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Home Publications Blogs Beat the Press Changes in Tax Codes Versus Changes in the Value of the Dollar: The Arithmetic of Competitiveness

Changes in Tax Codes Versus Changes in the Value of the Dollar: The Arithmetic of Competitiveness

Friday, 10 December 2010 05:29

The NYT tells us that cutting corporate taxes is:

"a way to address warnings by American business that corporate tax rates and the costs of complying with the tax code are cutting into their global competitiveness."

Corporate profits are equal to about 16 percent of the value of output in the corporate sector. Businesses pay roughly a third of their profits in taxes, which means that taxes are equal to about 5 percent of the value of output. If taxes were reduced by 20 percent, a very large tax cut, then this would reduce the cost of doing business in the United States by 1 percent relative to foreign countries.

Suppose the dollar falls by 10 percent against other currencies. This would reduce the price of goods produced in the United States by 10 percent relative to goods produced elsewhere in the world, or ten times as much as the boost to competitiveness that businesses would receive from even a very large reduction in tax rates.

It is understandable that businesses would claim that cutting their taxes is important for U.S. competitiveness. People often make false claims in order to enrich themselves. However, newspapers are not supposed to simply accept such claims as being true and present them to their readers this way.

Comments (6)Add Comment
Stupid Liberals Don't Understand Competition and Pareto Efficiency, Low-rated comment [Show]
The Tax Cut Deal Stinks
written by Ron Alley, December 10, 2010 6:29
President Obama's tax cut deal with the Republicans just doesn't pass the smell test. A majority of the Democrats in the House, and some in the Senate, have denounced the deal. The article you discuss shows that Obama intends to put himself in substantially the same position (vis-a-vis Congress) on tax reform as on healthcare reform. Unfortunately he will be dealing with a Republican majority in the House. The best result he can hope for will be ineffective, bloated legislation laden with perks for every corporate special interest that funded the Republican campaigns in 2010. President Obama will be forced into speaking on wonkish issues which voters don't understand, Voters will be put off by the President's fascination with the President's lack of concern with immediate issues. There is no fight in President Obama and, more likely than not, there will be no President Obama in 2013.
written by Merijn Knibbe, December 10, 2010 12:39
I always thought profit were costs only in the accounting sense, showing up on the debet side of the profit and loss account but no part of cost price.

And according to the neo-classical textbooks, competition works perfect when profits dwindel to zero...
Real Tax rate
written by McDruid, December 10, 2010 5:24
Since the effective tax rate is more like 25% according to the GAO, the effect of a tax cut would be even less.

But I don't understand how a reduction or increase in profit would affect competitiveness. Supposedly a business would maximize profit regardless of what percentage was taxed. The only one concerned about taxes would be the shareholders. So the only effect would be to reduce shareholder interest in investing in the US.
Prove it
written by gj, December 10, 2010 8:04
"A very large tax cut that reduces the cost of doing business by one percent is a Pareto Improvement. It makes everyone better off without making anyone else worse off, by reducing cost, increasing global competition, raising more tax revenue to reduce the deficit and produces more jobs with the added spending. "

The problem is that this assumes quite a lot. Simply declaring that such a tax cut is a Pareto improvement doesn't mean it is. There are plenty of people -- even economists! -- who'd disagree and might even suggest that the loss of tax revenue moves us away from a Pareto efficient situation.
written by Ralph Musgrave, December 11, 2010 1:10
Raised taxes on corporate profits reduces the post tax rewards for entrepreneurs. Assuming the relative rewards for entrepreneurs and employees are optimimum before the tax change, then pre tax rewards for entrepreneurs will have to raised relative to rewards for employees in order to revert to the optimum. It really does not matter what way this “reversion” takes place. For example if it’s done by raising entrepreneurs’ remuneration in dollar terms, that is inflationary, which reduces competitiveness. But letting the dollar fall relative to other currencies takes care of lost competitiveness. Alternatively, the reversion might take place partially as above, i.e. upping entrepreneurs’ rewards, and partially by restraining wage increases for a year or two. In this case the dollar price of U.S. exports might be unaffected, so there’d be no change to competitiveness.

Storm in a tea cup.

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.