Recently TJN writers were on the LSE blog explaining the economic folly of corporate tax cuts. For example:
"British corporations are awash with cash: according to Deloitte, non-financial companies held £731.4 billion in the third quarter of 2011, the highest ever. . . The U.S. is in a similar situation to the U.K., with corporates there sitting on an estimated US$1.7 trillion cash pile."
And the conclusion is that cutting corporate taxes is the equivalent of pushing on a string. But they are worse than that, because they are actually harmful. Corporate tax cuts take money from a sector that is investing (that is, government) and giving it to a sector that is letting it sit idle. Three weeks after we wrote that, the FT's influential Lex column stated, in response to the UK's budget:
"Four years after the financial crisis, companies globally are awash with cash: $1.7tn among US companies, €2tn in the eurozone, and £750bn in the UK. A really competitive tax regime would encourage companies to invest their cash, not just to grow it."
Rather a similar point, perhaps you'll agree. And we have Martin Wolftaking this point further on the same day:
"Vastly more dubious are the cuts in corporation tax, to be lowered to 24 per cent, with the aim of cutting it to 20 per cent. Zero-sum competition among governments to attract mobile headquarters cannot make sense. Nor is there any reason to suppose the fiscal and economic benefits will be large. Meanwhile, the reduction in corporate tax will encourage retentions over distributions, while doing nothing to raise investment. A far more sensible proposal would be to increase investment incentives and maintain — or even raise — headline rates."
We could not agree more. We can't claim credit for his saying this - he's said things a bit like this before, though perhaps not as strongly, and others have too - such as Joseph Stiglitz:
"[It is a myth] that lowering [the] corporate income tax rate across the board will stimulate investment in the United States. No evidence of that. … If you want to encourage investment, what you do is lower taxes on firms that invest and you raise taxes on firms that don't invest. You can restructure the taxes to provide incentives to invest."
Well, indeed. This isn't a new argument, but this does look a little bit like a consensus of the sensible emerging. There seems to be no real argument here - corporate tax cuts are a really, really foolish idea right now: exactly the wrong way to go. The UK, for instance, seems to be run by a ship of fools, with the deluded at the helm.
Read this, or this, or this, for more details on the corporate tax cut arguments.
What needs to happen now is that this message on corporate tax needs to spread far and wide. Journalists who interview corporate tax-cutting politicians need to put it to them, and persist in this line of questioning - then watch them wriggle.
Opposition parties can make huge mileage with this one. Why have they been so silent on this no-brainer?
NB: reposted from the Tax Justice Network blog with permission
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Is there any data setting out how much of this cash is due to banks holding cash to meet new Basel rules etc?
Not that I know of
But Apple did not need $100bn for that reason
No Apple did not but then again until recently they had never paid a dividend either. If they had, they wouldn’t have had such a cash pile.
John,
Basel III does not require banks to hold cash. It requires them:
1) to have a higher proportion of shareholders funds in relation to their asset base (risk weighted). These could be held as cash but as they are long-term funding I think that is unlikely. They are much more likely to be held as purchased securities.
2) to have sufficient readily-realisable liquid assets to meet their funding needs for 30 days. These liquid assets could include cash but are more likely to be gilts or US Treasuries
3) to have sufficient long-term funding in place to cover an agreed percentage of their long-term assets over a year (this is called the Net Stable Funding Ratio). Long-term funding includes customer deposits, which technically would be “cash”, and long-term wholesale funding and equity, which probably would not.
The ICB’s proposals for systemically-important UK banks have higher capital requirements than 1) above and a separate higher capital requirement for retail operations. This is still shareholders’ funds and retained earnings, though, so not necessarily held as “cash”.
Banks certainly are hoarding money at the moment, as are most corporations. But it is not really because of regulatory requirements: Basel III and ICB are not due for full implementation until 2019. It’s all to do with risk aversion, battening down the hatches and waiting for better times. The challenge for the Government is to find a way to get banks and corporations to invest their hoards. Cutting corporation tax in my view is very unlikely to achieve this. They need incentives to invest, not a reason to hang on to even more money.
One interesting response on the issue of Bank Capital was from Bob Diamond at Barclays, who in response to proposals that he might have to separate the casino wing of his bank into a ring fenced entity, said that this draw capital away from more traditional banking activities and could result in Barclays having less to lend to normal banking borrowers.
