Economics teachers like to have a fun competition with their students to introduce them to game theory. It goes like this:
Everyone chooses a number between zero and 100, and the winner is the person whose choice is closest to two-thirds of the average choice. If you think about it, the winning pick can’t be higher than 67, so no one should pick above that. But then logic snowballs. If the class average is 67, then the winning choice will be two-thirds of 67. But if it is the average choice, you should choose two-thirds this number. etc If you assume that everyone else understands the game and you’re all trying to outsmart each other, you quickly go down to choice zero. It’s a race to the bottom.
A race to the bottom isn’t as fun when it involves international tax rules and you’re a country looking to collect taxes from multinational corporations. Each country wants to set its corporate tax rate lower than those of other countries; the country with the lowest rate receives a windfall of tax revenue from the companies that transfer their business, or at least their declared profits, to it. That is, until another country offers an even lower rate. The total tax revenue collected by all countries combined decreases with each iteration of the game. The theoretical limit is a tax rate of zero.
In reality, of course, only a few countries have zero corporate tax rates, but competition suppresses rates and drains tax revenue. “What countries are tired of is multinational corporations trying to game the system,” says Daniel Drezner, professor of international politics at Tufts University’s Fletcher School. “It is within the rights of countries to change laws to ensure that this is not the case.”
And changing the laws is exactly what they are trying to do. On October 8, many of the world’s most powerful countries reached an agreement on a global minimum tax of 15% under the leadership of the Organization for Economic Co-operation and Development. The new minimum is to apply to businesses with annual revenue above €750 million (or $868 million at the current exchange rate); If approved and fully implemented, it will generate approximately $150 billion in additional global tax revenue per year.
The deal is expected to be finalized this week in Washington by Group of 20 finance ministers, signed by national leaders at the end of this month and fully activated by 2023.
One argument against a global minimum tax is that it is a way for rich countries to gang up on corporations and extract excessive taxes to fund their expensive welfare states. That is what some conservatives claim.
Another argument against a global minimum is that it could hurt poor countries with low tax rates. A poor country that does not attract multinationals might want to set its corporate tax rate very low to attract investment, and the global minimum prevents this. But Drezner says that in practice, many countries with very low or no corporate tax are not poor countries but comfortable tax havens, such as Jersey, Guernsey, Bermuda and the British Virgin Islands.
Another concern is that the global minimum tax could – against all odds – reduce investment in wealthy countries like the United States. Juan Carlos Suarez Serrato, an economist at Duke University, found in a 2019 paper that eliminating U.S. multinationals’ access to tax havens increased their effective tax rates (which, of course, was somewhat so the goal). “Companies affected by the policy have responded by reducing investment and domestic employment,” he said. wrote.
In June, as the deal took shape, the University of Chicago Booth School of Business’s Initiative on Global Markets asked top U.S. and European economists what they thought. A majority on both continents thought it would “limit the benefits to companies of shifting profits to low-tax jurisdictions” without distorting their investment choices in economically inefficient ways. Smaller majorities were convinced that this was achievable. That part remains to be seen – it’s one thing to sign an agreement, but quite another to implement it.
One of the economists interviewed, Pol Antràs of Harvard, told me by email that in an ideal world, each country would set a corporate tax rate according to its “needs, preferences or constraints”. But, he wrote, “this first-best may not be attainable at all, or may be subject to a ‘game’, so setting an overall minimum is a way (albeit a second-best way) of limit the “race to the bottom.”
Sometimes second best is the best we can hope for.
The US consumer price index rose in September from a year earlier, according to forecasts by Credit Suisse economists. That would be tied with June and July 2021 for the highest annual inflation since 2008. The Bureau of Labor Statistics is expected to release official data on October 13.
quote of the day
“God is my witness, I will never be hungry again!
— Screenplay “Gone with the Wind” (1939)
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