The economic effects of EU-reforms in corporate income tax systems

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2 The CORTAX model This study adopts two different tools in analysing corporate tax reforms. The CORTAX model is a computable general equilibrium model for the EU, describing the macro-economic implications of the reforms. The ORBIS database contains micro information from European firms, which is used for the calibration of CORTAX and for the design of tax reforms. This section discusses the features of CORTAX and demonstrates how ORBIS is used in its calibration. Appendix A offers some technical details. 2.1 Structure of CORTAX CORTAX is an applied general equilibrium model that describes the 27 countries of the European Union, plus the US and Japan. It is designed to simulate the economic implications of unilateral and multilateral corporate tax policies as well as the harmonisation of these policies. The model is heavily inspired by the OECDTAX-model of Sørensen (2001; 2004ab; 2007). An earlier version of CORTAX was used for European tax policy analysis in Bettendorf et al. (2006, 2007) and Van der Horst et al. (2007). A detailed description of the structure and parameterisation of the model can be found in Bettendorf and van der Horst (2008). The structure of each country is the same. Countries are linked to each other via trade in goods markets, international capital markets and multinational firms. Below, we discuss the model structure of each country in more detail as well as the international linkages. 2.1.1 Households Following the overlapping generations model of Diamond, households are assumed to live for two periods. One may interpret one period to cover 40 years. We express all variables in annual terms to facilitate the interpretation of the outcomes in terms of national accounts data. Behaviour within each 40-year period is assumed to be constant. Households make their decisions regarding work, consumption and saving by maximizing a life-time utility function subject to an intertemporal budget constraint. When young (i.e. the first period), households choose to allocate their time between leisure and work. When old (i.e. the second period) household do not work but only consume. Young households receive after-tax wage income and lump-sum transfers. This income at a young age is allocated over consumption and savings. Savings are invested in a mix of bonds and stocks, which are assumed to be imperfect substitutes and which yield different rates of return. In the second period, households are retired. Consumption at old age is financed by the assets saved from the first period plus an after-tax rate of return and by lump-sum transfers. Moreover, the older generation is assumed to own the fixed factor used by firms. Therefore, the old receive the economic rents. 6
Household optimization yields expressions for labour supply, savings and the optimal asset portfolio. Asset returns are determined on world markets and we do not explore residence-based taxes on capital in this study. Therefore, saving distortions are not affected by the policies explored here. The most important distortions in household behaviour are related to the consumption/leisure choice. Labour supply behaviour in CORTAX is governed by the usual income and substitution effects. In particular, a higher income tends to raise the demand for leisure and thus reduces labour supply. A higher wage rate for a given level of income raises the price of leisure and thus tends to cause substitution from leisure into consumption. This increases labour supply. Most empirical studies suggest that substitution effects dominate income effects so that the uncompensated elasticity of labour supply is positive. 2.1.2 Firms We briefly discuss the behaviour of the firm. A more detailed analysis is given in appendix A. CORTAX distinguishes between two types of firms: domestic firms and multinationals. One representative domestic firm and one representative multinational headquarter is located in each country. The multinational owns a subsidiary in each foreign country. With 29 countries in CORTAX, we thus have 30 different firms operating in each country, namely the representative domestic firm, the representative headquarter and 28 subsidiaries that are owned by the headquarters in the other countries. Each firm is assumed to maximise its value subject to the accumulation constraints and a production function. Thereby, the multinational considers the sum of the values of its headquarter and all subsidiaries. The production function features three primary factors: labour, capital and a location-specific fixed factor (e.g. land). Labour is immobile across borders and wages are determined on national labour markets. Capital is assumed to be perfectly mobile internationally so that the return to capital (after source taxes) is given for each country on the world capital market. The location-specific fixed factor is supplied inelastically. Its income reflects an economic rent. Rents earned by subsidiaries accrue to the headquarter in the parent country, which is assumed to