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Why lower corporate tax rates won't help the U.S.

February 23, 2012: 10:31 AM ET

Pushing the right buttons

Studies suggest that lower tax rates won't boost corporate investment or the economy.

On Wednesday, when Obama announced his plan to revise the corporate tax code and lower the top rate companies pay, he cited the fact that in many other developed nations corporations pay less. It's a familiar point. Republicans make it all the time. The buzz word is competitiveness. And people on both sides of the political isle seem to be making the case that our tax rate no longer is, and needs to be lowered. But lost in this agreement over the fact that our tax rates are higher than other countries is whether this matters. It may not.

There appears to be little evidence that the U.S.'s relatively high corporate tax rate is holding the economy back. Dean Baker, co-director of the liberal leaning think tank Center for Economic and Policy Research, points out that the stated corporate tax rate has mostly been the same as it was since the early 1990s. In fact, due to recent temporary tax cuts, the effective corporate U.S. rate is considerably lower today than it was in the late 1990s, when the economy was growing much faster.

One common argument is that high tax rates cause companies, both U.S. and foreign, to invest elsewhere. But in a 2010 study Steve Fazzari of Washington University looked at thousands of companies and found that taxes really don't have that much impact on corporate investment. What matters most to companies is the cost of capital, which dictates how large a return companies will make when they, for example, open up a new plant. Taxes make up a very small portion of that. "GE would be happy, but whether it actually does more investing, I don't think so," says Fazzari. He says having a lower tax rate than other countries might drive some companies to invest in the U.S. rather than elsewhere, but Fazzari thinks even that effect would be small.

The corporate tax 'shell game'

Even some companies think the emphasis on taxes is misplaced. Alan Tonelson, a research fellow at the U.S. Business and Industry Council, says that while the members of his organization would welcome a tax cut, there are other things that are more important to boosting American business. He thinks a better trade policy with China, for one, would help U.S. companies more than lower taxes. "Tax law changes are often seen as a panacea for manufacturing and indeed the entire economy, but there are many more factors that have a much larger affect," says Tonelson.

The Corporate Tax Myth

The one argument for lowering the tax rate, and removing loopholes, is that it may lower economic waste. Companies spend tens of billions of dollars a year putting together their returns, and trying to pay the least they can. Even Baker agrees, as do many liberals, that having a top rate that no company actually pays is silly. For that reason alone, he thinks lowering the top tax rate makes sense. But the question remains whether companies would actually fire all their accountants and tax consultants if the government were to revise the tax code. Companies are always going try to pay as little as possible. In fact, trying to hack away at less permeable tax code might create more waste not less.

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About This Author
Stephen Gandel
Stephen Gandel

Stephen Gandel has covered Wall Street and investing for over 15 years. He joins Fortune from sister publication TIME, where he was a senior business writer and lead blogger for The Curious Capitalist. He has also held positions at Money and Crain's New York Business. Stephen is a four-time winner of the Henry R. Luce Award. His work has also been recognized by the National Association of Real Estate Editors, the New York State Society of CPA and the Association of Area Business Publications. He is a graduate of Washington University, and lives in Brooklyn with his wife and two children.

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