Reading Comprehension

The phenomenon described, with varying emphasis, as 'international tax competition' — the tendency of countries to lower their corporate tax rates in order to attract investment from elsewhere — has been a feature of the world economy for several decades. The trajectory of headline rates across major economies has been broadly downward over the period: rates that were typical in the 1980s would, in 2020, be regarded as high by international comparison, and the rates that count as competitive today were almost universally regarded as low when first proposed.

The defensible-sounding version of the phenomenon treats it as a healthy discipline. Countries with poorly designed tax codes are punished by capital flight; countries with well-designed codes are rewarded. Governments that would otherwise have set wasteful or distortive rates are constrained by the discipline of having to attract internationally mobile investment. The reasoning has some force in specific cases and considerable force as a rhetorical device. Its weakness is that it treats the discipline as a one-way movement, downward, and offers no account of where the equilibrium ends if every country follows the same logic.

The harder analysis treats the phenomenon as a coordination problem of a recognisable kind. Each country, considered alone, can rationally cut its rate to attract investment from neighbours; if all countries do this, the result is a system-wide reduction in revenue that no individual country chose, with the burden of replacing the revenue falling on factors — labour, consumption — that are less mobile than capital. The countries collectively would be better off if they could agree not to undercut one another, but each country, in the short term, has an incentive to defect from any such agreement. The familiar shape of the problem has been recognised since at least the 1980s.

The recent attempts at international agreement — minimum tax rates negotiated through the OECD, common standards for what constitutes a corporate profit in a given jurisdiction — should be read in this light. They are not a curiosity or a triumph of multilateralism for its own sake; they are an attempt to convert a familiar coordination problem into a familiar coordination solution. Whether the attempts succeed is, at this writing, uncertain. What is less uncertain is that the absence of such attempts would not be a state of healthy discipline but of accumulated revenue loss whose costs fall on those least able to escape them.