The Capital Note

Building the Biden Tax Cartel

President Joe Biden speaks during a visit to the Greenwood Cultural Center in Tulsa, Okla., June 1, 2021. (Carlos Barria/Reuters)

Welcome to the Capital Note, a newsletter about business, finance, and economics. On the menu today: Biden’s proposed tax cartel, Apes and Clover, Japan’s debt difference, corporate virtue signaling (exceptions may apply), and textual investment. Also: an invitation to a webinar on inflation featuring Kevin Hassett and Rich Lowry. To sign up for the Capital Note, follow this link.

Capital Matters Webinar, Thursday, June 10, 2 p.m. (EDT)

Inflation — Should We Be Concerned?
National Review Institute and National Review Capital Matters presents a conversation with Kevin Hassett who served as former senior adviser and chairman of the Council of Economic Advisers in the Trump administration and Rich Lowry on inflation.

Inflation has been so low for so long that most Americans understandably see persistent inflation as ancient history, and that any blip up today will quickly be reversed. But, is persistent inflation around the corner? Inflation and commodity prices are up sharply. The latest Michigan survey shows people expect 3.7 percent inflation next year. Shortages of everything from lumber to semiconductors have raised input prices for businesses, while the percentage of small businesses reporting that they cannot find qualified workers is at a record high. The ingredients are in the pot, and the fire is on. But will the pot boil?

RSVP Here:

The Global Minimum Tax and the Less Than Magnificent G-7
Over the weekend, the G-7 group of rich countries agreed to back President Biden’s plans for a global minimum corporate tax.

As Janet Yellen put it (my emphasis added):

The G-7 Finance Ministers have made a significant, unprecedented commitment today that provides tremendous momentum toward achieving a robust global minimum tax at a rate of at least 15 percent.

The French finance minister (unsurprisingly) was in the “at least” camp:

This is a starting point . . . in the coming months we will fight to ensure that this minimum corporate tax rate is as high as possible.

Some months back, there had been some talk that the administration wanted 21 percent. Keep that “at least” in mind.

But even at 15 percent, there should be no doubts about the reason for all this, which is to create an international tax cartel designed to stop smaller countries from increasing their competitiveness (and attracting foreign investment) with corporate-tax rates that greedier governments consider to be too low.

Biden and his team have attempted to justify this on the grounds that there has been a “race to the bottom” with corporate-tax rates — a race to the bottom marked, in reality, by the fact that very few appear to be taking part.

As the Tax Foundation has shown, corporate-tax rates fell sharply after the 1980s, but over the last decade or so, they have (roughly speaking) plateaued. The White House’s real objective is to reduce the danger that its proposed increase in the domestic corporate-tax rate will pose to U.S. competitiveness and the appeal of this country as an investment destination.

These numbers (again from the Tax Foundation) show why the administration might be concerned:

An increase in the federal corporate tax rate to 28 percent would raise the U.S. federal-state combined tax rate to 32.34 percent, higher than every country in the OECD, the G7, and all our major trade partners and competitors including China. This would harm U.S. economic competitiveness and diminish our role in the world.

When the U.S. last had the highest corporate tax rate in the OECD, prior to tax reform in 2017 with the Tax Cuts and Jobs Act (TCJA), the U.S. experienced several years of economic malaise, including chronically low levels of investment, productivity, and wage growth, as well as major distortions and avoidance schemes in the corporate sector. This included corporate inversions to lower-tax countries, migration out of the corporate sector and into the noncorporate sector, and a decline in business dynamism. This is why the U.S. lowered the corporate tax rate, to compete with other countries around the world that lowered theirs long ago.

Whether we use corporate tax collections as a portion of GDP, average effective tax rates, or marginal tax rates, each measure shows that the U.S. effective corporate tax burden is close to or above the average compared to its OECD peers. Raising corporate income taxes would put the U.S. at a competitive disadvantage, whether one looks at statutory tax rates or effective corporate tax rates.

As Yellen’s “at least” would suggest, this is only the first (completed) step, albeit an important one, in a far more detailed set of negotiations with a far wider range of countries. There is also the little matter of legislative approval in those countries that sign up, which may not be entirely straightforward. After all, national control over taxation is a fundamental aspect of sovereignty, and, by extension, basic democratic principle.

It’s true that any treaty is almost certain to include an exit mechanism for a signatory that changes its mind, but that mechanism will be likely to be time-consuming and onerous, and unlikely to provide any protection against retaliation by those countries that remain committed to the treaty. Under such circumstances, it would have been better either not to have signed the treaty in the first place, or, even better still, to have blocked it.

As always with tax proposals, the devil will lie in the details. As this useful summary from the Wall Street Journal would suggest, the details (so far) are not particularly detailed.

An extract:

[One long-standing principle in international taxation has been that] corporate profits should be taxed where value is generated, which traditionally was where businesses had a physical presence. The rule was easier to follow when profit flowed from factory floors instead of patents and other highly mobile intellectual property.

