Yet more Ritchie on the incidence of corporation tax

The Murphmonster has found himself a new favourite paper. One that shows, so he thinks, that the workers do not bear the burden of the corporate tax. And thus, with one bound, he is free to reject 50 odd years of research into the point.

However, it’s worth actually reading what the paper itself says. She does indeed find little empirical evidence among OECD countries but the why she proffers is really very interesting indeed:

Third, despite the theoretical reasons to believe that labor will bear
some of the corporate income tax, there are several competing considerations.
Models of general equilibrium incidence neglect several factors
that might reduce the extent to which labor bears the corporate
tax: the extent to which the corporate tax has residence elements, the
fact that debt-financed investments are typically subsidized through
the corporate tax, the extent to which corporate tax changes do not
occur in isolation, and elements related to risk and the nature of
competition.
Fourth, it is possible that clientele effects may undo some of the
wage effects associated with corporate taxation. For example, if there
are investors based in worldwide tax system countries, they will view
high tax rates as less of a deterrent than those based in exemption
countries. Also, Desai and Dharmapala find evidence of substitution
between foreign portfolio investment and foreign direct investment in
response to tax incentives.134 In addition, corporate taxation may actually
subsidize debt-financed investments. In general, the type of investment
(portfolio versus direct, debt versus equity financed, and the
like) may be far more sensitive to corporate tax treatment than the
overall level of investment that determines the resulting capital stock.

That “corporate taxation may actually subsidise debt-financed investments” is very interesting indeed actually. For that’s things like thin capitalisation and such. Lend money into a high tax jurisdiction and take out the profits as interest (taxed at a lower rate at home) rather than profits, taxed at that higher rate abroad.

And doesn’t Ritchie just bitch about people doing that?

Finally, an additional important consideration may be driving these
results. In recent decades, the economy has become more global,
leading to a rethinking of corporate tax incidence. Yet, accompanying
this globalization, there has been an increased divergence between the
location of economic activity (such as investment, employment, and
sales) and the location of income for tax purposes. I have discussed
these trends at great length in prior work.136 This divergence could
reduce the wage effects of relative corporate tax rates, since agile
firms can move income without commensurate movements of investment
and jobs.137 Indeed, many of the most global companies have
become increasingly adept at the creation of stateless income, as discussed
by Edward Kleinbard.138 If firms can respond to tax differences
among countries through financial or organizational decisions,
this will lower the tax sensitivity of real activity, thus reducing possible
adverse effects on labor associated from tax-induced reductions in the
capital stock.

This means the sorts of things that Apple does: sticking all the profits in Ireland. Or Google and Facebook, making all their sales from Ireland. Of course the UK tax rate is going to make no damn difference to their activities in the UK if they’ve organised matters so they pay tax in Ireland, not the UK.

And boy, doesn’t Ritchie bitch about that?

It is also possible that capital continues to bear the corporate tax.
For instance, while corporate taxation may discourage some types of
investment, it may not have a large enough effect on overall investment
to cause a substantial reduction in wages. Or, the tax burden
may fall predominately on economic profits, and thus reduce the rents
of both shareholders and others who share their rents. In this context,
it is important to note that the reporting of profit in particular tax
jurisdictions is becoming increasingly discretionary. Truly global multinational
firms are adept at using complex chains of ownership together
with tax-motivated decisions regarding the holding of
intangible property, the structure of finance, and the transfer pricing
of intermediate goods, in order to report income where it is most
lightly taxed. If global firms separate the location of their profits from
the location of their investments and employment, then workers need
not bear the burden of the corporate tax. The firms that are adept at
shifting income face a lighter tax burden, which need not adversely
affect their workers. Whereas immobile firms behave like closedeconomy
actors, and thus they are unlikely to generate the open-economy
incidence result.

The conclusion of the paper is therefore that the reason we can’t see corporation tax influencing wages is that corporations have become sufficiently adept at moving their tax liabilities around so that where (but not how) they invest has become divorced from considerations of whatever the corporate tax rate is. Either by selling over borders or by financing with debt not equity etc.

And those are indeed things that Ritchie bitches about, aren’t they?

In fact, the finding of this paper is that the reason that the corporate income tax does not depress wages is because of the tax dodging and the tax gap that Ritchie campaigns against. And, we must presume, that if the tax gap were closed, the tax dodging stopped, then the incidence of the corporate income tax would indeed be upon labour.

It’s just such a great paper and argument, isn’t it? And Ritchie is using it as proof of his contentions about tax: when the real answer directly contradicts his contentions. It is exactly the tax dodging by corporates that means the incidence is not upon labour!

6 thoughts on “Yet more Ritchie on the incidence of corporation tax”

  1. So the conclusion we can draw is that tax dodging is good for the Ordinary Working Stiff, and corporations do it out of unintentional altruism for their poor put-upon labourers?

  2. Owain Shave (@OwainShave)

    @ Matthew L

    No, the corporations do it for themselves. Any positive or negative effect on their workforce is most likely unintentional.

  3. The conclusion the author comes to is:

    “At the end of the searching, I find some evidence that suggests that corporate taxation may lower wages, but the preponderance of evidence does not suggest any wage effects from corporate taxation. Despite the findings of other studies, perhaps this is not a surprising result. Corporate tax incidence is difficult to model, and many models leave out important considerations. Economies are very complex, and myriad economic forces determine labor market outcomes. Perhaps we should be more surprised if the data do give a clear answer to this complex question.”

    I’m not entirely clear what this means, but think it boils down to: some evidence suggests that the impact is on wages, but most is inconclusive and doesn’t point either way.

    I don’t think that’s Murphy’s interpretation, though 🙂

  4. The effect of tax planning, particualrly the highlighted use of debt instead of equity in subsidiaries and the siting of the recipient of that income from that debt, shouldn’t surprise anyone. Groups refer to their “effective tax rate”, which is a very clear indicator of their intentions to treat tax as they would any other cost and try to reduce it. It shouldn’t be a surprise that reducing this effective rate across the group will reduce the effect of changes in rate in the higher tax jurisdictions. So the definitive evidence on the incidence of Corporate Income Tax is simply bound to be somewhat elusive.
    CT is charged at an intermediate point in the chain as regards cost, income and profit allocations. Some receipts will need to flow to employees, some to suppliers and some as distirbutions of profit to the owners of capital. So it is certain that there will always be some tax incidence on each of these groups. What is ridiculous is Ritchie’s absolutely emphatic insistence that it is ALL on capital; that cannot be true.
    By contrast, a tax on distributions certianly does have a high tax incidence on capital.

  5. On the other hand, when I’ve quite finished slagging Ritchie off… he’s not a sociopathic mass murderer.

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