Good stuff...let's get the tax cut ball rolling.
European Union Newcomers Anger France, Germany With Tax Cuts June 1 (Bloomberg) -- The European Union's newest members are using corporate tax cuts to win a bigger share of investment in Europe, and putting pressure on French President Jacques Chirac and German Chancellor Gerhard Schroeder to consider tax reductions to spur growth and increase employment.
Companies including Volkswagen AG, Europe's biggest carmaker, France's PSA Peugeot Citroen and Siemens AG, Germany's biggest engineering company, are building factories and hiring workers in the eight Eastern European countries that joined the EU on May 1. The median tax rate in those nations is 19 percent, half that of Germany and compared with 34 percent in France.
``The days of high corporate tax rates are dead,'' said Rajeev Demello, who manages the equivalent of $7.3 billion in European bonds at Pictet & Cie in Geneva. ``It's utopian to imagine tax competition won't intensify, triggered at least in part by falling corporate taxes in central and eastern Europe.''
Chirac, 71, and Schroeder, 60, responded in a statement on May 13 by suggesting Eastern European nations should be prepared to raise taxes or make do with less western aid. France and Germany have limited scope to bring down taxes without reducing spending because their budget deficits exceed the ceiling of 3 percent of gross domestic product for the dozen countries sharing the euro.
In 2004 and 2005, France and Germany are cutting income taxes rather than corporate taxes, to encourage consumers to spend more and help their economies recover. Labor unions and in Schroeder's case, lawmakers from his own party, have blocked spending cuts.
Rising Investment
Governments in Poland, Slovakia and Hungary have already slashed corporate taxes to lure more investment. Those three, together with Hungary, the Czech Republic, Latvia, Lithuania, Slovenia and the Mediterranean islands of Cyprus and Malta, are the countries that joined the EU last month.
The amount companies have invested in the eight eastern EU entrants since 1990, the year after the Berlin Wall fell, was $134 billion by 2002. In 1990, it was just $2.2 billion, according to United Nations figures.
Last year, the eight countries won 274 investment projects, 14 percent of the European total, an increase from 12 percent in 1999, according to figures published on May 27 by Ernst & Young. Over the same period, Germany's share dropped to 5.7 percent from 9.3 percent.
``Enlargement will force reform of sclerotic European economies such as Germany's,'' said Katinka Barysch, chief economist at the London-based think-tank Center for European Reform. ``Tax competition encapsulates a wider point -- the EU's expansion will make Europe Inc. more competitive.''
Fighting Back
Some EU countries are fighting back. Finland, home to Nokia Oyj, the biggest handset maker, last month said it plans to cut the corporate tax rate to 26 percent next year from 29 percent, in part to compete with neighboring Estonia. Austria will slash its corporate tax rate by nine percentage points to 25 percent from 2005 to stem job losses to the east.
Portuguese Prime Minister Jose Manuel Durao Barroso cut the corporate tax rate to 25 percent from 30 percent. Greece plans to reduce the tax rate on retained earnings by 10 percentage points to 25 percent. The EU's average corporate tax rate declined to 31.7 percent last year from 32.5 percent in 2002 and 39 percent from 1996, as accession talks gained pace, according to KPMG LLP.
Tax Divide
The U.S., the largest foreign investor in Europe, slashed its corporate rate to 34 percent in 1986, triggering a wave of reductions in Canada, Australia, France, Germany and Japan up to 1993.
``Taxes can be a significant factor in location, along with labor supply, infrastructure and proximity to market,'' Michael Treschow, chairman of Electrolux AB, the world's largest maker of household appliances, said in a telephone interview. ``Inevitably, we are going to see taxes driven down across Europe.''
Stockholm-based Electrolux employs 3,500 people in Hungary and on May 11 said it will move production of the Trilobite robotic vacuum cleaner to Hungary from Sweden to save about $19 million a year. About 500 Swedish jobs will be eliminated.
The German economy will expand 1.5 percent this year and France's will grow 1.7 percent, compared with 4 percent average growth in the new EU members, the European Commission predicts. France's unemployment rate is 9.8 percent and Germany's is 10.5 percent.
`Ruinous' Cuts
Schroeder warned against ``ruinous'' tax cuts by Eastern European countries at a gathering of foreign reporters in Berlin on May 24.
``Nobody is stopping France and Germany and other high-tax countries from reducing their taxes,'' Ireland's Deputy Prime Minister Mary Harney, 51, said in an interview in Dublin.
``Particularly poorer smaller countries need to be given the freedom and the flexibility to be able to decide to stimulate economic activity, to encourage investment, to reward entrepreneurship,'' she said.
Echoing a debate in the U.S. about jobs leaving the country, Schroeder said in March that German companies shifting production to new EU member states are ``unpatriotic.'' U.S. Democratic presidential candidate John Kerry has pledged to help create 10 million jobs over four years by eliminating incentives for companies to move jobs overseas and by earmarking tax credits to companies that hire at home.
Labor Costs
German manufacturers, with labor costs among the highest in the world as well as tax rates that reflect the expense of maintaining the cradle-to-grave welfare system, are shedding jobs in Europe's largest economy while creating them in the east.
