A famous American jurist, Oliver Wendell Holmes Jr., wrote in 1927 that taxes are the price we pay for civilization. However much truth there may be in this statement, we’ve now gone way beyond this. Taxes today are the price we pay for having a big, fat and inefficient bureaucracy that tries to intervene in every aspect of our lives.
As long as we have taxes, however, we should make sure that they cause the least possible distortion in our economy.
Some taxes are really dumb. A tax on capital is self-defeating, in that it slows down capital accumulation, investment and economic growth. Fortunately, it has been abolished at the federal level. And our government provided an incentive in the 2007 budget to encourage provinces that still have a tax on capital to phase it out.
What about the corporate income tax? One proposal we hear regularly from proponents of bigger government is that corporations don’t pay enough taxes. If only they did, we could fund more government programs, and we could reduce the tax burden on individual taxpayers.
However appealing this argument may sound, it has no basis in logic.
Corporations may have a legal personality, but they are only abstract entities. They are, in effect, simply a bundle of contracts between managers, investors and workers, to produce some specific goods or services. Bundles of contracts don’t pay taxes, only real people pay taxes.
From the perspective of corporations, taxes are an additional cost of doing business. If you increase their taxes, to remain profitable they will have to find ways to lower other costs, or to increase revenues.
How does a corporation do this? One way is to reduce the returns to its owners and investors. In that sense, it becomes the equivalent of a capital tax, or a capital gains tax. It is not the corporation that pays the tax, but rather its owners and investors. And since capital is mobile, there is a limit to how much you can tax it. The result, as with the capital tax, is that we end up discouraging capital accumulation and investments in Canada.
Another way for corporations to shift the burden of their income tax is to increase the price of what they produce. In that sense, it becomes the equivalent of a tax on consumption. It is the consumers who pay it, not the corporation.
A corporation can also decide to cut down on its factors of production by laying off workers, reducing their wages, investing less in new equipment, or buying fewer inputs from its suppliers. Once again, in the end, it is real people who will pay the tax, either the company’s workers or the workers of other companies that do business with it.
In reality, corporations will shift the tax burden in a combination of these different ways to their workers, their consumers and their investors. And since we are all, in one way or another, workers, consumers and investors, we are the ones paying the tax.
Those who believe that we can shift part of our personal tax burden onto corporations are being totally misled by their misunderstanding of how the economy works. Taxing corporations is in fact taxing people. But that’s not all.
The whole process of taxing corporations, which then act as collection agents for the government, has consequences in itself. Corporations become less efficient, adding all kinds of distorted prices and signals to the smooth functioning of the economy.
Nobody benefits from this. Taxing corporations means unnecessarily burdening our wealth-creating machines.
On the other hand, when corporations are better able to produce goods and services, we all benefit: as consumers who get more for their money; as workers who get paid better; and as investors who get a better return.
One of the policies of my government that I am most proud of is the reduction in corporate taxes announced in 2006 by my colleague, the Minister of Finance, Jim Flaherty. The general tax rate was more than 22% in 2007. It has been going down every year since and will be at 15% in 2012. Canada will then have the lowest corporate income tax of the G7 countries.
It’s too bad that the opposition parties don’t understand economic logic enough to support these tax cuts. The leader of the Opposition, Michael Ignatieff, said again recently that if he were in power today, he would freeze the planned tax cuts and spend the money instead on social programs. That’s a very dishonest way to buy votes. You pretend to take money from corporations when in fact you take it from the pockets of all citizens; and then you pretend to be very generous by spending that money on some targeted special-interest groups.
If we were to apply economic logic consistently, we would of course go even further and get rid of corporate income tax in its entirety. It may be unrealistic for now, but the more the general public understands these sound economic principles, the more likely it is that one day, it will become politically acceptable.
It’s also important to understand economic logic so that we can reply to those who will accuse us of favouring corporations at the expense of the people. Corporate tax cuts are in fact a pro-people policy, because the world is not divided between people and businesses. Businesses are made of people. Businesses are people. The choice is rather between pro-growth and anti-growth policies.
Maxime Bernier is the Member of Parliament for Beauce. This commentary is extracted from his May 19th, 2010 speech to the Frontier Centre for Public Policy in Winnipeg.