Is devolution of Corporation Tax a gamble worth taking?
Northern Ireland provides a strong case for not devolving Corporation Tax, argues IAN MURRAY
The Calman Commission and subsequent Scotland Bill will transfer a significant number of new powers to the Scottish Parliament and give Scottish ministers control of over £12bn worth of revenues. This is the largest single transfer of power to the devolved government since 1999.
The SNP refused to participate in the Calman consultation and the debate on the Scotland Bill, preferring instead to peddle their own assertions and ignore years of analysis and serious debate. But now, buoyed up by their landslide victory in May, they are attempting belatedly to make new demands on the devolution settlement. One of these demands is the devolution of Corporation Tax, but they continue to offer very little in the way of proper analysis as to the consequences of such an approach. They do not even attempt to answer arguments point by point. They simply reassert their own point of view, dismissing alternative points of view as being “anti-Scottish”, that if they say it, it must be true and a benefit to Scotland! One is tempted to surmise that their strategy is to request additional powers that they know cannot be delivered and then use this as a platform to pick a fake fight with Westminster.
Scottish Labour have always held the position that we would not rule out any further devolution of powers to the Scottish Parliament if it can be shown to be of the benefit of the Scottish people. Let’s not forget that it was Scottish Labour that brought about the Scottish Parliament. Indeed, it was one of the first Bills of the Labour Government in 1997. Devolution was always going to be an ongoing process. That is why we have consistently asked the SNP to produce the evidence that would substantiate their stance on corporation tax. So far, they have failed to deliver. Their much anticipated paper poses only argument but no justification, all the Scottish minister can say about it is, “Corporation tax is a key lever to promote growth and investment, and we will issue a discussion paper shortly that will fully set out the arguments for devolving corporation tax to Scotland.”
The failure to say much at all is hardly surprising given the financial black hole that is likely to be created by any Corporation Tax reduction. The Secretary of State for Scotland recently quoted, at the Scottish Affairs Select Committee, a figure of some £12bn over 5 years on a 10p reduction for an “indeterminate period”. A recent analysis by PriceWaterhouseCoopers said that a reduction in the rate to 12.5 per cent could cost up to £2.6bn a year. The Scottish Government must tell us their proposed rate in Scotland, the cost to the public purse, where the money will come from and how they would manage the short to medium term consequences. Given the huge sums involved they must also come clean on what public services would be cut to pay for this.
A Corporation Tax reduction may bring economic advantages to Scotland but even the Scottish CBI say, “Any potential benefit to Scotland of a different rate and/or structure of CT needs to be weighed against the impact of the certain costs, complexities and risks that would arise from devolving the tax. However, there is little analysis of this in the paper, including the burden for companies in having to deal with two separate CT regimes.”
The Scottish Government’s “biased” paper poses more questions than proper analysis or answers. Questions have to be answered on how many more businesses would have to relocate to Scotland to make up for the immediate deficit and how many more would be required to pay back the “indeterminate period” of the financial black hole. The block grant to Scotland would immediately be cut by the requisite loss of Corporation Tax to the Exchequer and that reduction in financial resources would not be made up from an influx of new business. £2.6bn is almost 8 per cent of the Scottish budget, so would the benefits justify the considerable costs? At a time when the SNP has overpromised the Scottish people to the tune of some £5bn on a flat budget how can this be affordable?
The main plank of the SNP case seems to rest on the current consultation on devolving Corporation Tax to the Northern Ireland Assembly. The thrust of this devolution is to allow Northern Ireland to equalise the rate of Corporation Tax with the land border of Ireland to 12.5 per cent. This, I would suggest, is exactly an argument for not devolving Corporation Tax to Scotland. Differential Corporation Tax rates with land border countries create an unfair and unhealthy competition with the potential for a race to the bottom. The fact that Northern Ireland is looking to have Corporation Tax devolved is to equalise its position with the South and not to create a competitive differential. The Scottish Government paper doesn’t give a figure but if it were not 12.5 per cent to match that of Northern Ireland then the question would become, what is the point?
The CBI in Scotland have consistently emphasised the dangers of differential taxation rates in Scotland. The Irish economy was underpinned by a low Corporation Tax rate that has unravelled as the economic downturn has taken hold. The collapse of Corporation Tax revenues in Ireland has resulted in an EU bailout and an economic situation that makes the “Arc of Prosperity” a thing of the distant past. In fact, the other countries with lower rates than the UK are Greece, Italy, Spain, Portugal and Iceland. Germany has a similar rate and Norway higher.
Clearly there is also the question of priorities. The coalition government at Westminster has been fiercely criticised for reducing Corporation Tax by 5p over the next few years, handing the financial services sector and the banks a massive windfall at a time when public services are under severe pressure. This was highlighted as a major concern by the Institute of Chartered Accountants of Scotland who said there would be limited scope for a rates cut in Scotland if public services were to be maintained at a time when they were already under strain.
A significant reduction in Corporation Tax in Scotland would give the big banks a considerable financial boost at the expense of public services. Is this a priority for the Scottish Government? The First Minister himself said in 2007 that “These two companies alone (RBS and HBOS) pay about the same amount in Corporation Tax as GERS [Government Expenditure and Revenue Scotland] allocates to the whole of Scotland”. This, to me, does not seem to be the priority of the Scottish people. It could even be suggested that this massive financial hand-out to the banks would be a bribe to stop them fleeing their traditional nest in Scotland — further proof that the SNP believes that the independence debate should take precedence over the real economic issues facing Scotland.
