It wasn’t long ago that Americans viewed Canada as a poorer neighbor with only one competitive advantage—in hockey. No more: On January 1, Ottawa cut the nation’s corporate tax rate to 16.5% from 18%, compared to the U.S. federal rate of 35%.
This isn’t a new trend up north. Canada starting cutting corporate taxes in the 1990s under the Liberal government of Paul Martin and has since enjoyed a virtuous cycle of investment, job creation and growth. The trend has continued under Conservative Prime Minister Stephen Harper, who has pledged to take the rate to 15% by 2012. Even Canada’s Socialist-run provinces have followed suit by lightening the tax burden on business.
This is part of a global trend, as a European Commission report last year noted that Europe’s average corporate tax rate has dropped below 25%. By contrast, the U.S. rate is close to 40% if you add state corporate taxes to the federal levy. That competes with Japan for highest in the world, and even Japanese politicians say they want to cut their corporate rate.
Relative levels of taxation matter because companies and investors send capital where it can achieve the highest returns. Yes, U.S. companies often pay a lower effective tax rate thanks to loopholes, but the variability leads to economic inefficiency and investment distortions. Low marginal rates have helped the likes of Hong Kong (16.5%), Singapore (17%) and Ireland (12.5%) attract capital, while the high U.S. rate keeps hundreds of billions of dollars from coming to America from offshore.
Twenty-two years ago we wrote an editorial—"North, to Argentina"—warning Canada that economic prosperity isn’t a birthright but requires sound policies like free trade. Nowadays, that’s a lecture Canada could credibly deliver to Washington on business taxes.