Anheuser-Busch Briefing Center, U.S. Chamber of Commerce
1615 H St NW, Washington, D.C.
Registration and Breakfast: 8:00 a.m.-8:30 a.m.
It’s said the grass is always greener on the other side of the fence, but what about the other side of the Atlantic? In this series, we are looking at the different approaches the United States and European Union have taken in the aftermath of the global recession, the former focused on spurring enterprise, the latter on austerity measures.
While business owners in the United States lament tepid growth and challenges to accessing capital and meeting regulatory burdens, from the European perspective, America is booming. The U.S. economy is expected to see 2 percent to 3 percent growth this year, which is lower than the growth levels experienced after past recessions. Yet, in Europe, not one major economy will see more than 1 percent growth in 2012, and about half of Eurozone economies will shrink.
The most recent purchasing managers indexes (PMIs) show the Eurozone’s private sector is in decline. While formerly expected to reach a Market PMI of 49.3 in April, Europe’s PMI actually fell this month to 47.9, hitting a five-month low. There are many reasons why Europe’s businesses are struggling, one of which is the toll high taxes have taken on European tax payers. There are also some large corporate tax rates in Europe, a challenge with which American businesses are all too familiar.
Corporate tax rates vary by country within the EU, but the average hovers around 23 percent. While the EU works collectively to compete in a globalized world, not all countries have harmonized tax rates. Ireland boasts a minuscule 12.5 percent tax rate while Spain has a 30 percent rate. Yet, as austerity takes its toll, income taxes in Europe are soaring. It seems in some cases, European governments favored higher value-add tax rates and labor taxes over high corporate taxes, and this is a continuing trend.
Take France as an example. In the current presidential elections, Francois Hollande (a member of the Socialist party) beat current-President Nicolas Sarkozy in the first round of voting. If Hollande wins the presidency, he has pledged to eliminate tax cuts, reduce government salaries and implement a 75 percent tax on annual incomes over 1 million Euros. Higher taxes and lower salaries might mean more money for the government, but the other side of that coin is that the taxpayers have increasingly smaller amounts of money to spend on goods and services.
Meanwhile in America, the U.S. corporate tax rate is immense. On April 1, 2012, Japan lowered its corporate tax rate by 5 percent, making America’s 35 percent rate the highest in the world. Include state taxes, and the median rate is just under 40 percent. That is a huge amount of revenue businesses must fork over to the government instead of reinvesting in the company.
The Higher Tax Paradox
With these fiscal straits, both Europe and the United States find themselves in catch-22 situations. Europe desperately needs growth to rebuild its economy and start bringing its debt down to manageable levels. Though many European countries have a lower corporate tax rate, aggressive austerity moves have meant higher income taxes. More taxes mean less spending, which hurts sales and causes firms to lay off workers, in turn diminishing demand and shrinking the economy. A weak economy leads to smaller tax revenue, and therefore, a growing budget deficit, which spurs more austerity.
In the United States, demand is recovering, manufacturing is improving, and growth is occurring, albeit at a slower rate than any of us want. Yet, with high corporate taxes (plus the unruly mass of burdensome and costly regulations), companies have less money to reinvest in the business, which hurts growth and hiring. America’s growth rate is hard-pressed to rise much further unless companies can expand and compete on an international level, bringing the all-important job growth that could actually increase federal tax revenues.
Is this a Goldilocks and the Three Bears situation, where there is an optimum balance somewhere between Europe’s high income taxes and high U.S. corporate taxes? In truth, neither tax environment is good for business, and the additional challenges businesses face compound the problem.
Lessons for Legislators
Approaches to economic recovery on both sides of the Atlantic aim for the same end – lower debt, job growth and stronger economies – but they go about it in very different ways. As such, the challenges faced are quite different. High corporate tax rates do take a toll on businesses, but so too do the kind of costly and unpredictable regulations that have plagued many U.S. businesses in recent years. What is more, the United States lacks enough access to employees with the right level of skills needed in today’s market. Garnering capital needed to start and grow a business has also been difficult for America’s private sector.
Europe faces different challenges, unique to its circumstances. While some Eurozone countries were prudent in taking on debt and balancing deficits (such as Germany), others (like Greece, Spain and Italy) borrowed and spent with abandon. Yet, because these countries share the same currency, they are limited in the corrective measures they can take to address the financial peril of some and stronger standing of others. Further, there are challenges for businesses in accessing capital and in the public perceptions of entrepreneurs.
The challenges facing private sectors in Europe and America may be different, but approaches to taxing income and businesses do offer one clear lesson – high corporate tax rates and high income taxes hurt business and economic growth. America’s lawmakers and elected leaders are debating this issue now. The so-called Buffett Rule, which would have put a 30 percent tax rate on people earning more than $1 million a year, recently failed to pass the Senate. The bill is dead, but the specter of higher income taxes is still alive as America heads into the 2012 elections. There are multiple other tax reform proposals on the legislative table, all of which will feed the debates over the coming months.
There are myriad issues that make up today’s difficult business environment. America and Europe have found that high taxes (be they on businesses or incomes) do not lead to the kind of economic growth both are seeking. The key insight is that higher taxes might mean more government revenue in the short term, but that revenue will not increase so long as businesses struggle to grow and hire.
Given this, why do political leaders on both sides of the Atlantic continue to champion tax increases as an effective approach to reducing debt and increasing growth? It is a good question, but neither the United States nor Europe has a good answer.