I’ve run my own businesses since I left university and in times of economic downturn the last thing on your mind is the level of Corporation Tax. Furthermore, I would predict that the postbags and advice sessions of politicians up and down Scotland are full of correspondence from business owners who are more concerned with survival, making the next payroll run and getting access to finance from their bankers. The fact that Corporation Tax is paid on profitability poses the question: should the Scottish Government be concentrating resources on getting business back on its feet rather than giving an untargeted tax cut to the larger and more profitable businesses? Of course, losses from previous years can also be carried forward against future years’ corporation tax payments and therefore there is an inherent volatility in Corporation Tax which introduces uncertainty in tax revenues, further exacerbating the potential risk.
PriceWaterhouseCoopers examined the Corporation Tax regimes of 182 countries in their report Corporation Tax – Game Changer, or Game Over? which says that overseas investors already in the UK rank Corporation Tax as 17th in a list of investment drivers, that “prioritise, in order: language, culture and values; infrastructure; skills; and proximity to markets”. All these are already in the control of the Scottish Government but their policy of scrapping large scale infrastructure projects that would drive employment, skills and economic growth fly in the face of these business priorities. That makes the devolution of Corporation Tax to Scotland a very big £2.6bn gamble! The John McClaren report for the CPPR (Centre for Public Policy for Regions) also stated that companies rated it at the 17th most significant factor in deciding where to locate their corporate HQ.
The recent economic downturn highlights how quickly Corporation Tax receipts can fall. Ireland and Iceland are prime examples and The Institute of Chartered Accountants of Scotland claimed the volatile nature of the economy meant tax returns would be unpredictable. The Scottish Government are obviously calculating an additional benefit from the relocation of additional businesses but is this benefit stable enough to risk the “indeterminate” reduction in resources? The CBI in Scotland fear that there may be a relocation of head office functions to Scotland to take advantage of the preferential Corporation Tax rate but that may not necessarily bring with it many more jobs or, indeed, economic growth.
The Oxford University Centre for Business Taxation reports that Corporation Tax cannot be isolated as a mechanism for driving business investment or economic growth as it is merely one lever that, when pulled, creates movement in a number of other related levers. Their assessment of the UK at present shows that the reduction in Corporation Tax from 28 per cent to 23 per cent over the next four years will have a far more limited effect due to the virtual abolition of Capital Allowances. Although their analysis is UK-based it must be borne in mind in any discussion and debate about the devolution of Corporation Tax rates in Scotland.
They conclude: “Results suggest strongly that reforms that cut the tax rate but also cut allowances are not enough to maintain, let alone improve, the competitiveness of the UK corporate tax system. Such reforms mainly redistribute the tax burden between companies, rather than making the tax system as a whole more competitive. The government has also emphasised its intention to make the UK more attractive as a location for manufacturing. For that objective, a policy of cutting capital allowances is misguided.” In other words, diversification of the economy is better delivered through more generous capital allowances to encourage investment rather than through handouts on profits. I would suggest that an extrapolation of this conclusion would see a Corporation Tax cut in Scotland as a redistribution of the tax burden away from financial services and, more starkly, the banks.
Finally, do differential tax rates between countries with land borders create a race to the bottom? Who is to say that the UK Treasury would not seek to protect businesses in England by lowering the overall Corporation Tax Rate? Would businesses immediately relocate from the North of England? A reduction in the tax vis-a-vis England is politically unsustainable in conjunction with continued fiscal subsidy. This is not a policy designed to benefit the Scottish economy – it is instead designed to create a tension that can only be resolved by splitting tax and spend i.e. independence not devolution. In order to benefit the Scottish economy, a reduction has to lead to greater inward investment or retention of potential domestic investment that might otherwise leave. Given that low Corporation Tax regimes already exist within the EU,then firms willing to move in order to benefit from lower rates will already have done so. Therefore, lowering the tax can only attract firms that are relatively sensitive to distance, ie, firms based in northern England. If the reaction of a Conservative Chancellor to Scotland lowering CT is to mirror the move then all the SNP will achieve is a reduction in public funds across mainland Britain, with the net effect being a worsening of Scottish public finances. Perhaps this is their goal to advance a false argument for independence?
And what about the powers that are currently at the disposal of the Scottish Government that could promote economic growth without the multi-billion pound risk? Perhaps they could look again at non-domestic rates, the variation in income tax rates, or creating favourable conditions for inward investment. The Scottish Government have published their Corporation Tax paper. However, what is clear is that the evidence will have to be powerful to risk a multi-billion pound reduction in public spending for what is a very neo-conservative economic policy. The Reaganomic and Thatcherite trickle down policies failed in the 1980s and early 1990s. Scotland can ill-afford to make the same mistake again. The Financial Times editorial on 23rd August said: “These complications are a heavy price to pay for a reform that will produce at best marginal economic benefits”.
Professor Arthur Midwinter recently argued on LabourHame that the proposals for tax changes contained in the Calman Report to give the Scottish Parliament greater control over how it raises its finances have been comprehensively researched and rigorously argued. He claims they will create greater accountability and choice over spending and tax levels while retaining stability and the benefits of the block grant. Unlike the SNP approach, Calman’s proposals are evidence-based and deserving of continued support.
We must ask ourselves what kind of Scotland we want in the future, how we make the most of the potential of Scotland and deal with the challenges of today and beyond. I’m unconvinced that a multi-billion pounds transfer of financial resources from the public purse to private business at the expense of our proud public services is a Scotland is what most Scots want to see.
Ian Murray is the Labour MP for Edinburgh South. Follow him on Twitter at @IanMurrayMP.