International companies have smashed the old pact—enjoy the privileges of limited liability and pay tax in return. Only a radical answer will do—accept that corporation tax is a lost causeby Charles Dumas / January 22, 2015 / Leave a comment
Published in February 2015 issue of Prospect Magazine
One of the awkward questions left exposed by the ebbing of the financial crisis is whether the “limited liability company,” a cornerstone of the world’s economic system for more than a century, played a part in causing and prolonging that crisis—and now needs urgent reform.
Of course, from one side that seems nonsense. The notion of limited liability, with its roots in Victorian times (or on some analysis, in ancient Rome), which means that a company and its owners have only limited exposure to any damaging consequences of its actions, underpins the economies of modern capitalist societies. It has made possible the globalisation of capital, and much of the spread of new products and techniques of production. How could we challenge it?
The retort is that the original bargain has broken down. In the beginning, the state granted companies limited liability in return for paying tax and observing other obligations. But it has become the privilege of power without responsibility. It clearly creates the chance for shareholders and senior directors to enjoy the upside from the venture, through rising share prices or big bonuses, while limiting their exposure in the event of failure or bankruptcy or extensive environmental damage. If you add to that the agility of many multinational companies in avoiding paying much tax at all, it looks like a bargain that has thoroughly unravelled.
The drawbacks of limited liability both helped cause the 2008 financial crisis, and are undermining the recovery, as well as the ability of national governments to raise the revenues they need. It is clear that reform is needed; the question is whether incremental steps will be enough, or whether we should consider something much more radical, in scrapping the bargain entirely.
Studies of the effects of corporation tax have tended to show that, in the end, it gets reflected in prices. Companies eventually pass the cost on to consumers, leaving themselves with the same profit margin after tax. Compared with value-added tax (VAT) or other sales taxes, it penalises successful, profitable companies in favour of the less successful, to the detriment of growth. Given all the drawbacks and distortions described here, there is a case for phasing it out in favour of VAT or sales taxes.