Corporate Tax Rates and Economic Growth

The Trump administration has declared its intent to lower US corporate tax rates in the hopes of raising GDP growth from the last two years' average of 2.2% to the 3.0% more typical of the US prior to the Great Recession.

Would tax cuts actually produce such a result?   One way to check is by comparing the US to other OECD countries to see if countries with lower tax rates grow faster.

On the graph below, we can see GDP growth rates and corporate tax rates for all OECD member countries, and this indeed does show that growth declines with an increasing tax load. In fact, GDP growth, for a best fit linear trend, declines by 1.3% (pp) for each 10 percentage points increase in the tax rate.  Thus, corporate taxation and growth would appear to be linked.

Corp Tax Rate and GDP All OECD.png

The above graph includes the countries listed below.  Note that a number of countries in the OECD are either small with unique characteristics -- like Luxembourg -- or developing economies like Mexico, Chile, and Turkey.  In this group, even though the US has by far the highest tax rate, its growth is absolutely average.  

All OECD Countries.png

A more reasonable analysis might consider only those countries similar to the US, that is, those advanced wealthy economies listed below.  We would typically consider these to be the US's peer group.  In this cohort. note that the median growth rate is 1.6%, much lower than the US's 2.2%.  At the same time, comparable tax rates average 24%, compared to the US's 35%.  For peer countries, a lower corporate tax rate has not translated into GDP growth superior to that of the US.

Advanced OECD Countries.png

If we regress tax rates against GDP growth, we in fact find that a higher tax rate is associated with a higher rate of GDP growth. But not much higher.  Each 10 percentage points increase in taxation yields a 0.1% (pp) increase in GDP growth.  Effectively nothing, confirmed by an R2 of 0.007.  This leads us to conclude that corporate tax rates and GDP growth in the advanced economies are essentially unrelated.

Corp Tax Rate and GDP Advanced OECD.png

Importantly, among the US peer group, only one country -- Sweden -- has managed above 3% growth in the last two years.  Ten of the sixteen countries in the group could not even break 2% -- and all of them had lower corporate tax rates than the US.  

Using an approach based on international comparisons, we are left to conclude that cutting corporate tax rates is unlikely to raise the US GDP growth rate materially, and highly unlikely to raise it to 3.0%.