Reuven Avi-Yonah ■ Corporate taxation to curb monopoly power: a brief history and a proposal
The following article is from the “Tax and Monopoly” October 2022 issue of the Tax Justice Focus, an online magazine that explores boundary-pushing ideas in tax justice and revolutionary solutions to the most pressing challenges of our time. Each edition features articles from prominent experts and academics from around the world. The “Tax and monopoly” issue is co-published with the Balanced Economy Project and Roosevelt Institute.
Corporate income tax in the United States was originally introduced as an antitrust measure. A steeply progressive version of the same tax would reduce the economic and political power of monopolists and reintroduce competition in an economy increasingly burdened by rent extraction.
When the United States enacted its first corporate income tax in 1909, the main purpose was to regulate corporate power, especially that of the major monopolies such as J.P. Morgan’s US Steel and John D. Rockefeller’s standard Oil. The corporate tax was part of the same antitrust campaign that culminated in 1911 with the Supreme Court ordering the breakup of Standard Oil. Because the purpose of the tax was to regulate rather than to raise revenue or redistribute income, the initial corporate tax rate was a flat 1%. The point was to force corporations to disclose their business activity and therefore make them easier to regulate through antitrust enforcement. In addition, corporate tax returns were to be public, to expose their immense profitability to the voters.
Corporate lobbying soon eliminated the publicity of corporate tax returns, but the corporate tax itself proved more resilient. During World War I, income tax rates were raised dramatically to finance the war effort, and this included the corporate tax rate, which was raised to 12%. In addition, from 1917 onward a series of excess profits and war profits taxes were imposed on corporations that profited from the war. The war profits tax was levied on corporate profits above a three-year pre-war average, and its top rate could be as high as 80%. Similar excess profit or windfall profit taxes were enacted in other belligerent countries like the United Kingdom, France, and Germany. The same type of excess profits tax was used by the US during World War II with rates as high as 95% (but the overall combined regular corporate tax and excess profits tax could not be higher than 80%), and this tax was retained until the Korean War in the 1950s.
During the 1930s, the Roosevelt administration decided to use the corporate tax to curb the power of corporations permanently. In addition to other reforms (e.g., breaking up ‘pyramid’ structures that enabled the ultra-rich to control public corporations like utilities) the administration proposed a permanent ‘surtax’ on retained earnings and a reduced tax on dividends (to encourage distributions that would reduce the power of corporate management). This proposal was defeated, but Congress eventually adopted a progressive corporate tax up to 53%, and corporate tax rates were progressive from 1936 until 2017. The tax brackets and rates for 1942-1945, for example, were 25% for the first $5,000, 27% for the next $15,000, 29% for the next $5,000, 53% for the next $25,000, and 40% for income above $50,000. These relatively high rates were only reduced gradually in the following decades. Before 1986, the top corporate rate was 46%. After the tax reform of 1986, the highest corporate rate was cut to 35%, and the brackets from 1993 to 2017 were 15% for the first $50,000, 25% up to $75,000, 34% up to $100,000, and a flat 35% for income above $100,000.
The corporate rate structure remained progressive in the US until 2017. However, the brackets were not adjusted for inflation, so that by 1993 the top rate of 35% was reached at $100,000- a large sum in the 1930s, but a pittance for corporations in the 1990s, so effectively it was pretty much all taxed at the top rate, and its progressive nature was rather hidden. Moreover, the major difference between the post 1986 rate structure and earlier rate structures was that from 1987 on the corporate tax was imposed almost entirely on large, publicly traded corporations, so that almost all taxable corporations were subject to the flat 35% rate. In the 2017 tax reform, progressive rates were formally abandoned, and the corporate tax became a flat 21%, where it remains today.
There is, however, a strong case to be made for reviving progressive corporate taxation, with more meaningful tax brackets. If the main reason to have a corporate tax is to tax rents and limit monopolies, then the effective tax rate on normal corporate profits should be zero. But on monopolistic returns, the tax should be progressive, with a very high tax rate (e.g., 80%) for profits above a very high threshold (e.g., $10 billion).
There is no reason to tax corporations on normal returns. Normal returns are the risk-free return from investing in assets like US Treasuries. In recent years, these returns have been quite low, but they have historically been higher. However, from the point of view of only applying the corporate tax to monopoly rents, these returns should be exempt. In addition, there is the uncertainty about the incidence of the corporate tax (i.e. who bears the economic burden of the tax), which suggests that a tax on normal returns is less likely to contribute to the progressivity of the system. Finally, any inefficiency from the corporate tax arises from the tax on normal returns since a tax on pure rents does not generate ‘deadweight loss.’ Deadweight loss is a term economists use for the difference between the revenue a tax raises and the decline in the taxpayer’s welfare caused by a change in taxpayer behavior due to the tax. A tax on rents does not change taxpayer behavior since taxpayers not subject to any competition would derive net profit from rents even if 99% of them were taxed away.
Since from a political perspective a zerotax rate on normal returns is unlikely to pass, and since it is hard to determine what normal returns are, I would suggest that we allow for permanent expensing (i.e., immediate deduction) of corporate capital expenditures (such as building a new factory). Such expensing is equivalent to an exemption for the normal return to capital.
Super-normal Returns (Rents)
Economists are almost unanimous in supporting a tax on rents since (a) it does not influence corporate behavior and is therefore efficient, and (b) it falls on capital and is therefore progressive. Above the exemption resulting from expensing, the corporate tax should be sharply progressive. The reason to have a progressive tax on rents is that in addition to targeting rents, we also want to discourage bigness, which is equivalent to monopoly or quasi-monopoly status. The less competition a business firm faces, the more profitable it is likely to be, because competition generally drives down prices. That is why the most monopolistic firms are also the most profitable, and why they engage in behaviors like ‘killer acquisitions’ designed to eliminate competition.
At the top, the corporate tax rate should be 80% for income above $10 billion, like the excess profit taxes of the two world wars. In 2019, this rate would have applied to the Big Tech: Amazon ($10.1 billion), Apple ($59.5 billion), Facebook ($22.1 billion), Google ($30.7 billion), and Microsoft ($16.6 billion). Other corporations that had profits over $10 billion in 2019 include other major tech companies (Intel, Micron), Big Banks (Chase, Bank of America, Wells Fargo, Citi, Goldman Sachs, Visa), Big Pharma (Pfizer), Big Oil (Exxon, Chevron), Big Telecoms (AT&T, Verizon, Broadcom), United Health, Boeing, and some major consumer brands (Johnson & Johnson, Home Depot, Disney, Pepsi). All of those enjoy some degree of monopolistic or quasi-monopolistic status.
Such a high tax rate may persuade the corporations subject to it to split up. Splitting up corporations to reduce their profits and therefore escape the 80% tax rate is a feature of the proposal and not a bug: as FTC commissioner Lina Khan and others have proposed, we should ideally want to induce Big Tech to divest their anticompetitive acquisitions (e.g., Facebook’s acquisitions of Instagram and WhatsApp). And if the tax structure also motivates an actual break-up of the core business (e.g., along geographic or business segment lines), any loss in efficiency would be more than compensated by the removal of the threat to democracy posed by Big Tech.
Reuven Avi-Yonah is the Irwin I. Cohn Professor of Law at the University of Michigan, where he teaches individual, corporate, and international taxation. He has published over 300 books and articles on various areas of tax law including several recent publications on the relationship between the US corporate tax and antitrust.