How Corporate Tax Cuts Can Actually Destroy Jobs

Here’s a short description of the methodology I used yesterday in explaining why allocating $3 billion of federal revenue to further corporate tax cuts (instead of other more effective stimulusmeasures) would actually destroy jobs (up to 46,000) on a net basis. It’s also available on the CAW site.

Corporate tax cuts have very little positive impact on employment, since they induce very little change in business capital investment spending.  Historical evidence in Canada since 2000 (when the corporate tax rate, then 29.1%, began to be dramatically reduced) indicates that business investment has deteriorated since then – whether measured as a share of GDP, as a share of the existing capital stock, or as a share of corporate cash flow.

Indeed, business capital spending in recent years has fallen below realized business cash flow; companies have been accumulating cash and other liquid assets as a result.  By the third quarter of 2010, the cash and short-term financial assets of non-financial businesses in Canada had reached $480 billion – almost a half-trillion dollars (source: Statistics Canada Balance Sheet data, CANSIM database).  Since the advent of the recession two years earlier, businesses socked away an additional $83 billion in new cash.  (This is in stark contrast to the behaviour of consumers and governments during this time, who incurred substantial new debt in order to finance expanded spending.)  Further enhancing the cash flow of business, with no strings attached to incremental investment undertakings, will accomplish nothing other than enhancing that large stockpile of idle cash even further.

When governments allocate large sums of revenue to corporate tax cuts, those resources are no longer available to fund other priorities – like extending EI benefits for laid-off workers, investing in infrastructure or housing, or supporting public programs through transfer payments (like health care or education).  All of those programs create far more jobs than corporate tax cuts.  Therefore, shifting money from EI benefits (or infrastructure or public services) into corporate tax cuts destroys net jobs.

This is confirmed by the federal government’s own data.  The following table summarizes Dept. of Finance estimates of the final impact on GDP of various government spending priorities.  (This table has appeared in several Dept. of Finance documents, most recently including Canada‘s Economic Action Plan Report #6, Table A.1.)  Extending EI benefits has the biggest macroeconomic impact ($1.7 billion in total GDP from each $1 billion in benefits).  This coefficient is greater than 1, reflecting the multiplied impact of government spending on incomes, spending, and job-creation.  Cutting corporate taxes, on the other hand, has the weakest macroeconomic effect: just $300 million in new GDP for each $1 billion in tax cuts.  In other words, of each $1 advanced in corporate tax savings, 70 cents leaks away before it even registers in Canada’s GDP.  On that basis, the proposed corporate income tax cuts (from 16.5% to 15%, costing $3 billion per year according to Dept. of Finance budget estimates) would generate less than $1 billion in new GDP.

The second column of the table then estimates the employment impact of each form of stimulus (based on $1 billion of stimulus for each initiative).  The table utilizes the average employment content of GDP that was demonstrated in the Canadian economy in 2009 (Statistics Canada CANSIM database, most recent annual data available).  In that year, each $1 billion of GDP supported an average of just over 11,000 jobs.

The employment impact of each $1 billion in stimulus spending therefore varies from a high of 18,755 jobs for support for the unemployed and low-income Canadians (which has the greatest positive impact on GDP of any of the stimulus measures), to a low of just 3,310 jobs (barely one-sixth as much) for corporate income tax cuts.  The employment multiplier for corporate income tax cuts is so weak (in the Dept. of Finance estimations) because of the extensive leakages from stimulus injections that occur when government resources are refunded through tax cuts to businesses which are already hoarding cash.  Unemployed and low-income Canadians, on the other hand, spend every dollar of their incremental incomes – and this in turn generates repeated cycles of spending and re-spending, ultimately adding up to much larger employment effects.

We may now estimate the employment effects of the proposed $3 billion in corporate income tax cuts.  According to the Dept. of Finance multiplier coefficients, the tax cuts would generate just under $1 billion in new GDP, and just under 10,000 jobs (equal to $3 billion times 3,310 per billion).  In contrast, if the same funds had been spent on extending EI benefits, GDP would expand by over $5 billion ($3 billion times 1.7), generating 56,000 jobs ($3 billion times 18,755 jobs per billion).  The net effect of the tax cut, compared to the allocation of equivalent funds to more powerful stimulative measures, is the elimination of 46,000 jobs.  (In economic parlance, the foregone jobs that would have been created if the money had been allocated to other initiatives is the “opportunity cost” of the corporate tax cuts.)

Other foregone spending initiatives also have powerful job-creating impacts, which will be missed as a result of allocating the available funds instead to corporate tax cuts.  $3 billion in infrastructure investment would generate about 53,000 jobs, while $3 billion in housing investment would generate just under 50,000 jobs.  By any measure then, allocating scarce resources to corporate tax reductions with such ineffective (even by the Dept. of Finance’s own estimation) impacts on GDP and employment, instead of to more powerful GDP- and employment-generating initiatives, will result in the substantial destruction of net employment – of as much as 46,000 positions in total.