Tax Cuts Earn Limited Returns

Twenty-seven thousand jobs - that's how many new posts could be created as a result of cutting corporation tax in Scotland by three per centage points.

And if you leave it at that headline figure, it's quite impressive, particularly if you're one of the people getting one of those jobs.

But look behind the headline figure, and the calculation isn't quite as it might seem.

The oddest bit is the way this has been released by the Scottish government. Last month, it published a consultation document on devolving corporation tax to Holyrood, but with a conspicuous lack of any reckoning on its likely or possible impact.

Crunched numbers

The closest it could come was by borrowing a calculation of a similar move for Northern Ireland, suggesting that a cut to the Irish Republic's corporation tax rate of 12.5% would raise growth rates in the province by 1% each year, and create 58,000 jobs by 2030.

But just after the consultation on the Scottish government's discussion paper came to an end, this apparently vital piece of evidence has been published.

Almost as odd is that it is an "initial modelling result", with a promise to publish more material in due course, once it has crunched through some more numbers.

This initial result draws on a model it is claimed Strathclyde University has been using for 20 years. And while the academics behind that model have helped with technical information, they are taking no responsibility for Scottish government economists' use of their methods.

Irish model

So what does this come up with? Well, the assumption's behind it don't go for the Irish target of a 12.5% corporation tax rate. It's more modest than that.

Its starting point is a 23% rate. That's the rate George Osborne intends to reach by 2014-15, by cutting from the current 26% rate.

What it models is the impact of a cut from 23% to 20% in Scotland, which would be announced well in advance to encourage businesses to start planning in the expectation of the tax cut. That way, you get the impact starting before the cut in revenue that comes from the cut in tax rate.

And the evidence suggests that lower tax encourages more investment by firms already in Scotland, while appealing to foreign investors to locate in Scotland.

Why not model a cut to the Irish level of 12.5%, as was done for Northern Ireland? Could that produce a much more impressive number for job creation?

Or could it be that such a drastic cut would so harm revenue - down by an initial £1.3bn from current levels - that the necessary cuts in public spending would undermine its positive economic effects? We don't know. It doesn't say.

Is that it?

What a cut to a 20% rate does achieve, according to this modelling, is a higher level of employment - rising by 1.1%. That is where the 27,000 jobs come from. But the model only says that is reached after 20 years.

So in the average year, the tax cut would create 1350 jobs, building up to the 27,000 around 2035.

After 20 years, the level of gross domestic product would be 1.4% higher. Investment would be up 1.9%, exports to the rest of the UK by 1.4%, and exports to the rest of the world by 1.3%.

All of that would be welcome, no doubt.

But it does leave the question hanging in the air: is that it? All that fuss about control of taxes, and that's all the difference it would make? This doesn't make it look like the solution to Scotland's economic challenges.

And it brings to mind a highly controversial piece of economic work by Professors Andrew Hughes-Hallett and Drew Scott, published last year, which argued that the act of devolving tax power in itself can drive up growth rates, at least temporarily.

Wildly optimistic

The claim there was that transferring 1% of the tax base to Holyrood would drive up the growth rate by 1.3% per year for five years.

And that's without necessarily cutting the rates at which tax is levied.

Yet the more recent study, from the Scottish government says that transferring more than 6% of total tax revenue to Holyrood (that's the share of revenue from corporation tax at present) would only raise income by a total of 1.4% after 20 years, and that's with a cut in the rate.

To be clear, these two studies were not asking the same question, but they give some indications of answers to the general question: what if Scotland had more tax powers?

The comparison makes the professors' set of figures look wildly optimistic, or else the Scottish government's calculations look underwhelming.