The Artful Dodgers

If income inequality and the wealth share of the “1%” were the room-clearing economic issues of the past few years, corporate tax dodging is shaping up to be a focus of the next few.

President Obama recently used the word deserters to describe firms that have attempted to lower their tax rate by acquiring foreign firms, chiefly in order to switch to lower-tax jurisdictions. A few days ago, Treasury Secretary Jack Lew upped the ante by pushing Congress to take legislative action against such firms, as well as hinting that the Administration itself might try to regulate away inversions.

The stakes are high. Corporations in the U.S. today are hoarding about $2 trillion in profits overseas, arguing that the U.S. corporate tax rate of 35% makes it too difficult to bring this cash home and invest it here–better to keep the money abroad and pay lower taxes in other countries. Yet the truth is that legions of tax lawyers make sure that most big American corporations never pay anywhere close to that rate. FORTUNE 500 companies on average pay more like 19.4%, and a third pay less than 10%, chiefly because of all the generous loopholes Congress has afforded corporations over the years. Partly as a result, U.S. firms are enjoying record profit margins, making more money than ever before yet paying a lower share of the overall U.S. tax pie than they have in decades.

While there are plenty of creative ways for corporations to avoid paying U.S. taxes by stashing money in Ireland, the Netherlands or the Cayman Islands, inversions go a step further: those companies are more or less renouncing their corporate citizenship to avoid taxes. They want the benefits of U.S. talent and markets but not the responsibilities. This strikes many as grossly unfair, particularly given that taxpayer-funded, early-stage investments in areas like the Internet, transportation and health care research are the reason many of the largest U.S. companies got so big and successful to begin with. That’s a leg up–call it corporate welfare–that most firms conveniently forget when they start looking for places to hide their profits. As the academic Mariana Mazzucato argues in her excellent book The Entrepreneurial State, many of the most lauded corporate innovations, including the parts of smartphones that make them smart (Internet, GPS, touchscreen display and voice recognition), came out of state-funded research. Ditto any number of pharmaceutical, biotech and cybersecurity innovations. “In so many cases, public investments have become business giveaways, making individuals and their companies rich but providing little return to the economy or the state,” says Mazzucato.

Tax inversions that expatriate the gains of American corporations to enrich a tiny managerial caste symbolize a whole new genre of selfish capitalism. Globalization allows firms to fly 35,000 feet over the problems of both nations and workers, who are all too familiar with the reality on the ground–an economy in which wages still aren’t rising, good middle-class jobs remain hard to come by and public deficits remain large, since the private sector won’t spend to fill the void. Economics 101 tells us that when one sector saves, another must spend, but the textbooks didn’t anticipate this.

As a recent Harvard Business School alumni survey summed up the problem, we’re stuck in an economy that’s “doing only half its job.” Says Michael E. Porter, an author of the study, “The United States is competitive to the extent that firms operating here do two things–win in global markets and lift the living standards of the average American.” We’re doing the first but failing at the second. “Business leaders and policymakers need a strategy to get our country on a path toward broadly shared prosperity.”

Pressed on their overseas tax dodging, corporations say they’ll stop looking for better deals abroad only if the corporate rate shrinks. (They also want a tax holiday to repatriate foreign earnings.) While we should cut and simplify our tax code to put it in line with those of other developed countries (25% would be fine), the last time the U.S. offered a tax holiday, back in 2004, most of the repatriated money went to stock buybacks and dividends–not investments in factories and workers.

A new relationship between corporations and the U.S. Treasury is what’s really needed. Treasury’s Lew should push for changes to the tax code that would reduce the appeal of inversions to companies that pursue them. That would mean taking on corporate lobbyists and the money culture that has turned the tax code into Swiss cheese. As the inversion debate makes so clear, it’s about time.