Biden’s global minimum tax is a trap for mobile capital

Competition has generally prevailed over the past 30 years or so, but it now faces a strong challenge from the new Biden administration. Washington wants to increase the US headline corporate tax rate by a third to 28 per cent, double the rate on selected profits generated abroad and stifle international competition with a new global minimum tax, at least for large companies.

If Biden succeeds, this may turn out to be a landmark in tax history as consequential as Ronald Reagan’s slashing of personal income tax rates in the 1980s, which led to a multidecade global decrease that flowed later to corporate rates, reducing them from an average of 46 per cent to one of 26 per cent by 2020.

By halting and reversing that trend, Biden would be demonstrating again that he is a more transformational president than was generally expected – but in this matter at least, not in a positive way, either for the US economy of the global economy.

Up to a point, the US initiatives are in harmony with efforts already under way at the international level – but hitherto resisted by the US – to counter base erosion and profit shifting (BEPS).

There is doubtless a lot of gaming of differences between national business tax systems by multinationals and international co-operation to counter it is warranted – although the extra revenue to be extracted by doing so is probably much smaller than is often believed to exist.

The administration’s spin doctors have been hard at work weaving a narrative that relabels healthy international tax competition a ‘race to the bottom’.

This basically requires a comprehensive international agreement on a formula to allocate for taxing purposes the profits of multinationals to the various countries in which they operate, whether or not they have a physical presence in them. It does not require a global minimum tax.

It is a sensible project, and good luck with it – it makes allocating GST revenue to the Australian states look easy. In the meantime, highly imperfect solutions such as national taxes based on multinationals’ revenue generated within countries have started and are likely to proliferate.

But there is much more to Biden’s corporate tax plan than a new and warm embrace of international co-operation.

Domestic agenda

There is a large domestic agenda at play, involving a permanent expansion of public expenditure and tax increases to finance it, with the taxes shaped at least to give the appearance of reducing inequality; even if their ultimate effect will be to lift unemployment and depress real wages. The corporate sector is merely the first port of call in this drive for more revenue and redistribution.

It is this agenda that is driving Biden’s call for a global minimum tax of 21 per cent as a way to contain the loss of international competitiveness and domestic economic damage from a large increase in US corporate tax.

If they can remove the incentive for capital to move, it becomes so much easier to tax. The administration’s spin doctors have been hard at work weaving a narrative that relabels healthy international tax competition a “race to the bottom”. But while there has been a long-term downward drift in headline corporate tax rates, there has been no race to the floor.

The US was slow to participate, but the Trump administration did so in one large leap. The Biden advocates say this was excessive, and they are “only” clawing back half of it, but conveniently overlook the base-broadening measures that were part of the Trump package, while adding more base broadening of their own.

In the rest of the world, the UK is the only other major country that has so far launched a plan to partially reverse previous cuts in its corporate rate, while several others have further reductions planned. The Organisation for Economic Co-operation and Development (OECD) also wants a global minimum tax to buttress its BEPS reforms, but at a much lower rate than Biden’s proposal.

To Australian eyes, 28 per cent still looks moderate. However, as the US doesn’t have our dividend imputation system, the combination of corporate and personal tax on dividends will be as high as 60 per cent. Moreover, Australia, with a corporate rate of 30 per cent for most companies, is now something of an outlier at the high end.

Australia should not welcome a shift to rising corporate tax rates in the US or globally, which would weigh on growth and sap the strength of our major ally.

Such a trend would, however, relieve the competitive pressure for the cut in our corporate rate to 25 per cent that politics has been unable to deliver.