Canada corporations have come out the financial crisis with lots of money on their balance sheets. Some say too much money, including Bank of Canada Governor Mark Carney. Should they be spending it? Should it be taxed back? Should it be dividended out to shareholders. There’s lots of options, but no easy answers.
Corporate profits: tax them
The aftermath of the 2008–2009 financial crisis weighs heavily on investors; for two reasons.
The first is that governments are weighed down by deficits. Deficits lead to cuts—for example, the Canadian government is raising the age at which retirees can collect Old Age Security pensions from 65 to 67.
The second is that deficits can lead to higher interest rates, as “bond vigilantes” force discipline on government spending. Higher interest rates imply higher inflation. Will the current coupon yields be enough, or will the investor have to buy up to get better yields, and thus incur a capital loss?
In short, deficits are a problem for investors.
Yet, at least in Canada, corporations are sitting on a hoard of cash, estimated to be more than $600 billion.
But, as many have pointed out—the NDP, now Canada’s official opposition party, union economists and social welfare think tanks—corporations are not spending that cash. As a result, many Canadians continue to go jobless, increasing the burden on Employment Insurance and provincial welfare budgets.
The solution, they argue, is to stop cutting corporate tax rates—the rate in the U.S. is 35% while in Canada, the combined federal-provincial tax rate has fallen from 50% twenty years ago to an average of 26% today.
Time to make well-paid managers, who are frequently rewarded with stock options, and well-off shareholders feel some of the pain the other 99% are feeling.
After all, if you’re going to pay down a deficit, it’s better to go after the people who have the money.
Corporate profits: dividend them out
A decade ago, at a conference for Canadian pension funds, a prominent labour economist declared the future returns on labour are likely to be higher than the returns on capital.
It sounded plausible at the time. A wave of impending retirements was likely to cause labour shortages.
But a funny thing happened on the way to the future.
Anger over bank bailouts during the financial crisis put the focus on a stagnant, if not declining, share of income that accrues to the middle class. It has led to cries for higher taxes for the top 1% of income earners. It has also led to calls for corporations to open the taps.
Still, it’s not clear that corporate spending is the best option. Canada’s economic prospects are far from buoyant, and gloomier elsewhere. Better then to conserve cash, lest there be another recessionary squeeze. Apart from that, it’s not certain higher spending creates more jobs. It might just lead to more labour-saving technology.
Beyond that, manufacturing—where it’s long been said the “good jobs” lie—already enjoys a lower tax rate (through accelerated capital cost allowances) than the service industry. Yet manufacturing is not where the good jobs are being created.
If corporations can’t find a way to reinvest their profits, they should pay them out to the shareholders.
Those higher dividends could serve a number of useful purposes. They might impose discipline on managers not to spend foolishly on acquisitions. They could repair pension fund balance sheets in both the corporate and public sector by boosting total returns, especially given the low yields offered by government bonds. They might take some money off the sidelines and into riskier investments.
What’s more, when investors receive dividends, they pay taxes on them (at least on dividends generated outside their registered accounts)