JFK's taxing paradox

As politicians wrestle with government debt, they might want to heed a speech America's most charismatic president gave in 1962.

As the son of a maverick tycoon, John F. Kennedy didn't have much time for businessmen. "My father always told me they were sons of bitches," he said once. But as president, he understood their economic importance. And, in December 1962, he told an audience of business leaders in New York that the soundest way to raise tax revenue is to cut taxes. This was an unusual stance for a liberal, Democratic president. JFK's economic guru, J.K. Galbraith, wanted him to spend more government money. But Kennedy focused on taxes (though he did spend billions through the Apollo space programme) believing this would "cut the fetters which hold back private spending". His proposed cut in personal and corporate tax, equivalent to 2% of GDP, became law after he was assassinated.

Kennedy's paradox has not been lost on officials in the Swiss town of Zug. In 2008, 1,200 companies set up here. An economy once reliant on farming is buoyed by an unlikely oil boom: 13% of full-time jobs are in the raw materials sector. Corporate tax of 9.5-16% (the global average is 25%) has attracted firms from such tax havens as Bermuda to Switzerland, with offshore drillers Noble and Transocean and engineering group Foster Wheeler planning to move there.  

Cutting taxes to raise revenues sounds too paradoxically neat to be true. But it is the strategy most governments have applied to corporate tax: since 1982, KPMG's Corporate and Indirect Tax Rate Survey 2009 says, the global rate has fallen from 46% to 25.5%. Confederation of British Industry (CBI) research suggests that policy makers hoping to trim deficits by taxing business ignore Kennedy at their peril. The most famous Irish-American president's advice has been heeded in the land of his forefathers. The Irish government gradually cut corporation tax from 50% in 1985 to 12.5% in 2003. By then, the Celtic Tiger had attracted more U.S. investment than Brazil, Russia, India and China combined. Between 1995 and 2005, the tax burden as a percentage of Irish GDP fell from 32.9% to 30.6%, although economic woes have since led it to raise VAT to 21.5% (the EC average is 19.8%). In France and the UK, where the tax burden accounted for a greater share of GDP, growth rates were 75% and 60% smaller than Ireland's, according to the CBI. The Irish experience has been mirrored in many east European and central Asian countries.

JFK did not fret unduly about foreign direct investment (FDI). Today, no finance ministry can ignore this kind of investment: even the U.S. attracts 284 times more FDI now than in the 1960s. And companies are much more likely to emulate ad giant WPP, which will save tens of millions of dollars a year by paying tax in Ireland, and move head office to cut their tax bills.

None of this makes comfortable reading for finance ministers struggling to balance the books. They may prefer to maintain the headline corporate tax rate – while closing loopholes, limiting deductibility and targeting abuse – and raise indirect taxes. Governments will still chase FDI by offering incentives (like R&D credits) even if, as Zug's success suggests, a lower headline rate of tax might attract more business.

CFOs will have to become adept futurists and readers between the lines as politicians ponder tax policies. It is easy to blame politicians for not being honest, but in the 1988 presidential campaign George Bush Sr knew that "Read my lips, no new taxes" would win more votes than the admission that such taxes might be needed to balance the budget. As governments seek to emerge from the valley of debt, the only certainty when it comes to corporate tax burden, to use a paradox worthy of JFK, is that nothing is certain.