Much is riding on this weekend’s summit of advanced economies, which will be hosted by British Prime Minister Boris Johnson in Cornwall, England.
While the leaders will produce flowery statements that declare unity on key problems and call for concerted actions to fix them, the most important deliverable will be their agreement to promote global corporate tax reform.
There is a long way from a G7 declaration to changes in national tax laws, but a show of unity on this contentious issue would create momentum for reform and remind the world of the G7’s value.
Global tax rates for corporations have been falling for decades. According to one study, the average corporate tax rate globally has fallen by more than half over the past three decades, from 49% in 1985 to 24% in 2018. That matches data from the Organization for Economic Cooperation and Development, which shows that the average corporate tax rate in advanced economies has been reduced from 32% in 2000 to about 23% in 2018. Japan’s corporate tax rates reflect that trend, falling by about a quarter since 2003.
Much of the decline reflects efforts by smaller countries like Ireland or the Netherlands to lower their tax rates to entice large businesses to establish headquarters in them. This is especially attractive to companies with significant revenues from intangible assets like intellectual property, which does not require a substantial presence to administer.
This has given rise to what Nobel Prize-winning economist Paul Krugman calls “leprechaun economics,” a phrase coined when Apple was forced to declare revenues previously stateless to have been generated in Ireland: A legal change of residency led to a 25% increase in Irish GDP. Globally, as much as $700 billion in taxes from the world’s largest companies found its way to tax havens in 2017.
This arrangement is good for companies, as it swells their bottom line, and the countries that gain tax revenue. It is not so good for governments that lose revenue that would otherwise be available for social services or other needs; instead they either go without or find other means to raise funds — which often burdens individual taxpayers.
Governments have debated for decades how to reverse that decline. Agreement was elusive until last week. In London, G7 finance ministers agreed to set a floor of 15% on taxes paid worldwide by multinational corporations. An internationally agreed floor, U.S. Treasury Secretary Janet Yellen explained, “would end the race-to-the-bottom in corporate taxation, and ensure fairness for the middle class and working people in the U.S. and around the world.”
Agreement should be easy since all G7 countries already have corporate tax rates above 15%. Even an administration like that headed by Donald Trump, who always favored lower corporate taxes, should have been able to conclude a deal.
But European governments complain that U.S. tech giants avoid any tax on digital revenues generated in their country and have threatened to impose a digital tax on those sales. The Trump administration threatened retaliatory tariffs if they did. European authorities also feared that a minimum tax that did not account for how and where revenues were generated would leave them out, reasoning that U.S.-based companies would pay U.S. bills and stiff other governments.
The Biden administration position is that countries should have the right to tax some businesses’ profits where they are generated, even if that means that the U.S. will give up some of its taxing rights on those profits. The deal agreed in London is a grand bargain that enables countries to tax 20% of the profits of “the largest and most profitable multinational enterprises” that have profit margins of at least 10%. There is a formula to be worked out that will establish exact sums.
That deal has been hailed as a breakthrough. Unfortunately, nothing is guaranteed. The G7 agreement is helpful, but it is only a first step. It must be adopted by the G20 which meets later this summer, and then by the OECD, where 139 countries are debating a global agreement.
Difficulties are already appearing. The U.K.’s chancellor of the Exchequer, Rishi Sunak, is reportedly seeking a carve-out for financial companies headquartered in London. It’s bad form for the host of the meeting to look for exceptions to deals it has brokered.
Opposition will be especially strong in the U.S. Congress, which must ratify any change to international tax treaties. Republican senators have denounced the agreement as “crazy,” “wrong” and “anti-competitive, anti-U.S. and harmful for us.” Smaller countries that depend on their tax haven status may also object, although there are ways to reduce the significance of the objection: A minimum tax would merely add another layer of taxation that is inescapable.
There is another benefit from this agreement: a reminder that multilateralism among the world’s richest countries is still possible and still matters. The G7 has been derided for being a photo opportunity that does little for global governance. Its members once dominated the international economy, but that is no longer. G7 countries controlled 50% of global GDP in 1970; in 2019, that number dropped to 30%. Today, the primary instrument of economic governance is the G20.
The G7 could be relevant, however, as an avatar for democratic and value-oriented leadership and some leaders see the institution evolving in that direction. But whatever form it takes, the G7 must first demonstrate that it matters, that it can deliver more than soaring rhetoric and produce real, tangible results.
The Japan Times Editorial Board
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