Tax competition, a form of
regulatory competition Regulatory competition, also called competitive governance or policy competition, is a phenomenon in law, economics and politics concerning the desire of lawmakers to compete with one another in the kinds of law offered in order to attract businesse ...
, exists when governments use reductions in fiscal burdens to encourage the inflow of productive resources or to discourage the exodus of those resources. Often, this means a governmental strategy of attracting
foreign direct investment
A foreign direct investment (FDI) is an investment in the form of a controlling ownership in a business in one country by an entity based in another country. It is thus distinguished from a foreign portfolio investment by a notion of direct co ...
, foreign indirect investment (financial investment), and high value human resources by minimizing the overall taxation level and/or special tax preferences, creating a
comparative advantage
In an economic model, agents have a comparative advantage over others in producing a particular good if they can produce that good at a lower relative opportunity cost or autarky price, i.e. at a lower relative marginal cost prior to trade. Comp ...
.
Scholars generally consider economic development incentives to be inefficient, economically costly, and distortionary.
History
From the mid 1900s governments had more freedom in setting their taxes, as the barriers to free movement of
capital
Capital may refer to:
Common uses
* Capital city, a municipality of primary status
** List of national capital cities
* Capital letter, an upper-case letter Economics and social sciences
* Capital (economics), the durable produced goods used f ...
and people were high. The gradual process of
globalization
Globalization, or globalisation (Commonwealth English; see spelling differences), is the process of interaction and integration among people, companies, and governments worldwide. The term ''globalization'' first appeared in the early 20t ...
is lowering these barriers and results in rising capital flows and greater manpower mobility.
Impact
According to a 2020 study, tax competition "primarily reduces taxes for mobile firms and is unlikely to substantially affect the efficiency of business location." A 2020 NBER paper found some evidence that state and local business tax incentives in the United States led to employment gains but no evidence that the incentives increased broader economic growth at the state and local level.
Examples
European Union
The
European Union
The European Union (EU) is a supranational political and economic union of member states that are located primarily in Europe. The union has a total area of and an estimated total population of about 447million. The EU has often been des ...
(EU) also illustrates the role of tax competition. The barriers to free movement of capital and people were reduced close to nonexistence. Some countries (e.g.
Republic of Ireland
Ireland ( ga, Éire ), also known as the Republic of Ireland (), is a country in north-western Europe consisting of 26 of the 32 counties of the island of Ireland. The capital and largest city is Dublin, on the eastern side of the island. A ...
) utilized their low levels of corporate tax to attract large amounts of foreign investment while paying for the necessary infrastructure (roads, telecommunication) from EU funds. The net contributors (like Germany) strongly oppose the idea of infrastructure transfers to low tax countries. Net contributors have not complained, however, about recipient nations such as Greece and Portugal, which have kept taxes high and not prospered. EU integration brings continuing pressure for consumption tax harmonization as well. EU member nations must have a
value-added tax
A value-added tax (VAT), known in some countries as a goods and services tax (GST), is a type of tax that is assessed incrementally. It is levied on the price of a product or service at each stage of production, distribution, or sale to the end ...
(VAT) of at least 15 percent (the main VAT band) and limits the set of products and services that can be included in the preferential tax band. Still this policy does not stop people utilizing the difference in VAT levels when purchasing certain goods (e.g. cars). The contributing factor are the single currency (
Euro
The euro ( symbol: €; code: EUR) is the official currency of 19 out of the member states of the European Union (EU). This group of states is known as the eurozone or, officially, the euro area, and includes about 340 million citizens . ...
), growth of e-commerce and geographical proximity.
The political pressure for
tax harmonization extends beyond EU borders. Some neighbouring countries with
special tax regimes (e.g. Switzerland) were already forced to some concessions in this area.
Criticism
Advocates for tax competition say it generally results in benefits to taxpayers and the global economy.
Some economists argue that tax competition is beneficial in raising total tax intake due to low corporate tax rates stimulating
economic growth
Economic growth can be defined as the increase or improvement in the inflation-adjusted market value of the goods and services produced by an economy in a financial year. Statisticians conventionally measure such growth as the percent rate of ...
.
Others argue that tax competition is generally harmful because it distorts investment decisions and thus reduces the efficiency of capital allocation, redistributes the national burden of taxation away from capital and onto less mobile factors such as
labour
Labour or labor may refer to:
* Childbirth, the delivery of a baby
* Labour (human activity), or work
** Manual labour, physical work
** Wage labour, a socioeconomic relationship between a worker and an employer
** Organized labour and the labour ...
, and undermines democracy by forcing governments into modifying tax systems in ways that . It also tends to increase complexity in national and international tax systems, as governments constantly modify tax systems to take account of the 'competitive' tax environment.
It has also been argued that just as competition is good for businesses, competition is good for governments as it drives efficiencies and good governance of the public budget.
Others point out that tax competition between countries bears no relation to competition between companies in a market: consider, for instance, the difference between a failed company and a
failed state
A failed state is a political body that has disintegrated to a point where basic conditions and responsibilities of a sovereign government no longer function properly (see also fragile state and state collapse). A state can also fail if the go ...
—and that while
market competition
In economics, competition is a scenario where different Economic agent, economic firmsThis article follows the general economic convention of referring to all actors as firms; examples in include individuals and brands or divisions within the sa ...
is regarded as generally beneficial, tax competition between countries is always harmful.
