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Why ending the corporate income tax won’t create jobs

In his press conference [1] yesterday, North Carolina House Speaker Thom Tillis reiterated his desire to eliminate the state’s corporate income tax, expressing his earnest (but misguided) belief that abolishing the tax will ensure stronger job creation across the state. This belief is misguided because it rests on a fundamentally flawed assumption—that corporations will always reinvest the savings they get from the tax repeal into creating new jobs or paying existing workers higher wages inside North Carolina.

In reality, there is no guarantee that multinational corporations with locations and subsidiaries across the entire world will take their North Carolina state tax cut and reinvest it in their North Carolina operation. In fact, if we look at recent national corporate investment patterns, there’s actually no guarantee [2] that these corporations will reinvest additional income in job creation (or higher wages) at all.  

Over the past decade, American corporations have experienced a “golden age in corporate profits.” With the exception of a sharp drop during the first year of the Great Recession, American corporations have reported record after-tax profits in excess of 8 percent of GDP quarter after quarter since 2002 [3].  Since 2009, corporate profits have grown an eye-popping 171 percent, [4] averaging more than 10 percent of GDP [3] every year after. Yet despite these record profits, wages fell to record lows [3] as a share of the economy in 2012 and post-recession employment growth is the slowest of any recovery since the 1930s [5]. In effect, corporations are improving their profit margins by holding down wages and hiring.

So if corporations aren’t reinvesting profit in wages or job creation, then where are their profits going?

Some of these after-tax retained earnings are simply going into cash balances— American corporations are sitting on $5.1 trillion in cash reserves [6].  Another chunk of these profits are going to executive compensation [7] (although this dropped [8] somewhat in 2012). But most [7] of these after-tax profits are going to shareholders in the form of dividend and other investment income.

Despite Tillis’s belief to the contrary, based on the post-recession behavior of businesses in North Carolina, it’s unlikely that corporations will act differently here than they have anywhere else in the nation.  For example, our state’s workers improved their productivity [9]—the engine of corporate profits—by 1.5 percent since the end of the recession. Yet for the first time since the 1930s, the state’s employers refused to pass these productivity savings along to their workers [9] in the form of wages (which have actually fallen 4 percent since June 2009) or through new job creation (unemployment remains stuck above 9 percent).

If employers operating in North Carolina are refusing to pass productivity savings along to workers—as Tillis’s supply-side economic theory would predict—then there is no guarantee that these corporations will do what Tillis predicts and reinvest tax cut income into job creation. It’s much, much more likely that these corporations will simply follow the national model of corporate behavior and keep their additional income in cash reserves or distribute it as investor income, neither of which leads to job creation in North Carolina.

Instead of making these kinds of risky decisions based on extremely questionable economic assumptions, policy makers should reform the corporate tax code in a revenue-neutral way that provides adequate financing for genuinely pro-growth public investments like job training and infrastructure [10].