The most important challenge facing the British economy today is finding ways to increase productivity growth. So it was particularly disappointing to hear shadow chancellor Ed Balls confirm yesterday that Labour would increase corporation tax to 21 per cent if it wins the General Election.
Even worse, instead of then pledging to keep the tax rate at 21 per cent, Labour has stated that it will ensure Britain has the lowest corporation tax rate in the G7. It may sound good, but given that Canada’s equivalent tax is the nearest at 26 per cent, this could see the party increase corporation tax by another five percentage points. Such a policy would damage productivity, go against global trends, and ultimately destroy jobs – especially if it’s just one part of a programme of tax rises.
Corporation tax rates have been falling globally for decades. In 1981, the average rate across the OECD was 48 per cent. It has now plummeted to 24 per cent. In the UK, the decline has been even more stark, with the rate dropping from highs of 52 per cent to just 20 per cent today.
Such falls have partly been driven by the increased mobility of businesses and profits in the global economy today, with tax competition between nations placing further downward pressure on rates. There has not been an increase in corporation tax in the UK since 1973, and not a single increase across the G7 countries since 1997. So if Labour does put up Britain’s corporation tax rate, it would send a terrible message to the world that our country is waging a lone war against successful businesses.
It may not even raise more money. Despite the reduction in the UK’s main rate of corporation tax since 2010 from 28 per cent to 20 per cent, revenues have remained remarkably resilient. In 2013-14, onshore corporation tax receipts (excluding the volatile North Sea oil and gas sector) were £35.7bn compared to £35.3bn in 2010-11. In the year so far, onshore corporation tax receipts have been 10 per cent higher than over the same period last year – despite a further two percentage point reduction in the rate. The simple truth is that higher taxes do not always lead to higher revenue.
Worryingly, Labour seems willing to endanger growth and jobs in the name of higher taxes. Higher corporation taxes ultimately mean less retained profits, which in turn means less investment, less innovation and reduced growth. The UK’s investment share of GDP lags behind other developed economies, and there are significant skills gaps which need to be filled. By reducing the funds available for companies to spend on new technology or in-work training, Labour will only aggravate those problems. The academic literature and business case studies all point to higher corporation taxes leading to reduced investment and reduced productivity growth.
Companies also use their retained profits to fund expansion, using this money to pay new employees, for example. So higher corporation taxes ultimately mean less money for business growth and reduced employment growth too. In a recent briefing note for the Centre for Policy Studies, we modelled the employment effects of increasing corporation tax by one percentage point each year for four years. We estimate that, if Labour follows that course, total employment could be reduced by about 96,000 by 2018-19.
Furthermore, raising the corporation tax rate would reverse one of the current government’s few successes in tax simplification. By cutting the main rate to 20 per cent, both marginal relief and the small profits rate have been abolished. The result is the end of the dead-weight loss of administrative costs for the Treasury and fewer unnecessary compliance costs for businesses. Reintroducing the main rate at 21 per cent would be absurd in this context.
Labour seems to have fallen back in love with tax rises. The party is proposing to increase the top rate of income tax to 50 per cent – a policy which will raise next to nothing, of course. It also wants to reintroduce the stamp duty reserve tax, enact new taxes on expensive homes, and levy new payroll taxes on the financial sector.
This reliance on tax rises, either for reasons of equity or for deficit reduction, is deeply misguided. It will do nothing to increase the growth potential of our economy, and no government has been able to raise more than about 36 per cent of GDP in taxation in any case. Britain is taxed enough as it is.