Some observers suggest that tax competition is generally a central part of a
government policy
Public policy is an institutionalized proposal or a decided set of elements like laws, regulations, guidelines, and actions to solve or address relevant and real-world problems, guided by a conception and often implemented by programs. Public p ...
for improving the lot of labour by creating well-paid jobs (often in countries or regions with very limited job prospects). Others suggest that it is beneficial mainly for investors, as workers could have been better paid (both through lower taxation on them, and through higher redistribution of wealth) if it was not for tax competition lowering effective tax rates on corporations.
The
Organisation for Economic Co-operation and Development
The Organisation for Economic Co-operation and Development (OECD; french: Organisation de coopération et de développement économiques, ''OCDE'') is an intergovernmental organization, intergovernmental organisation with 38 member countries ...
(OECD) organized an anti-tax competition project in the 1990s, culminating with the publication of "
Harmful Tax Competition: An Emerging Global Issue" in 1998 and the creation of a blacklist of so-called
tax haven
A tax is a compulsory financial charge or some other type of levy imposed on a taxpayer (an individual or legal entity) by a governmental organization in order to fund government spending and various public expenditures (regional, local, or n ...
s in 2000. Blacklisted jurisdictions effectively resisted the OECD by noting that several of the member nations also were
tax havens
A tax is a compulsory financial charge or some other type of levy imposed on a taxpayer (an individual or legal entity) by a governmental organization in order to fund government spending and various public expenditures (regional, local, or n ...
according to the OECD's own definition.
Left-wing economists generally argue that governments need
tax revenue
Tax revenue is the income that is collected by governments through taxation. Taxation is the primary source of government revenue. Revenue may be extracted from sources such as individuals, public enterprises, trade, royalties on natural resou ...
to cover debts and contingencies, and that paying to fund a
welfare state
A welfare state is a form of government in which the state (or a well-established network of social institutions) protects and promotes the economic and social well-being of its citizens, based upon the principles of equal opportunity, equitabl ...
is an obligation of
social responsibility
Social responsibility is an ethical framework in which an individual is obligated to work and cooperate with other individuals and organizations for the benefit of the community that will inherit the world that individual leaves behind.
Social ...
. Another argument is that tax competition is a
zero-sum game
Zero-sum game is a mathematical representation in game theory and economic theory of a situation which involves two sides, where the result is an advantage for one side and an equivalent loss for the other. In other words, player one's gain is e ...
.
Right-wing economists argue that tax competition means that taxpayers can vote with their feet, choosing the region with the most efficient delivery of governmental services. This makes the
tax base
A tax is a compulsory financial charge or some other type of levy imposed on a taxpayer (an individual or legal entity) by a governmental organization in order to fund government spending and various public expenditures (regional, local, or ...
of a state volitional because the taxpayer can avoid tax by
renouncing citizenship or
emigrating
Emigration is the act of leaving a resident country or place of residence with the intent to settle elsewhere (to permanently leave a country). Conversely, immigration describes the movement of people into one country from another (to permanentl ...
and thereby changing
tax residence
The criteria for residence for tax purposes vary considerably from jurisdiction to jurisdiction, and "residence" can be different for other, non-tax purposes. For individuals, physical presence in a jurisdiction is the main test. Some jurisdictio ...
.
In April 2021,
US Secretary of the Treasury
The United States secretary of the treasury is the head of the United States Department of the Treasury, and is the chief financial officer of the federal government of the United States. The secretary of the treasury serves as the principal a ...
Janet Yellen
Janet Louise Yellen (born August 13, 1946) is an American economist serving as the 78th United States secretary of the treasury since January 26, 2021. She previously served as the 15th chair of the Federal Reserve from 2014 to 2018. Yellen is t ...
has proposed a global
minimum corporate tax rate
The global minimum corporate tax rate, or simply the global minimum tax (abbreviated GMCT or GMCTR), is a minimum rate of tax on corporate income internationally agreed upon and accepted by individual jurisdictions. Each country would be eligib ...
, to avoid
profit shifting by companies to
avoid taxation.
See also
*
Tax exemption
Tax exemption is the reduction or removal of a liability to make a compulsory payment that would otherwise be imposed by a ruling power upon persons, property, income, or transactions. Tax-exempt status may provide complete relief from taxes, redu ...
*
Tax harmonization
*
Race to the bottom
Race to the bottom is a socio-economic phrase to describe either government deregulation of the business environment or reduction in corporate tax rates, in order to attract or retain usually foreign economic activity in their jurisdictions. While ...
References
External links
Harmful Tax Competition (EU DG for Taxation and Customs Union)''International tax competition: globalisation and fiscal sovereignty'' Rajiv Biswas, Commonwealth Secretariat, 2002,
International Financial Centres (IFC) Forum on tax competitionA competitive tax system is a better tax system, Nicholas Shaxson, Ellie Mae O'HaganTax Competition and Inequality – The Case for Global Tax Governance, Thomas Rixen, 2010Taxation, Productivity and Prosperity, Martin Wolf, Financial Times, 2012*
{{DEFAULTSORT:Tax Competition
Competition (economics)
Foreign direct investment
Tax policy