If you look at bank capital ratios you will see that overall they are now at levels in excess of whart they were before the crash – so that the capital is available to fund borrowing by the UK corporate and personal sections – the problems that exists is that in some cases there is a lack of demand, but where there is demand (e.g. smaller cash constrained entitities) certain banks like Barclays are clerly keener to use their capital to fund their casino operations (or investment banking as they prefer to call it) and the idiots in goverment have helpfully set targets for lending based upon gross rather net lending.
The Tories being the political wing of the City are not going to be the ones that stand up to them and make them return to traditional banking rather than operating casinos.
The mind boggles as to how Budget targets for future growth in business investment, on which the whole budget and deficit reduction is predicated, are meant to be met.
“If you look at bank capital ratios you will see that overall they are now at levels in excess of whart they were before the crash ”
However, they are at levels barely above where they need to be to meet the requirements of Basel 3. Barclays needs a minimum of 10% core capital and by the time the first part of Basel 3 comes in, it will be at 11% assuming no loan growth. So it doesn’t really have a huge amount of capacity to lend more and still comfortable exceed 10%.
“the idiots in goverment have helpfully set targets for lending based upon gross rather net lending. ”
How exactly do you propose having a target for net lending, are banks meant to stop their clients paying back loans? Simply not feasible. I always struggle with this idea that people have that on the one hand banks are greedy profit maximiser, but then argue that banks aren’t lending money to viable small business where they could charge 8-10%, but instead sit with money on deposit ot the BOE at 0.5%. Doesn’t sound like profit-maximisation to me. The simple fact is that many small businesses are not good credit risks or can’t afford the higher interest costs that higher cpaital levels demand.
You are wrong on the 11% core capital ratio under Basel 3 that will only apply apply when the countercyclical buffer is at its maximum which will only be at times of strong credit growth – which is hardly the case at present. If you look at how much of Barclay’s RWA are given over to its casino operations – I think you will find that there is quite a lot of capacity there for bank lending which supports the rest of the economy.
As for banks being targetted on net lending, rather than on measures that allow them to achieve tagets by churning (which is a practice well know in the City in other contexts) it is all a bit chicken and egg – because if the banks are not made to lend more into the UK economy then you can be pretty sure that the there will not be many profitable lending opportunities. I’m afraid this is an area where the markets are not working at present – and why a more macroeconomic view has to be taken and the banks need to be given a push to help get the economy started – particularly since they were the ones that made such a big contribution to it stopping in the first place.
We need to get to a position where banks are the servant of the economy rather than vice versa as has been the case for many years. On the other hand we could let the banks push all their spare liquidity into funding speculative asset price bubbles – since that is likely to produce quicker returns for the bonuses of investment bankers, and then allow the ordinary tax payer to pick up the pieces yet again?
Stephen,
You seem to assume that investment banking serves no useful purpose. I’m afraid you are utterly wrong. Investment banking is the main means by which publicly-quoted corporations obtain finance, either by issuing equity (IPO, rights issues etc) or corporate bonds. I’m sorry to use Wikipedia, but their definition of investment banking is reasonable:
“An investment bank is a financial institution that assists individuals, corporations and governments in raising capital by underwriting and/or acting as the client’s agent in the issuance of securities. An investment bank may also assist companies involved in mergers and acquisitions, and provide ancillary services such as market making, trading of derivatives, fixed income instruments, foreign exchange, commodities, and equity securities.”
In other words, the PRIMARY PURPOSE of investment banking is the raising of capital for customers. “Casino banking” it is not, and by calling it that you demonstrate your lack of understanding of this business. I think you are confusing investment banking with proprietary trading.
Bank lending is ALSO needed, particularly to support SMEs and higher-risk industries. But you can’t simply divert resources from investment banking to retail lending without cost. And SME lending is one of the highest-risk forms of lending: these companies do not have credit ratings or even, in many cases, a credit history, and loans to them generally require more capital than either mortgage lending or corporate bond purchase. We want banks to de-risk their balance sheets and make better use of their capital, don’t we? Increasing SME lending does not sit well with this objective. A government loan guarantee scheme for SMEs would in my view go a long way towards solving this problem. Wrecking investment banking to force banks to focus on retail lending would simply cause a different set of problems.
“When our households, our banks and our government are so indebted, raising the real rate of return on investment is the only sustainable route to prosperity.”
In June 2010 the OBR forecasts that accompanied his first Budget showed how this model would work in practice. After sluggish growth of just 1.4% in 2010, business investment in 2011 was set to soar by 8.1%. This would be followed by even more rapid growth in 2012, when it was forecasted to increase by only 10%”
http://shiftinggrounds.org/2012/03/osborne-rips-up-his-new-economic-model/