One of the things that struck me about the US deficit reduction plans offered by the co-chairs of the President's National Commission on Fiscal Responsibility, the Domenici-Rivlin Bipartisan Commission, and Jan Schakowsky (a "progressive" Congresswoman) is that all three plans propose taxing capital gains and dividends as ordinary income. Although the Rivlin plan would allow a trifling $1000 capital gains exemption, it not only reverses George W. Bush's tax cut with respect to capital gains (which cut the rate from 20% to 15%), it, along with the other two plans, would increase the tax rate on capital gains to beyond what it was under Clinton by moving it well above 20%. All three plans would also tax dividends as ordinary income. These plans are supposedly from across the spectrum, with Paul Krugman, for example, dismissing the plan proposed by Obama's commission co-chairs, Erskine Bowles and Alan Simpson, as an "unserious" proposal that only the "centre right and the hard right [could] agree on."
That capital income should be targeted in the supposed stronghold of capitalism is both remarkable and it isn't. Having the world's highest tax rates on income from capital is superficially remarkable but further analysis reveals that the US has not been nearly as capital friendly a jurisdiction as popularly imagined for a while now.
In Canada, with the exception of Quebec, eligible dividends are actually taxed at negative rate for incomes below $41 000. In Alberta, even persons making over a million a year have been taxed at less than 15% on eligible dividends (this is increasing to almost 16% for 2010 on incomes over $127 000). One must keep in mind here that dividends are double-taxed, once in the hands of the corporation and then again in the hands of the individual receiving the dividend. But this just makes the difference with the USA more remarkable. The economists in the Finance Department in Ottawa are alive to the fact that corporate taxation is amongst the most economy-unfriendly forms of taxation and that dynamic scoring indicates that cutting the corporate rate is relatively inexpensive. There has been an ongoing effort dating back to when Paul Martin was Finance Minister to cut the corporate rate when possible and effective January 1, 2011 the rate will be 16.5% (with current plans calling for 15% a year later, meaning a combined rate of just 25% in British Columbia). Like most policies that are well founded in terms of evidence, this reduction is consistent with the international trend identified by the OECD. The US corporate tax rate is 35%, for a combined state/federal rate over 39%, the highest rate in the world after (economically stagnant) Japan.
To tax corporate income at this level and then whack it again when dividended out by taxing it as ordinary income under a highly "progressive" income tax regime raises the question, why wouldn't American investors take their money offshore (and themselves along with it) instead. If a company on a listed stock exchange were to announce that it would never pay a dividend, it's intrinsic value would drop to zero overnight: you can't eat a share certificate, and accordingly the only value it has is the present value of its future dividends. Investment decisions around the world utilize a NPV (net present value) analysis; the corporate tax rate reduces the numerator of that analysis, and what's left over is still stuck in the corporate form and not available to investors apart from a dividend.
In response to those doubting my claim that the US income system is highly progressive, note this quote from a paper by the Luxembourg Income Study:
For the 13 countries for which it was possible to calculate income, payroll, and property tax progressivity, the U.S. has the most progressive tax structure; Sweden and Denmark are the most regressive.
Ah, yes, those Scandinavian scoundrels. That best case scenario for Canada that I noted above whereby the corporate tax rate in BC would be 25% in 2012? Denmark is already there, today. And Norway's dividend tax rate is... zero:
dividends from Norwegian companies were in practice tax free on the hands of the shareholder
Meanwhile, Norway has been rated #1 by the United Nations' Human Development Index for years now (remember how the top spot used to be a pride of point for Canada? We're now down to 8th).
I've lived in Scandinavia for more than a year and have noted that while the "welfare state" there remains strong (the tuition for my academic degree there was zero), one does not encounter the anti-corporate hysteria that is so common in North America. When the OECD points out, for example, that
Corporate income taxes appear to have a particularly negative impact on GDP per capita. This is consistent with the previously reviewed evidence and empirical findings that lowering corporate taxes raises TFP (total factor productivity) growth and investment. Reducing the corporate tax rate also appears to be particularly beneficial for TFP growth of the most dynamic and innovative firms.
Scandinavians, and Europeans in general, are prepared to pay attention. In Canada, most people would rather listen to Bill Vander Zalm, and it isn't much different in the States. Consider who has advocated the following:
We must be firmly committed to free trade... opposing all forms of protectionism and removing existing trade protectionist measures... We should substantially reduce trade and investment barriers... and establish an open and free global trading system.
Recognize the words of the leader of "communist" China there? Meanwhile, the "leader of the free world" has assiduously avoided ever calling for free trade. Obama's recent trip to Asia was instead billed as a "jobs mission." Needless to say, the President came back empty-ended from his mission to get something for nothing. At the same time, the war of words between Germany and the US over the US government's spending spree continues. Germany's chancellor recently made the supposedly illiberal claim that "we have too little Christianity. We have too few discussions about the Christian view of mankind." With respect to immigration, Europe is significantly further to the right than North America.
For years the policy mess in the US was masked by the country's ample natural resources and its openness. "The business of America is business," said one President. But that was before FDR. America is now turning inward. As the WSJ reported last month, less than 10% of Americans say free trade agreements have helped the United States, and Tea Party supporters are even more likely to say the US has been hurt by free trade than the general public. The incoming Chair of the House Committee on Agriculture, Republican Frank Lucas, wrote Obama last year to demand that farm subsidies not be cut. Besides direct payments, the US tax code is additionally chock full of subsidies that economists would call tax expenditures, but in Republican rhetoric they are tax cuts.