A company tax cut is cheaper than a stagnating economy - The Centre for Independent Studies
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A company tax cut is cheaper than a stagnating economy

slow economy stagnatingHere’s a bad policy idea. Let’s allow the tax burden on investments to soar to boom levels. And let’s do this when investment is plummeting towards recessionary levels. Near record lows of investment and near record tax levels imposed on investment.

You might think such a policy would be widely opposed. Yet this is the dangerous situation Australia is facing.

Senator Nick Xenophon is reported in yesterday’s Australian Financial Review expressing concern about the struggling Arrium steelworks and the impending end to the car industry; he should be just as concerned about the lack of investment, which will hit South Australia just as hard. Ironically, the same article reports that Senator Xenophon has rejected the company tax cuts that would boost investment in his state’s industries.

And the investment problem is stark. Non-mining investment isn’t recovering with the end of the mining boom, instead it is flatlining at levels we have only seen before in the middle of the 1990s recession, as shown in the graph below. But Australia is nowhere near recession.

There is plenty of global capital looking for places to invest, but it is going everywhere except to business investment in Australia. According to the IMF, global investment rates have grown since 2009, as have levels in advanced economies, but not Australia, even with mining omitted.

Meanwhile the tax burden on investments in Australia — through company tax — is growing strongly, with tax as a share of company profits  set to hit boom levels in a couple of years.

Given this confronting situation, you might think Australian politicians would be rushing to cut the tax burden on investment. But no. The government’s plans for a cut in the company tax rate to 25% have been opposed for many reasons ¾ including the spurious arguments that cutting the tax on investment is a gift to tax avoiders, big business or foreigners.

However, a company tax cut can’t be a gift to the (supposed) biggest tax avoiders, because they don’t pay tax. In fact, the tax cut will provide the greatest benefit to businesses who pay the most tax: as a result, the good corporate citizens get a benefit, while the largest tax avoiders gain nothing. In addition, businesses generally shouldn’t be held collectively responsible for the minority that avoid tax. Collective responsibility is an anathema to good policy.

It is true that a company tax cut will provide higher returns to business, big and small, and to foreign investors. But how else are we expecting them to invest? We have to provide those higher returns in order to get the investment. And extra investment will reduce the investment returns over time — in the long term there won’t be any ‘gift’ to foreigners or business.

We also hear people arguing that cutting the tax on investment is expensive. But look at the alternative: stagnating investment will mean a stagnating economy. The whole economy will be confronting the problems currently facing the South Australian car industry. In stark terms: we can’t grow without business investment. We won’t have the money to pay for hospitals or schools if we don’t have a growing economy. And despite what the opponents say, the benefits of the tax cut are substantial, as argued by the Treasury: around the same as the benefits of wide-ranging infrastructure reforms in the 1990s.

Australia doesn’t just have an investment problem. We also have historically weak growth in wages, national income and productivity. Treasury’s modelling shows the tax cut will assist with all three: the extra investment will grow the economy, which is expected to boost productivity, wages and incomes. These benefits are also substantial: at recent growth rates, the gain is more than one full year’s income growth; and around a half year’s growth in wages and productivity.

The boost to incomes is smaller if there is an accompanying hike in personal income taxes: so better that this doesn’t happen. Instead, the cut in the tax on investment can — and should — be financed by tax measures in the 2016–17 Budget, such as policies to reduce tax avoidance.

There is no need for any other taxes to increase, as the budget impact is about zero. So much for the tax cut being expensive. This also means the tax cut doesn’t preclude the government implementing any other policy, such as higher spending on education or infrastructure.

A policy to boost investment, wages and incomes, with negligible impact on the budget deserves strong support. If we do nothing, Australia will become more uncompetitive for investment, and we risk failure: ongoing stagnation in wages, income and productivity and economic growth. It is not a future we should wish for.

Michael Potter is a Research Fellow in the Economics Program at the Centre for Independent Studies and author of the reports Fix it or fail: Why we must cut company tax now and e case against tax increases in Australia: the growing burden