Now the G-7, which comprises of Canada, France, Germany, Italy, Japan, the U.K. and the U.S., is proposing that some profit from some of the biggest companies should be reallocated to countries where their products and services are consumed. Those countries can then tax the reallocated portion of the profit.

Under the proposal, nations where the companies’ products are consumed would have the right to tax 20% of profits above a margin of 10% . . .

Only the largest and most profitable companies would be affected under the proposal, at most around 100. The 100 biggest companies by market capitalization have recently included such giants as Apple Inc., Saudi Arabian Oil Co., and Berkshire Hathaway Inc., data from S&P Global Intelligence show. However, measures other than market cap could be used to identify the biggest companies, and lobbyists say they expect some sectors to be excluded from the list . . .

And so (via the Financial Times):

Rishi Sunak, UK chancellor [finance minister], is pushing for a carve-out for the City of London in the G7’s push for a new global tax system to cover the world’s “largest and most profitable multinational enterprises”.

Sunak said the weekend’s “historic agreement” by G7 finance ministers would force “the largest multinational tech giants to pay their fair share of tax in the UK”.

But one official close to the talks said the UK was among the countries pushing “for an exemption on financial services”, reflecting Sunak’s fears that global banks with head offices in London could be affected.

HSBC, the UK’s biggest bank by revenues, generates more than half its income from China, while Standard Chartered, another UK-headquartered lender, conducts little business in Britain, with most of its focus on Asia and Africa.

Sunak raised the issue at the G7 talks in London, according to those briefed on the meeting, and his allies confirmed he would continue to make the case when the talks move to the G20 next month.

“Our position is we want financial services companies to be exempt and EU countries are in the same position,” said one British official. But President Joe Biden wants to broaden the scope of the tax so it does not just hit US tech giants . . .

That Britain’s Conservative government, elected to deliver a Brexit that was going to allow the U.K. to “take back control” of its destiny, has so far gone along with plans to fix any sort of global minimum tax is not without its ironies.

Back to the WSJ:

The G-7 deal likely would mean higher overall tax bills for many of the biggest tech companies, with more of the payments potentially going to countries in Europe, and less to the U.S.

There would be a silver lining for the tech firms: The removal of digital-services taxes that have been applied to big tech companies in the past couple of years in several European countries, including France, Italy and the U.K. The G-7 committed to the coordinated removal of such taxes as part of its deal.

Tech companies are willing to trade slightly higher taxes for an unwinding of that growing patchwork of national taxes targeting their digital services.

Perhaps some large tech companies are willing to make such a trade, but this would effectively be a deal made with American taxpayer money to make it easier for the government to raise more from all U.S. companies, big or small. Much of that bill will in turn be passed on to individuals, as shareholders, and/or consumers (higher prices), and/or employees (lower salaries), who would thus be paying to fund a scheme that will end up costing them even more money. There have been more enticing offers.

Back to the WSJ again:

The reallocation of profits to places where products are consumed will only apply to the roughly 100 largest companies with profit margins over 10%— with some industries like agriculture, banking and the oil industry potentially carved out in part because their income isn’t as mobile.

It isn’t clear how the 10%-margin rule would be applied. Inc. has a profit margin below that level, but officials and lobbyists have said they expect at least some of the company’s profit—likely at its profitable cloud division, Amazon Web Services—to be subject to the new reallocations. One way to do that: apply the rule to each business unit rather than parent companies.

And the minimum tax itself?

The WSJ:

Each country [passes] laws to ensure that companies headquartered there pay a minimum tax of at least 15% in each of the nations in which they operate. Companies that paid less would make up the difference to their home countries.

If adopted widely, such a rule could reduce the incentive for companies to set up subsidiaries in tax havens.

How widely this rule will be adopted (if at all) has yet to be seen. Back in April, I thought that the chances were remote. They are clearly now less remote than they were, but this proposal will still be a hard sell to many countries, not all of them in the Caribbean.

There’s Ireland, for example.


[Irish] Minister for Finance Paschal Donohoe said any final deal on reforming global corporation tax rules must meet the needs of both small and large countries.

“It is in everyone’s interest to achieve a sustainable, ambitious and equitable agreement on the international tax architecture,” said Mr Donohoe, who has expressed reservations about how a deal could damage the draw of Ireland’s 12.5% rate.

“I look forward now to engaging in the discussions at OECD. There are 139 countries at the table, and any agreement will have to meet the needs of small and large countries, developed and developing.”

It’s not hard to understand those “reservations.”

The Irish Times:

Ireland could lose up to a fifth of its corporate tax revenue under a proposal agreed by G7 finance ministers on Saturday, Minister for Finance Paschal Donohoe has warned.

But he said that such a loss of revenue – about €2 billion a year – was already built in to the Government’s economic assumptions.