wholly own the subsidiary. The multinational enterprises are assumed to be wholly owned by households in the origin county. It implies that countries can partly export the tax burden to households abroad by taxing subsidiaries. In calibrating the model of the firm, capital and labour parameters are determined by national accounts data on labour and capital income shares. The fixed factor is – somewhat arbitrarily – set at 2.5% of value-added in each country. This value ensures that CORTAX yields a reasonable value for the corporate tax-to-GDP ratio. A sensitivity analysis with respect to the size of the fixed factor is performed in Appendix B. The initial size of subsidiaries in CORTAX is determined by data on bilateral foreign direct investment (FDI) stocks. In particular, these stocks determine the size of the fixed factor in each subsidiary. Given the fixed factor, multinationals decide on how much capital and labour to 7
Page 1 and 2: The economic effects of EU-reforms
Page 3 and 4: Contents 1 Introduction 5 2 The COR
Page 5: 1 Introduction This report analyses
Page 9 and 10: In today’s corporate tax regimes
Page 11 and 12: Yet, not all forms of profit shifti
Page 13 and 14: companies which report total assets
Page 15 and 16: 2.2.2.1 Corporate tax rates Figure
Page 17 and 18: Table 2.3 Summary information about
Page 19 and 20: 2.2 shows the average debt share pe
Page 21 and 22: Figure 2.4 Corporate tax revenue in
Page 23 and 24: countries (each point representing
Page 25 and 26: Figure 2.7 Reduced-form elasticitie
Page 27 and 28: Figure 2.9 Reduced-form elasticity
Page 29 and 30: 2.3 Interpretation of results CORTA
Page 31 and 32: structured discussion about both th
Page 33 and 34: There is a variety of combinations
Page 35 and 36: Table 3.2 shows the economic effect
Page 37 and 38: of the fixed factor is smaller. Acc
Page 39 and 40: Table 3.4 Economic effects for the
Page 41 and 42: Table 3.5 Economic effects for the
Page 43 and 44: shows the impact of the CCTB-WG20 r
Page 45 and 46: 4.1.2 A scenario without profit shi
Page 47 and 48: shifting within the EU (see section
Page 49 and 50: eturns are taxed immediately and al
Page 51 and 52: other hand, loss consolidation caus
Page 53 and 54: Figure 4.2 Welfare effects of selec
Page 55 and 56: asic version of CORTAX. Note, howev
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5 European corporate income tax Thi
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6 Conclusions We have analysed the
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Devereux, M.P. and S. Loretz, 2008a
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Appendix A Modelling firm behaviour
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c b ∂cb + dbt = r − rb + τRb (
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capital requires that the marginal
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− b Π t −1 = Yt −1 − wLt
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Substituting into the dividend equa
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Appendix A2 Country tables baseline
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Appendix B Country tables CCTB The
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Table B.2: CCTB-WG25 for all firms
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Table B.4: CCTB-WG20 for multinatio
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Table B.6: CCTB-EUav for multinatio
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Table B.8: CCTB-WG20 for multinatio
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Table B.10: CCTB-WG20 for multinati
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Table B.16: CCTB-EUav for multinati
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Table B.20: CCTB-WG20, multinationa
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Table B.28: CCTB-EUav for multinati
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Table C.1: CCCTB-WG20 for all firms
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Table C.3: CCCTB-EUav for all firms
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Table C.5: CCCTB-WG25 for multinati
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Table C.11: CCCTB-WG20 for all firm
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Table C.13: CCCTB-EUav for all firm
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Table C.15: CCCTB-WG25 for multinat
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Table C.21: Decomposition CCCTB-WG2
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Table C.23: Decomposition CCCTB-WG2
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Table C.33: CCCTB-EUav for multinat
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Table D.1: EUCIT-WG20 for all firms
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Table D.3: EUCIT-EUav for all firms
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Table D.5: EUCIT-WG25 for all firms
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The economic effects of EU-reforms in corporate income tax systems

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