Greater Irish flexibility on taxation could pay off

A good rule of thumb in analysing public affairs is to pay particular attention to issues on which there is virtual unanimity within the political class, so that little or no debate is heard.

Low corporate taxation and its importance for Irish economic performance is one such mantra. It is universally regarded as a crucial factor in attracting foreign direct investment, especially from the US.

As the Minister for Foreign Affairs, Mr Cowen, put it at a pre-Nice briefing this week, "populations hold national governments responsible" for taxation. "So if we are responsible, let's have responsibility".

The Government resists proposals to extend qualified majority voting (QMV) to four areas involving taxation in this Inter-Governmental Conference: on value added tax; excise rates; the fight against fraud; and double taxation.

These concern the single market in an enlarged EU. Another proposal is to use QMV for environmental protection, which Ireland also opposes, as it does a proposal to deal with social dialogue by QMV.

Note that corporate taxation is not mentioned here. The four proposals are "really technical adaptations necessary to make the single market work", the President of the Commission, Mr Romano Prodi, told this newspaper on Wednesday.

He accepts the validity of tax competition - "If a country wants to have lower taxation and expensive hospitals, or higher taxation and expensive hospitals, why not? Or free school, why not?" But he wants to ensure it is not used to destroy the single market.

In a speech on November 6th, the Taoiseach spelled out the Government's position: "Experience shows that all aspects of a tax code are, in the real world, interlinked. Changes in one area can have unpredictable knock-on effects. Moreover, there is a danger that a seemingly innocuous precedent could be seized on and used as a bridgehead for wider change".

There is also the fear that "some larger states with more regulated economies with higher taxes would like others to be more in line with them in order to deal with their own domestic difficulties", as Mr Cowen put it. Presumably he had France and Germany in mind.

So at least the policy has been spelled out clearly. But it must be evaluated for its consistency with other major Government objectives. Thus the Taoiseach was eloquent in that same speech in support of EU enlargement, which "is profoundly in Europe's interest, and it is in our national interest, too. Not to support it wholeheartedly would be hypocritical, short-sighted and ungenerous".

Likewise he pointed out that "a large single market of 500 million people will create fresh opportunities for trade and investment, and indeed our business interests in central and eastern Europe are already expanding significantly".

The strong feeling of those who have proposed QMV in these areas of taxation is that it would be impossible to get unanimous agreement from 27 or 28 member-states. Prof Brigid Laffan of UCD argues that "when grappling with complex issues surrounding the extension of QMV, the issue of whether or not it is in Ireland's interests to have important areas of the treaty effectively moribund will have to be confronted".*

She points out that in the Irish system for managing EU affairs policies are rarely subject to robust debate and critical analysis outside the confines of the departmental system. But "given the importance of QMV for the future capacity of the Union, a critical parliamentary and public debate on the Irish position should be encouraged by the authorities".

Ireland's corporate taxation is to be brought down to 12.5 per cent for all companies from January 1st, 2003, under an agreement reached with the European Commission in 1996 by the Fine Gael-Labour-Democratic Left coalition; the Budget reduced it to 20 per cent.

This was deemed necessary to protect the long-standing 10 per cent taxation of foreign investment within EU rules. It was one of the most secretive negotiations in our EU history, and surrounded by very heavy lobbying by and on behalf of US companies.

Clearly the strict mandate to keep the national veto on taxation flows from that experience. There is a continuing conviction that protecting low corporate taxation is crucial for keeping transnational companies here, especially in the high-technology and pharmaceutical sectors where they predominate.

Mr Cowen spoke of Ireland's transition from a rural to a knowledge-based economy, putting us in the vanguard of EU policy-making, with one million in education and 60 per cent of secondary school-leavers going on to third level.

Sweden has been also been successful in attracting FDI. It is within the top 10 in the period 1995-99. Its director, Mr Kai Hammerich, puts it down to competence, the main factor US and other firms seek.

That applies to EU membership, widespread knowledge economy skills, excellent education and infrastructure and a social security system providing a safety net making workers less fearful of change.

That is what these companies like about Sweden. They dislike its high personal taxation, but according to Mr Hammerich, corporate taxation (at 28 per cent and coming dowm) is not a factor compared to competence - and US companies adapt to national policies (including to Sweden's strong but flexible trade unions).

That is instructive for debate here about taxation and QMV. Mr Cowen feels tax competitiveness is still vital at this stage of Ireland's development and that other states have ulterior motives in pressing the issue.

But there is room for debate on whether bringing Ireland's rate up to, say, 17.5 per cent would antagonise foreign investors here, when EU rates are anyway converging down. Choosing a low corporate tax regime affects other forms of taxation as well, making Ireland's tax system comparatively retrogressive, leaning disproportionately on PAYE and indirect taxation.

Sweden, too, opposes the use of QMV in EU taxation policies. In fact Ireland is grouped with Sweden and Britain in several policy issues at Nice; so much so that some senior Commission officials believe it has become informal members of a group cultivated by the Blair government in recent years.

Officially such approaches from London have been resisted by Dublin. But perceptions matter, especially in maintaining good relations with France and Germany. Ireland could have much to gain from being less inflexible on taxation to secure a more effective enlarged EU.

*IGC 2000, Issues Options Implications, Final Report, Institute of European Affairs, November 2000