The likely loss to the exchequer of between €2 billion to €2.4 billion is equivalent to a fifth of the State’s annual corporate tax revenue.

It is about two thirds of the total housing budget for this year or about a quarter of the annual education budget.

That’s a lot to be “built in.”

How many small countries will Biden be prepared to bully to get his way?

Around the Web
Sentences I never expected to see in the Wall Street Journal:

“Apes who missed on $GME! Listen up, $CLOV is ready to lift off!” wrote one user who goes by u/pvr90 on Tuesday. Ape is a nickname for buyers of AMC Entertainment Holdings Inc. shares, which have been among the most actively traded meme stocks in recent weeks.


Shares of Clover Health Investments Corp. soared after emerging as the latest target for retail traders on Reddit forums.

The healthcare company’s share price rose as much as 109% Tuesday before retreating but remained up over 70%. That follows a 32% jump Monday. It is currently being bought and sold above $20 a share, while it was valued at $7.64 at the end of last month. Over 125 million shares were traded Monday, nearly an eightfold increase from Friday.

Debt: Why Japan is different:

John Cochrane notes that “Japan has huge debts and no crisis or inflation (so far). Doesn’t that prove the US can borrow a ton more money painlessly?”

Spoiler: No.

In a postscript Cochrane explains why Japan, which has a debt/GDP ratio of 256 percent (in at No. 2, lagging Venezuela, but ahead of Sudan!) does not provide an example that the U.S. can follow:

Japan’s debt is long-term, held by domestic people, pensions and central bank. US debt is short-term, held by foreign central banks and financial institutions. Our debt is much more prone to run, and a rise in interest rates will feed quickly into the budget. Japan also has accumulated assets from trade surpluses; we have the opposite. Japan’s debt is held by old people and subject to estate tax. A lot of Japanese hold bank accounts, as mutual funds and similar investment vehicles familiar in the US are less prevalent. Bank accounts flow in to reserves, backed by Treasury debt.

More importantly, Japan does not have looming unfunded Social Security and Medicare, underfunded pensions, contingent liabilities (Fannie and Freddy guarantee most home mortgages, who is going to pay student loans?) bailout guarantees and more.

Sustainability is about debt vs. ability to repay; about future deficits;  not debt alone.

Corporate virtue signaling (exceptions may apply):

It’s always entertaining to contrast the woke talk on the part of a growing number of players on Wall Street with their attitudes to doing business in China.

One or two names stand out in this report from The Economist:

Zhang Kun is the rock star of Chinese fund management. His name often makes headlines; whole articles are dedicated to his investment calls. Investors vie to get into his funds, one of which has reportedly delivered a return of 700% since it was launched eight years ago. He is among a growing number of managers who generate more hype than the firms that employ them. With personalities like Mr Zhang on its payroll, E-Fund, a state-owned investment group, hardly needs to advertise.

Now a swathe of foreign firms hopes to take on Mr Zhang and his ilk by entering China’s asset-management industry. Last month Goldman Sachs, a Wall Street bank, announced a wealth-management venture with ICBC, China’s largest commercial lender by assets. BlackRock, a giant American asset manager, will join forces with China Construction Bank (CCB). Amundi, a French firm, has linked up with Bank of China and Schroders, a British investment group, with China’s Bank of Communications. In March JPMorgan Asset Management said it would buy a 10% stake in China Merchant Bank’s wealth business. Nearly 20 global investors are setting up fund-management firms; others are launching private securities funds.

I cannot, of course, think which those names might be.

Random Walk
Textual investment:

Robin Wrigglesworth in the Financial Times:

It is true that corporate reports contain verbiage that would make even a journalist blush. But instead of heaping scorn on these reports, savvy investors should embrace this admittedly waffly textual information as a potential gold mine that can finally be mined with modern technology . . .

The swelling volume of corporate statements means that no one can realistically consume everything. In the US, the “risk factors” section of annual reports has alone almost tripled in length since 2006 and now averages more than 11,000 words, according to a recent report by S&P Global. Still there are valuable signals hidden within even the subtlest changes, notes Frank Zhao, an analyst at S&P’s Market Intelligence team. The tool to glean tradable signals from textual noise is known as ‘‘natural language processing”, an increasingly popular field of artificial intelligence that involves teaching machines how to read and understand the intricacies of human language. NLP allows tracts of previously recondite non-numeric “unstructured” data to be systematically harvested and analysed at dizzying speeds….

Quarterly and annual reports are now generally released in a machine-friendly format, but they are the tip of the iceberg of written information that investors can rummage around for valuable signals. Transcripts of management calls with analysts or TV interviews with chief executives, newspaper reports, central bank speeches or even social media chatter can all be mined.

The finance industry loves its buzzwords, and anything to do with artificial intelligence is particularly hot these days, and should be treated warily. But we might be at the beginning of a textual investing revolution that could upend the industry.

— A.S.

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