Monday, March 6, 2017

Reserve Bank spells out company tax choices to politicians

The pollies can't help themselves. When the Reserve Bank heavies make their regular appearance before the House of Reps economics committee, the main game is to get the governor to say something that favours your side of politics and gives the finger to the other side.

So, when Dr Philip Lowe and friends appeared before the committee a fortnight ago, the Liberal chair of the committee, David Coleman, saw his chance to get Lowe to repeat his remarks in favour of cutting the rate of company tax to make it internationally competitive, remarks that drew headlines of Governor Slams Labor in the national press.

Sorry, Lowe had seen this game before, and wasn't playing. He'd switched to "analytical" mode. In truth, he was backing off at a rate of knots.

Tax, he said, is one of the considerations that internationally mobile capital takes into account when deciding where to do investment, but only one.

"There are a lot of other factors as well," Lowe said. "The kind of legal and political environment, human capital [how well-educated our workers are] and all the other things we value in this country."

Corporate tax rates had been edging down around the world, but in the post-crisis environment some countries had seen lowering the corporate tax rate as a potential strategic advantage to attract business from elsewhere, so we heard governments talking about 15 and 20 per cent rates, he said.

"I think you could argue … that, from a global perspective, this is not actually that useful, because the lowering of the corporate tax rate from one country to another just changes the location of investment and does not increase aggregate [global] investment.

"I hear some economists saying that in a perfect world we would have a common global corporate tax rate, so business would decide where to locate based on the strategic and comparative advantages and not on corporate tax.

"But that is not the world we live in."

So the analytical choice the Parliament faced was to respond to this international competition or to say, "No, we are not going to respond to that because we have other advantages that [make] people want to invest in Australia", he said.

"Australia has other advantages, and the tax system is supposed to deal with issues other than attracting investment – there is equity and fairness and other considerations," he said.

Soon it was time for another Liberal, Scott Buchholz, from my ancestral home of Beaudesert, to try his luck with the assistant governor economic, Dr Luci Ellis. Sorry, no luck.

"If you are a primarily locally oriented corporate entity, you have dividend imputation and it is more or less irrelevant what the corporate tax rate is from the perspective of people who wish to invest in your firm," she said.

"That is also true for the very large pool of superannuation savings that we have in this country."

So the benefit from cutting the company tax rate was limited to its ability to attract investment from foreigners.

But not all foreign capital was equally valuable. Foreign direct investment, she implied, was more valuable than portfolio investment involving "purchasing of existing securities or existing assets [such as businesses]".

Direct investment was where, if the decision to cut the rate was put off, this could "potentially be more damaging to an economy" but – here comes the two-handed economist – "investors think about more than just differential tax rates when they are making foreign direct investment decisions".

"Also," Ellis went on, "you have to remember that many multinational corporations do have the capacity to decide where the revenue [they earn in Australia] is recognised".

"To the extent that there are transfer-pricing alternatives to where you locate your income, it is not clear to me that [the level of our company tax rate] changes people's decisions about whether Australia is a good place to have some business. It might change which government gets the revenue.

"You could imagine that it would become increasingly attractive for multinational firms to seek to locate their revenue recognition in lower tax havens.

"But there are already very low tax jurisdictions where [multinationals] can do that, and we still see investment happening in [this] country.

"I cannot imagine a scenario where a few more countries moving in this direction [of cutting their rates below ours] results in the entirety of that activity moving outside Australia's borders," Ellis said.

What a comfort it is that, while our politicians do little more than try to score points off each other, our econocrats are still capable of laying out the choices we face.