There has been a lot of talk lately about using corporate taxes to fund social services like healthcare. Can we? And if so, how much can we skim off the top before damaging the economy? The answer may be “no,” and “nothing.”
Socialist thinkers put a lot of stock in the notion of “excess profits.” Meaning, by Marx’s definition, profits above the prevailing interest rate on money loans. The theory is, those excess profits could go to better use, rather than lining some rich guy’s pockets.
But let’s consider the entrepreneur’s perspective on things.
Having produced more than she has consumed, an entrepreneur might consider investing, spending, or just hanging on to her accumulated wealth.
She invests if, and only if, she expects a stream of future cash flows, the net present value of which is greater than what she has now. Taking into account her time preferences, the potential utility of consumption, or even the utility of sitting on a pile of cash.
Key term here is “expectation.” She must choose a discount value that accurately reflects the risk of failure.
To be clear, if she wins, she will make profits considerably in excess of her expectation. In much the same way that a roulette player — if he wins — will make considerably more than his (negative) expectation. That doesn’t mean our entrepreneur got away with something; we have to consider the hidden cost to all of her competitors who didn’t make it, and also the house rake.
That’s how it looks in the short run. If we consider the long run — for example, by looking at the experience of all entrepreneurs in an economy — we expect profits to regress toward any positive expectation.
Remember. Here, “expectation” refers to the minimum profit to justify investing, as opposed to spending or holding wealth.
I think it follows, then: in the long run, “profit” is nothing more or less than the cost of capital.
Corollaries:
- In a capitalist economy, taxation of profits inevitably stifles business formation; it reliably lowers NPV and thus chills entrepreneurship at the margins. I think I see a broken window fallacy here. That our enthusiasm over tax revenues must be balanced by the realization that, but for the taxes, more jobs (and wealth) would have been created. In other words, taxation — the house rake — inevitably turns some winners into losers; and may, if high enough, keep anybody from winning.
- In a socialist economy, you’ll run out of other peoples’ money quicker than you think.
Clearly, market failures are common in health care. Hard to work if you’re sick or disabled. We want to provide healthcare as a social service. The question is, how to pay for it?
The Scandinavian model is one solution. In their mind, a vigorous private sector, which enjoys better-than-average economic freedom, generates enough money to pay for a generous social safety net. But look where the tax revenues come from. Most revenue comes from income taxes, and the value-added tax. Corporate tax rates are modest, and it’s not at all clear that they are coming out ahead. Would they have been better off with no corporate taxes, more jobs, and more wealth to tax further downstream?
We will never know, because we can’t know which business plans were rejected due to the tax burden, or how much wealth they would have generated. Suffice to say, business taxation has hidden costs. And at the end of the day, it’s important not to kill the goose that lays your golden eggs.