Volkswagen produces its Touareg model, Polo cars and Seat- brand Ibiza models in Slovakia, which has lowered its corporate tax rate to 19 percent from 25 percent. The company accounts for 23 percent of all Slovak exports. Wolfsburg-based Volkswagen plans to eliminate between 2,000 and 2,500 German jobs over the next two years.
Siemens, Germany's largest engineering company, said in April 5,000 German jobs may be affected by plans to invest in countries with lower wages such as Hungary and China.
``This region today is very competitive,'' said Rudi Lamprecht, the head of Siemens' IC Mobile division, the world's fourth-largest cell-phone maker, in an interview in Budapest.
``Taxation is part of our evaluation process because it's an important cost base,'' Lamprecht said. ``Different taxation rates will force, and are forcing already today, business decisions and corporate actions.''
Estonia's Mission
Estonia, with a population of 1.4 million, was the first nation in Eastern Europe to adopt a flat corporate tax and plans to lower the rate to 20 percent by 2007 from 26 percent. It has no corporate tax on reinvested or retained profits, yielding an effective corporate tax rate of about 6 percent.
``During the Soviet time, any entrepreneurship was not encouraged,'' Estonian President Arnold Ruutel said in an interview in Brussels. ``Maybe this is our mission now -- to support entrepreneurs.''
Estonia has lured investment from companies including Finland's Elcoteq Network Oyj, which supplies mobile phones to Nokia and employs 2,000 in the Baltic state that was once part of the Soviet empire.
``Tax is one important part of the equation,'' said Teo Ottola, chief financial officer at Elcoteq. ``Labor supply costs are also crucial.''
`Missing the Point'
Elcoteq estimates that Estonian labor costs are 20 percent those in Finland, its home market, and Germany. The biggest European economy lost 89,196 jobs between from 1990 to 2001 to Eastern Europe, according to a study by Dalia Marin, a professor of economics at the University of Munich.
Hourly labor costs average 4.21 euros ($5.15) in the 10 newer members of the EU, compared with 26.54 euros in Germany and 22.70 euros in the older 15 countries, EU statistics show.
``Labor costs account for 75 percent of business costs,'' said Elga Bartsch, an economist at Morgan Stanley in London. ``By focusing on tax competition, Schroeder and Chirac are missing the real point, which is the need to free up their labor markets.''
Germany and France face resistance to attempts to loosen labor restrictions. France's largest labor union, Confederation Francaise Democratique du Travail, is opposed to any steps that may ease a law introduced four years ago limiting the working week to 35 hours. Schroeder last year was forced to water down a plan to ease firing restrictions for small companies.
Opposition
With the opposition to easing labor rules, Chirac and Schroeder are focusing on the tax disadvantage. In a letter to the European Commission dated May 26, French Finance Minister Nicolas Sarkozy and German Finance Minister Hans Eichel called for proposals on common corporate taxes rules and a minimum rate to create ``fair conditions for competition.''
Any move to harmonize corporate taxes in the EU would need the approval of all 25 members. It is not only the newcomers that are opposed: Ireland and the U.K. have also rejected any steps that would curb tax competition.
Successive Irish governments slashed the corporate tax rate to 12.5 percent from 47 percent in 1988 to lure companies such as Microsoft Corp. and Pfizer Inc., helping the country become the bloc's fastest-growing economy in the 1990s.
``Ireland will continue to strongly oppose any suggestion of the harmonization of taxation,'' Harney said.
Irish Experience
Ireland, the third-smallest economy in the EU before the May expansion, won $34.3 billion of foreign investment in 2003, compared with $36.1 billion in Germany, according to the United Nations Conference on Trade and Development.
``It's outrageous of any of our peer countries to be telling us or indeed anybody else what to do with our tax policy,'' said David Dilger, chief executive of Dublin-based Greencore Plc, a food and sugar company. ``I have absolutely no doubt that Ireland's tax strategy has been of huge benefit.''
Judging from the Irish experience, lower taxes don't have to lead to lower tax receipts -- the main concern in Germany and France about cutting corporate taxes. Ireland's corporate tax revenue last year climbed to 5.2 billion euros, or 16 percent of the total amount of taxes collected, from 425 million euros, or 4.6 percent in 1988.
Europe will be the world's economic laggard in 2004 and will trail the U.S. for the 11th time in 12 years, the EU forecasts. Growth in the U.S. will outpace Europe 4.2 percent to 2 percent in 2004 and 3.2 percent to 2.3 percent in 2005, the EU predicts.
Overseas Competition
China, India and the U.S. are the three most attractive destinations for foreign investors, according to a UNCTAD survey of 87 international location specialists. Poland and the Czech Republic are tied for fifth, with the U.K. the only other European country figuring in the top 10.
Foreign investment into the EU, not including the new entrants, fell 8.5 percent last year to $342 billion, while investment into China climbed 8.2 percent to $57 billion. Investment into the U.S. almost tripled to $87 billion.
Following the path favored by Chirac and Schroeder would mean making all of Europe a less alluring prospect for foreign investors at a time where India and China are growing in appeal, said Helly Bruhn-Braas, managing director of Hamburg-based Bruhn Logistics AG, a transporter of building materials.
``We'd be mad to try to force the new EU members to take a leaf out of our tax rates,'' Bruhn-Braas, whose company employs 500 in Poland and plans to increase investment in Poland and Hungary, said in an interview in Berlin. ``Do we want to drive investment out of Europe completely?''
