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Shared Economic Growth: Tax Reform That Would Actually Work

By       Message Matthew Lykken     Permalink
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There is bipartisan consensus that America's corporate tax system, with the highest rates in the developed world, drives high-value jobs abroad and discourages companies from bringing cash home. Say that a company earns a 15% pre-tax return on its investments. If that company has $100,000,000 sitting abroad that it has earned in its Singapore operations, it can bring that cash to the U.S., suffer 35% tax, and invest the $65,000,000 left over to earn $9,750,000 a year, pay 35% tax on that, and so net $6,337,500. Alternatively, it can invest the whole $100,000,000 abroad, earn $15,000,000 a year, and keep the full $15,000,000. Which would you do if it was your money?

Chasing jobs abroad this way has hurt the market power of American workers. Labor income as a share of total income has declined by about 10% since the 1970s, meaning that capital's share has increased by some 25%. Wages as a percentage of total Gross Domestic Product dropped from 54% in 1970 to under 44% now. You can see the impact of this loss of market power on different income groups in the details of the American wage statistics. Unskilled workers flatlined back in the late 1970s and then began to lose ground. Typical earnings for a full-time male high school graduate in 1972 were $45,000 (in 2003 dollars), but had dropped to $30,000 by 2005. Over time, this effect has worked its way up through the ranks of increasingly skilled segments of the workforce, reaching the professional class starting in the late 90s. Statistics compiled from census data by the National Center for Education Statistics show that real median incomes for males with bachelor's degrees or master's degrees peaked in 2001, those for males with professional degrees peaked in 2000, and those for males with doctoral degrees have been basically flat since 1997. Females, who still earn noticeably less than their male peers, followed a similar profile save that females with professional degrees peaked in 2005.

Politicians suggest addressing the decline of worker market power by drastically lowering tax on "small business". When they say this, they do not mean "small business" the way we mean it, the local plumber or small private manufacturing outfit. Instead, they are using "small business" to mean "anything that is not taxed as a corporation". Donald Trump, billionaire hedge fund managers, George Soros, etc. are all "small business", and what the politicians really mean is that they want to reduce the personal tax bills of rich campaign contributors to even lower percentage levels than they enjoy now. The data shows that real small businesses are not very responsive to income tax rates. Local businesses can only choose to make money and pay some tax or choose not to make money at all, and they rarely pick "not". Multinational corporations, on the other hand, have a different choice. They can make money from operations here, or instead make money from operations in Ireland or Switzerland. Tax them too much here, and the operations will go elsewhere. Taxes on multinationals harm the would-be employees of the corporations and of all the businesses that depend on them, from local suppliers to the lunch place that hopes to serve their workers. Taxes on multinationals directly affect the market power of workers.

The response of the Republican Presidential candidates is to suggest giving hundreds of billions of dollars a year to multinationals and rich individuals and spiking our already-high federal deficit. Mr. Trump would send the bill for this generosity to our grandchildren, while Mr. Cruz would divide it between our descendants and current middle-class consumers, replacing the corporate tax with a VAT-style tax that would be passed into the prices we pay. On the Democratic side, Ms. Clinton suggests doing basically nothing to address the problem, while Mr. Sanders would heavily tax the foreign earnings of U.S. corporations, which will accelerate the pace at which they are being acquired by foreigners. In the first decade of the millennium, all real growth in wage income in America accrued to employees of large corporations, while wages in smaller businesses declined or stayed flat. Multinational administration requires a lot of educated labor. The "top of the bottom", the skilled and educated workers who have been keeping the middle class alive, are largely the people who administer or serve corporate headquarters, and they are the people who spend their wages to allow retail, food, construction, and service industries to survive. Efforts to penalize corporations would destroy that group.

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There is an alternative. The Shared Economic Growth proposal was designed by international tax attorneys to make America the single most attractive location on the planet for high-value, high-wage operations, increasing demand for American workers and thus increasing middle-class pay. The four-page bill does this through a simple mechanism, collecting the corporate tax at the shareholder level at normal, progressive individual rates rather than at the flat 35% corporate rate, giving corporations a deduction to the extent they pay out their earnings as dividends. Under such a system, the best place for an American corporation to earn its money is here at home, where it can avoid suffering tax if it pays its money out to the shareholders or spends it on U.S. investment, a requirement that would reduce corporate power at the same time that it encourages corporate investment. The plan would decrease the deficit even before considering growth effects. Further, it is designed to rebalance our tax system to favor middle-class savers and retirees rather than the destabilizing wealthy speculators who are the prime beneficiaries of the current system. Even Ronald Reagan thought that our tax system was too skewed in favor of unproductive speculation rather than productive work, and he tried to reduce that bias. Those reforms were later undone, and things have since gotten worse. The Wall Street gamblers who gave us the 2008 financial crisis are back making low-taxed billions playing the same games today, while CEOs are encouraged to sit on cash and play along with speculation rather than letting money flow to productive investment. Shared Economic Growth would change all that, providing real reforms that reward productive enterprise, working people and responsible savers.

America can win the game of global economics and give market power back to its workers, or it can go forward with a rehashed version of its losing policies while the middle class languishes. So far the response of government has been to try to stimulate the economy by printing money rather than by increasing the economic power of the middle class and retirees. That path ultimately leads to a replay of Weimar Germany. The American people need to demand a better policy before that happens.

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Matt Lykken has been an international tax attorney for 30 years, and has been focused on corporate tax reform since living through the acquisition of Amoco by British Petroleum in a tax-influenced acquisition. All statistics given here are supported with citations in It's Not That Difficult: The Shared Economic Growth Solution to Tax Reform , available from the PACE Law Review at digitalcommons.pace.edu/plr/vol35/iss3/4/

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Matt Lykken graduated with honors from Harvard Law School and has been working as a tax attorney for 31 years. He began his career with the Office of Chief Counsel, I.R.S., and for the last 26 years has worked as an international tax planner and (more...)
 

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Shared Economic Growth: Tax Reform That Would Actually Work