Wednesday 21 January 2015 8:00 pm

Tax competition is good for Europe: Don’t let Jean-Claude Juncker muddy the waters

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At the end of last week, the European Commission disclosed a preliminary finding that Amazon’s tax arrangements in Luxembourg could have constituted “state aid”. While Amazon has said that it had received no special treatment, this is not good news for the Duchy’s former Prime Minister Jean-Claude Juncker, now president of the Commission. Yet the implications of this investigation risk being far more serious than the fate of one European politician.

While the EU state aid investigation should be left to run its course without political interference, Juncker’s response has been to deflect questions about what he did and did not know by declaring his support for EU-wide tax harmonisation – in other words, forcing member states to have similar taxes. He hopes that his manoeuvres will allow him to survive a mooted European Parliament inquiry, given that tax harmonisation is an agenda long promoted by those in the Parliament who wish to see the EU take on more trappings of statehood.

But Juncker is not the only one seeking to muddy the waters. In pushing their agenda, pro-tax harmonisation MEPs have deliberately confused illegal tax evasion with everyday tax avoidance. For they believe that different tax rates imposed by member states encourage companies to manipulate the system in order to enjoy lower rates while doing business in higher-tax jurisdictions. There is a grey area of aggressive tax planning that must be tackled, and the UK has been leading the way in promoting more transparency, using sunlight as the best disinfectant.

But cracking down on multinationals playing cat and mouse with tax authorities can be achieved without harmonisation. National governments maintaining their freedom to set their own tax rates across the EU ensures that rates in different countries are competitive – not just with each other, but with other nations outside of the region. They also drive inward investment and job creation, which is crucial to the future of our economies.

Tax competition encouraged many of the new EU members from the former Soviet bloc to introduce flat taxes, from which they have greatly benefited. KPMG research shows that the average top rate of corporation tax fell by 10 percentage points between 1986 and 2009 in OECD countries. Without tax competition, those downward forces would be lifted and EU tax rates would be set at the level of the highest taxing country, like a convoy of speedboats that can only move as fast as the slowest sail boat.

Foreign investors do not owe Europe a living. They will invest in markets with the most competitive conditions, and taxation rules and red tape will be a critical factor in their decision-making. In a global economy, this cuts to the heart of the two schools of thought in the EU, between those that want our common market to encourage competition that makes us more globally competitive, and those who want to use the EU to build a Maginot Line around the continent.

Instead of harmonising and raising taxes, countries in the EU ought to be simplifying and lowering tax rates. Not because the EU tells them to, but because businesses would prefer to pay their money to Europe’s exchequers, rather than paying accountants to find loopholes to reduce their tax bills.

Some critics might say, with some justification, that we are not on the verge of seeing tax harmonisation in Europe. Not yet at any rate. However, the more that an idea is discussed at the highest levels, the more some people will see it as an acceptable policy to consider. It may be taboo in London, but it certainly is not taboo in Brussels and Strasbourg.

There is hope, however. Taxation remains a matter that can be vetoed by national governments in the EU, and in both the UK and Central Europe – countries that understand the benefits of tax competition – there is strong resistance.

Even if such a move were attempted in the Eurozone, it is highly unlikely that Ireland would ever give up sovereignty over its corporate taxation. Yet national resistance can never be taken for granted in the give-and-take of European decision-making, and supporters of harmonisation will seek to introduce it through the back door – for example, by harmonising the tax base as a first step. We must remain vigilant.

There is work to be done in addressing legitimate concern over aggressive tax avoidance. But EU tax harmonisation would throw the baby out with the bath water and undermine the very investment that Europe needs. Let’s not hang up the closed for business sign on Europe.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.