For those of us who want to save the planet from global warming, there is only one international negotiation that we should pursue this year. It’s not the UN climate change conference COP26 in Glasgow in November. The discussion about the tax challenges arising from multinational companies and digitization at the OECD in Paris can be observed.
Before you conclude that the above statements are ridiculous, this is something you should consider. The basic economic problem is the same for global warming and the taxation of multinational corporations: free riders. Both have the same emerging solution based on principled and muscular unilateralism. It is clearer and simpler with taxation than with the climate. For this reason, a Paris deal, as the US is now proposing, could pave the way for the kind of environmental solutions that have so far proven elusive.
Free riders play an important role in combating rising temperatures as global greenhouse gas emissions are the core problem. Countries and their populations know that if others make an extra effort to be environmentally friendly, they can drive or cheat freely on any business. Hence there is no incentive to make the necessary effort. You can clearly see the result in the data. The carbon dioxide concentration in the atmosphere has not deviated from its steady upward trend after 30 years of UN climate conferences.
For international corporate taxation, small countries can use the systems of their larger neighbors free of charge. By setting a lower rate, they can attract profits and some related businesses because the loss of sales by domestic companies is small compared to the profits from the profits they can attract. This calculation does not apply to large countries, so profits are shifted to smaller jurisdictions, undermining the ability of all countries to collect corporate taxes.
Part of the solution the US is now proposing to end the race for corporate tax rates is an approach based on tough unilateralism. When small countries choose not to levy high taxes on multinationals operating in their territory, the host of the group holding company – in the case of tech giants, the US – simply gives itself the right to tax those profits instead.
Tax havens don’t have to agree to or be part of the deal as long as most countries make it impossible for companies to relocate their holding companies. If enough countries agree, low-tax areas respond by charging the minimum rate instead of freeriding.
The climate solution is similar. The UK, for example, boasts of having reduced greenhouse gas emissions by nearly 50 percent since 1990, based on the territorial emissions generated on UK soil. But the British consume far more imported goods and services that contain carbon emissions today than they did in 1990. Including embedded carbon in imports, the UK’s footprint is 50 percent higher than its territorial emissions, and the reduction has been far smaller. Official figures show a decrease of only 9 percent since these statistics were first collected in 1997.
If the UK and other large developed countries are to raise the price of carbon needed to reduce greenhouse gases, they must ensure that domestic efforts do not simply lead to emissions abroad. This requires marginal carbon taxes on embedded emissions in imports to prevent consumers or businesses from simply shifting carbon dioxide to the equivalent of low-carbon tax countries, as they are now shifting profits to countries with low corporate taxes.
Freeriding prevents a global contract from being negotiated, let alone working. But principled and muscular unilateralism by big players can work. The test this year is in international taxation. If national or international politics prevent a tax treaty at the OECD, we should also say goodbye to the prospect of a solution to global warming.