of globalization but they then, often, are want to turn around and argue that these are not somehow real facts on the ground when it comes to tax, regulatory and labour policy.

    As long as capital enjoys its relative mobility and the state (and interstate system) presents no credible alternative then it very much going to remain the political economy of blackmail.

    SG’s feed the raccoons and hope they will stop asking for handouts solution points in one direction but there are of course others.

  • Don’t you people sleep?

    I’m still not convinced by SG’s argument.

    There is certainly some capital that is highly mobile but most of it is not or much less so. For that which is highly mobile, there are so many other factors that determine investment. And the extent to which taxes can be passed on at all will depend on the amount of competition in the product or labour market.

    So we are just talking about cases where tax rates in Canada are way higher than in the US (because that is the effective world rate for taxation that is relevant to companies operating in Canada) for companies that are highly mobile, all other cost factors are the same, where they have substantial market share or where there is no organized labour. Under those conditions I agree with SG but like I said, that ain’t the world we live in the vast majority of the time.

    I will take a look at the working paper cited but even on the surface — an analysis nine countries in Europe from 1996 to 2003 — this “available evidence” hardly settles the debate. I think Gillespie’s long body of research got it right for assessing tax incidence in Canada. I’m following him in that corporate taxes are progressive as they are largely borne by owners.

    Like I said, there is no prima facie case to be made that recent corporate tax cuts have been passed along to consumers or workers; they went to the owners. If there are any studies of Canada that demonstrate that when corporate taxes have gone up in the past, above US levels, that this has shown up as lower wages or higher prices then I would love to take a look.

  • It’s only one of many papers that make the same point.

  • One of a handful perhaps, of relatively new vintage. My scan finds that there are others that find the opposite. See “Does the Open Economy Assumption Really Mean That Labor Bears the Burden of a Capital Income Tax?”
    http://www.bepress.com/bejeap/advances/vol6/iss1/art3/

    To wit: “The findings of this paper reverse the basic conclusion drawn from the more simplistic models of an open economy that predict the burden of a capital income tax, or a partial factor tax, must fall on domestic labor income as the immobile factor. We show that imperfect product substitution plays a key role in limiting the flow of capital abroad following a rise in the domestic tax rate. This result holds even if we
    assume that capital portfolios are perfectly substitutable internationally. The incidence of the corporate tax either falls on domestic capital or it is exported: domestic labor does not bear a large burden.”

    Turns out that the assumptions you make and the specs of the models (i.e. full capital mobility in a general equilibrium framework) make all the difference. And there are also huge econometric issues such as determining the direction of causality (do lower wages lead governments to increase corporate taxes).

    Still, SG makes an interesting point in this debate. But we should not go so far as to think that this issue is settled. Particularly when in Canada our rates are lower than in the US, raising them to US rates would not likely have an impact on wages.

  • You guys are reading way too much into this. You tax what you hate. Hence if you hate banks, you should tax banks. It’s that easy.

  • Close, Stuart.

    Has more to do with class warfare, not so much hatred (after all, why tax booze; it’s not like the bourgeois hate it).

  • But they don’t tax homebrew, so they’re really taxing the labels. And everyone hates the labels.

  • Turns out that the assumptions you make and the specs of the models (i.e. full capital mobility in a general equilibrium framework) make all the difference.

    I think full capital mobility is a pretty good assumption to make for Canada for policy purposes (cf the recent financial crisis). But even if you think that Canada is well-described by a closed-economy model, labour’s share of corporate taxes will be its share of total income: 75% or so in Canada, if memory serves.

    And let’s all recall one of the most persistent and pervasive problems in the Canadian economy: under-investment. If we were content with current investment levels, then we wouldn’t be all that concerned with trying to persuade more people to invest more in Canada. But we aren’t and we are.

  • My original post was about Canadian banks. These institutions must get chartered by the federal government and operate in Canada in order to make money here. They do not fit the theoretical model of completely footloose, fungible, stateless capital.

    Indeed, since bank profits are reliably generated inside a regulatory cacoon provided by the Canadian state, it would seem reasonable for the Canadian state to tax them at a relatively high rate. (The fact that Canadian banks sometimes lose money on their international ventures, such as dealing in American asset-backed commercial paper, hardly justifies a lower Canadian corporate tax rate.)

    Also, Stephen, I recall you arguing that there is no lack of business investment in Canada.

  • You misunderstood what I was saying, then. I said that investment levels were at an all-time high; I didn’t say that they were too high, or that we didn’t need more: increasing capital stocks requires a sustained period of high levels of investment. The point I was making there was to correct a fundamental error in how the data were being interpreted.

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