The Long and The Short of Corporate Tax Cuts

A couple of weeks back I summarized five economic reasons to say no to further corporate tax cuts right now.

A print edition of the piece caught the eye of Finance Canada, which fired off a chastening letter on February 10th saying:

In your February 8 column in the Winnipeg Free Press you mention the benefit of tax cuts on job creation, indicating that they are the weakest option.
While corporate income tax measures have a limited impact on aggregate demand over the short term (the periods displayed in Table A.1 on page 142 of the Sixth EAP Report to Canadians), it needs to be mentioned that the report also concluded that they “have among the highest multiplier effects in the long run. This is because they increase the incentive to invest and accumulate capital, which leads to a higher capacity to produce goods and services.”
I just bring it to your attention for future columns on the issue.
If you have any questions, please don’t hesitate to contact me.

Now, for a government fixated on short-term gains, an admonishment to consider the long term is refreshing, even if only via a footnote to a table in the annex of a 148 page report.

The long-term impact of any measure – whether spending or cutting – is indeed an important consideration.

So is this: In Taxation and Economic Efficiency, the Department of Finance shows that fast write-offs have a much bigger impact on economic efficiency than across-the-board cuts to the corporate tax rate. This is because the impact of such a targeted measure is entirely on new investment, while the proposed rate cuts primarily reward those who have invested in the past. Pretty straight-forward.

(Interestingly, the working paper is silent on the issue of jobs, which is ostensibly the reason the government insists on corporate tax cuts now. It references “welfare”, defined as consumption and leisure, with a nod to labour supply as the intervening variable.)

Written in 2004, the paper specifies that the projections, and the multipliers that drive it, are based on a model developed in the U.S. in the 1980s.

Every model run by Finance is based on certain assumptions about anticipated behavior shifts at the margin arising from a specific policy change.

The Department of Finance should clarify if its assessment of the long-run impacts of a corporate income tax reduction in 2011 is based on a framework using multipliers developed in the 1980s.

General equilibrium models show the full impact of corporate tax cuts on economic growth and job creation benefits after many years….in the long run.

Trouble is, other things arise over the long run that could influence corporate behavior and incentives to “invest and accumulate capital”.

For example, in the not very long run China and India will eclipse the United States as the world’s largest producers and consumers of manufactured goods. Recent events in the Middle East make the supply of oil from that region less sure.

Both situations would likely lead to more jobs for Canada…. without one more tax cut.

At the end of the day, that’s the only thing that matters to most Canadians: what kinds of jobs, and how many.

Decision-makers, in both the public and private sectors, should indeed be looking at the long term.

The emerging economies are the engines of global economic growth, and they want what Canada’s got: natural resources. What’s the job impact?

The primary sector of our economy is highly capital intensive. Demand conditions and speculation are bumping up commodity prices. That means rising profits and growth in these industries and undoubtedly more jobs, but new jobs in the thousands, not the hundreds of thousands, as the evidence shows.

The manufacturing sector has been the driver of value-added in the economy and the engine of prosperity for Canadians for decades. Even before the recession, it was in decline. Between November 2002 and April 2010, 601,200 manufacturing jobs disappeared. Some 58,700 positions have been added since, bringing the total number of people working in manufacturing jobs to 1,787,000 by January 2011.

In contrast, the primary sector (including fishing, quarrying and the export giants of forestry, mining, oil and gas) peaked at 333,000 jobs in November 2008. The downturn destroyed 45,000 jobs in this sector, but the bounce-back started within a year. By January 2011 it had added 27,800 jobs. (All data from Table 282-0094 of the recently revised Labour Force Survey, revisions based on results from the 2006 Census longform …. sigh.)

(Those who viewed the financial sector as an important source of growth and job creation might be rethinking their position in the wake of the sudden proposal to merge TMX and LSE. Job growth in the FIRE sector – finance, insurance and real estate – grew through much of the recession, peaking at 1,132,000 jobs by November 2009. By January 2011 it had 58,000 fewer jobs. Mergers and acquisitions could easily mean job losses for Canada, even as the sector gains economic weight.)

The primary sector may increasingly propel Canadian economic growth and profits, but it will create small numbers of good jobs. It can’t be the engine that drives broad-based prosperity.

Without an industrial strategy, Canada will drift towards becoming a “hewer of wood and a drawer of water” for the rest of the world’s production giants.

That won’t result in the kind of good jobs Canadians want and need to sustain our high quality of life.

Neither will more corporate tax cuts. A reduction to the corporate tax rate does nothing to stimulate the creation of value-added jobs.

To be clear, that isn’t its purpose. It’s designed to make corporations more profitable, in hopes that having more money will mean more investment and jobs.

That’s a faith-based proposition, not an up-to-date, empirically-tested theory. It’s also not a commitment to Canadians, nor a long-term plan.

If jobs and investment are the objective, particularly in future-oriented value-added sectors of the economy, let’s design the policy levers that get us there. And that’s the long and short of it.