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09/26/2018 15:26 EDT | Updated 09/26/2018 15:42 EDT

Trump’s Tax Cuts Are Overshadowing Trudeau’s Political Fortunes

One way for the Liberals to go forward is to respond to Trump's tax cuts but not in the way the Conservatives push for

Carlos Barria / Reuters
U.S. President Donald Trump passes by Canadian Prime Minister Justin Trudeau during a working luncheon for world leaders at the 73rd session of the United Nations General Assembly at U.N. headquarters in New York, U.S., Sept. 25, 2018.

The big business lobby has been galvanizing to capitalize on U.S. President Trump's tax cuts by demanding the Canadian federal government to respond. The tax competitive shrill has risen to a new crescendo, but the anti-tax shriek is anything hbut a fantasia.

"Canada needs a bold response to more competitive U.S. business tax regime," hailed by the Fraser Institute. The response according to the free market think tank is as expected corporate tax cut. Finance Minister Bill Morneau has been under the gun for a while, and though he tried to wave off a corporate tax cut earlier this year he did say on Sept. 11: "I'm not at the stage now where we can say that we've ruled anything in or anything out."

Cutting corporate tax rates or not, some business leaders would clamor for all they can get. As reported by the Globe and Mail, some "are calling for a 100-per-cent tax deduction in the first year for all new capital investments in advanced innovation, as well as a broader review of corporate taxes." The Canadian Chamber of Commerce called such a deduction an "important step forward" as there just might not be room for corporate tax cut. To be sure, that's not the consensus among the tax cutters.

The issue of whether Canada got a beating from the Trump tax cuts is debatable as foreign direct investment in Canada appears to be holding steady. As a senior KPMG corporate tax practitioner put it, tax is only one of many factors rather than the sole deciding factor for corporate decisions in light of the US tax changes.

The views of whether corporate tax cuts can drive foreign direct investment are intriguing. Normally anti-tax proponents would always stick to their guns that a lower rate will induce investment. But in a September report entitled "The Impacts of US Tax Reform on Canada's Economy" prepared by PricewaterhouseCoopers (PWC) for the Business Council of Canada, the accounting firm basically admitted that cutting corporate tax rate is not a magic bullet. PWC said: "Over the last decade, during which the Canadian corporate tax rate was substantially lower than that in the US, growth in capital expenditures in Canada was significantly slower than in the US." That echoes what Canadian Manufacturers & Exporters (CME) and BDO indicated in a June report entitled "Restoring Canada's Tax Advantage: A Need for Tax Reform." Despite corporate tax cuts in the past decade under then prime minister Stephen Harper, they said Canada still falls short: "Even when Canada had a tax advantage over the US, it was clearly not enough to fully offset the cost disadvantages."

If the argument for corporate tax cut cannot be framed straight up as a boost for investment, what might the argument be then? Just saying U.S. did it so Canada should do it too doesn't sound quite right. An alternative to the weak argument is that the tax cutters could appeal to faith in trickle-down economics, whether it is blind or not. The Fraser Institute has always been certain about its conviction: "Corporate tax cuts benefit all Canadians." That heralded the fundamentalism of the anti-tax movement. The C. D. Howe Institute asserted: "Federal Corporate Tax Cuts Would Lift Canada's Standard of Living." That's a 2005 headline from the think tank. Another think tank Montreal Economic Institute captured such devotion in a sweeping headline: "Corporate tax cuts are good policy, always and everywhere." This trust-me line of argument is stronger than the Trump-did-it-so-Trudeau-should-do-it-too argument, but it might not sway those who are not the true believers. An even stronger alternative for the tax cutters might be to go with the flow as in turning admission into commission by arguing that past corporate tax cuts didn't work because they were not deep enough, drastic enough and dramatic enough. Pushing for a deeper-than-Harper cut will no doubt fire up the anti-tax movement, but the political risks are high.

In the aftermath of the release of the Paradise Papers, Canadians might not be too enamoured of new breaks for corporations so they can pay less taxes. Environics Research headlined its polling report: "Nine Out Of Ten Canadians Think It's Morally Wrong For Canadian Corporations To Use Tax Havens." More recently, Canadians learnt that federal government auditors said the tax system is rigged for corporations and the rich. The Globe and Mail reported that "nine out of 10 auditors and other tax professionals surveyed agreed that corporations and wealthy Canadians can more easily avoid paying taxes than less well-off individuals."

Seeing tax politics through the lens of federal politics, the Conservatives need to decide how far they are willing to push for corporate tax cuts. But for the Liberals, the decision on what to do is a lot tougher as there's no sunny way in any decision. If the Liberals decide not to make any tax changes that can be seen as a response to the Trump tax cuts, they will be attacked by the Conservatives. If the Liberals make some tax changes but the changes do not, for example, bolster investment, they will be attacked by the Conservatives. If the Liberals make some tax changes and the changes work, the Conservatives will take credit for the outcome.

One way for the Liberals to go forward is to respond to Trump's tax cuts but not in the way the Conservatives push for. The OECD offers a glimpse of such an idea. In its June 2018 Economic Survey of Canada, OECD listed ability for the tax system to help attract investment as something to be addressed. That's not unexpected from OECD. But the OECD recommendation provides a glimmer of a surprise that binds public spending to tax changes. The OECD said the key recommendation is to "(r)eview the tax system to ensure that it remains efficient — raising sufficient revenues to fund public spending without imposing excessive costs on the economy — equitable and supports the competitiveness of the Canadian economy." Given trickle-down tax changes the Conservatives are fond of might only be good for Canada on paper, if the Liberals can make tax changes that would secure revenue to fund public expenditures in reality, getting real just might help them fend off the Conservatives in the next federal election.

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