It is a pity that The Economist, which used to be a sensible – indeed, excellent – newspaper, has fallen to such depths that I rarely read it. Here is a recent example, penned by “Buttonwood”:
It is a standard conservative argument that taxes on companies end up being taxes on everyone, since they will be passed on to consumers in the form of higher prices. But of course, it works the other way round; cuts in benefits for the poor, on in public sector payrolls, lead to lower demand for the goods and services that companies produce.
Buttonwood, “Democratic deficit”, Buttonwood’s notebook, 5 May 2010.
The writer is author of The Economist‘s column on financial markets.
Buttonwood’s analysis is flawed and incomplete. Everyone – producers and consumers alike – benefits from the stimulus of tax cuts and government spending only in times of recession and high unemployment. In normal times the standard argument applies, although it is somewhat more complex than assumed by Buttonwood. A full explanation can be found in any basic textbook, such as Greg Mankiw’s popular Principles of Economics:
Who Pays the Corporate Income Tax?
The corporate income tax provides a good example of the importance of tax incidence for tax policy. The corporate tax is popular among voters. After all, corporations are not people. Voters are always eager to have their taxes reduced and have some impersonal corporation pick up the tab.
But before deciding that the corporate income tax is a good way for the government to raise revenue, we should consider who bears the burden of the corporate tax. This is a difficult question on which economists disagree, but one thing is certain: People pay all taxes. When the government levies a tax on a corporation, the corporation is more like a tax collector than a taxpayer. The burden of the tax ultimately falls on people—the owners, customers, or workers of the corporation.
Many economists believe that workers and customers bear much of the burden of the corporate income tax. To see why, consider an example. Suppose that the U.S. government decides to raise the tax on the income earned by car companies. At first, this tax hurts the owners of the car companies, who receive less profit. But over time, these owners will respond to the tax. Because producing cars is less profitable, they invest less in building new car factories. Instead, they invest their wealth in other ways—for example, by buying larger houses or by building factories in other industries or other countries. With fewer car factories, the supply of cars declines, as does the demand for autoworkers. Thus, a tax on corporations making cars causes the price of cars to rise and the wages of autoworkers to fall.
The corporate income tax shows how dangerous the flypaper theory of tax incidence can be. The corporate income tax is popular in part because it appears to be paid by rich corporations. Yet those who bear the ultimate burden of the tax—the customers and workers of corporations—are often not rich. If the true incidence of the corporate tax were more widely known, this tax might be less popular among voters.
“Corporate Tax Rates”, Greg Mankiw’s blog, 3 May 2006.
Mankiw is conservative, so readers might infer that this is a conservative argument. I don’t think so. If my memory is correct, a similar statement can be found in any principles text. I am travelling, so do not have easy access to textbooks, but if anyone doubts this, check out, for example, a text authored by two economists – Paul Krugman and Robin Wells – who are definitely not conservative. Chapter 7 of their book, Economics, is titled “Taxes”, so might be a good place to search. If you find any passage that differs from Mankiw’s statement, please let me know: comments are open!
