We often hear North Carolina politicians talk about competing with other states. One area in which we are losing the competition is tax policy. That’s the assessment of Scott Hodge, president of the Tax Foundation in Washington, D.C. Hodge recently spoke to the John Locke Foundation’s Shaftesbury Society on the theme, “Falling Behind: The Importance of Tax Competition in North Carolina and the Nation.” He also discussed that topic with Mitch Kokai for Carolina Journal Radio. (Click here to find a station near you or to learn about the weekly CJ Radio podcast.)
Kokai: How are we falling behind?
Hodge: You’re falling behind by standing still, much like the United States in the global tax competition. Tax competition is running rampant across the globe, and country after country has been slashing their, in particular, corporate tax rates for the last two decades, while the United States has actually been standing still. And every day that we stand still, we could fall further and further behind in this global tax competition, which is a problem, because we now have a global economy. Capital is extremely mobile. Our workers aren’t. So, as capital flees to the lowest tax country, whether it’s China or Poland or Ireland or Slovakia or Malaysia, we fall further and further behind.
Our workers are less competitive globally, and our companies are less competitive globally, and that ultimately redounds back to the United States economy, overall, making us poorer in a way, as a result.
Kokai: I think some people will hear this and say, “All right, I can understand the importance of competition, but I’d much rather be in the United States than Poland today.” Why is this competition important?
Hodge: It’s about capital, jobs, and productivity. Right now, we know from a lot of economic research that capital is extremely mobile. It can flow across borders in a heartbeat. We as workers can’t. So the real economic burden of corporate taxation ultimately falls on workers. In fact, the economic research is showing that as much as 70 percent of the overall economic burden of corporate taxation falls on workers, through lower wages and lower productivity. Ultimately, that means lower standards of living.
So in countries that have dramatically slashed their corporate tax rates, they’ve seen a faster increase in the wages paid to workers and their overall quality of life. In countries that have stood still, or actually raised their corporate tax rates, they’ve seen wages grow at a slower pace. Productivity is slower. Innovation is slower. All of the things that we associate with a better quality of life happen slower. So we are consigning our workers and our overall economy to a slower pace of growth because we are doing nothing to make ourselves more competitive.
Over the last couple years, we’ve seen over 50 major countries cut their corporate taxes, including our major competitors. We have the second-highest corporate tax rate on Earth, second only to Japan. Meanwhile, Great Britain has cut their corporate tax rates, Germany, Spain, China now has a corporate tax rate that’s almost 15 percentage points lower than the U.S. rate, and it’s no wonder that some of those economies are doing gangbusters. And the workers there are more productive, and they’re going to be stiff competition in the future.
Kokai: Now we know here in North Carolina we’ve seen — in the past few months — unemployment climb into the double digits. Are the unemployment issues that we’re seeing in North Carolina, and the rising rates across the nation, tied into this whole idea of the flight of capital?
Hodge: There are a lot of factors that go into all of this. Obviously, the banking situation is one, and the fact that Americans right now, and especially in the business community, are nervous. And so they’re not hiring. They’re laying off. They’re trying to get ahead of this problem. But certainly, taxes do play a part [in] this, especially at the margins, and we know that certain states have made themselves uncompetitive by doing nothing. North Carolina is one of them, and if we look at various indices that we have at the Tax Foundation, we can see that both the structure and the tax burden here is not competitive — not only not competitive regionally, but not competitive nationally or globally.
And that’s what’s increasingly important is that you have to understand that you are not just competing against your immediate neighbors anymore. You are competing in this global environment because capital can move so quickly, but your workers can’t. Remember they are the ones that are stuck here. They’re the ones that are reliant on investment for that job, for that paycheck. And if that capital flees, like sometimes it has to do, to a more competitive situation, your workers lose out.
Kokai: A business is thinking about moving its operations, or expanding its operations, or a new entrepreneur is thinking about where to start a business, where to fund some new business, and he looks at the United States and looks at the tax rates here. What are some of the worst things he sees?
Hodge: One of the wonders of the United States is the fact that we have 50 states. We have 50 laboratories for not only democracy, but tax policy. When the Tax Foundation looks at states, we look at both the tax burden, but also the composition of the tax system, and we have what we call the Business Tax Climate Index. The states that are at the top of the list of the Business Tax Climate Index are states that do without one of the major taxes, such as a personal income tax, as Florida does, Tennessee, and others. Or corporate income tax, as Nevada does not. Wyoming [and] Montana don’t have corporate income taxes. Or some states don’t have a sales tax.
The states that are the worst, like the New Jerseys, the New Yorks, the Connecticuts, the Californias, are the states that not only have all the major taxes, but they have really high rates. And they have become, essentially, the France of the United States. They are essentially making themselves uncompetitive, making themselves bad business climates, making themselves really economic wastelands. …
One of the problems with these states is that they’re almost chasing their tail. California is a great example, where every year, they’re trying to jack up those rates. We’re just going to have another millionaire surtax, or another high tax rate on the rich, and what they’re doing [is] taxing the most volatile income sources, and the sources of income that are most readily — or most easy to flee the state. Like capital income, dividends, corporate income, etc. And so, by every year jacking up these rates, they are making their economy weaker and weaker and weaker and weaker, which means that it doesn’t generate the tax revenues they need to pay for government services, and they get into this vicious cycle.
New York is about to do the same thing. New Jersey is about to do the same thing. They seem to be rivaling each other on who’s going to have the highest tax on millionaires. Well, soon enough, you’re not going to have enough millionaires to tax.
Kokai: If we don’t do anything about competitiveness of the U.S. tax system, or the state’s tax system over the next 10, 20, 30 years, where will we be?
Hodge: We’ll be behind. We’ll be behind, looking at everyone else’s back, as they’re racing forward, becoming more productive. You know, we worry about competition from China, because it’s the largest — one of the largest, and fastest-growing economies out there — but it’s the small guys out there that are trying to compete, using lower tax policy, and that’s the Polands, and the Irelands, and the Czech Republics, and Malaysias. All of those countries are trying to lure jobs, investment, and capital away from the high-tax countries, like the U.S., and we’re going to keep falling behind unless we do something quickly. Time is running short, and they’ve got the solution, and it’s time for us to pay attention.