Monthly Archives: July 2015

Corporate tax subsidy and investment

Corporate tax policy in Korea lacks, if doesn’t ignore, basic understanding of the nature of firms. In corporate finance theory, large firms are characterized by low investment opportunities and high cash flow and small firms are characterized by high investment opportunities and low cash flow. What is needed to foster investment and thus growth is then to tax large firms more to reduce over-investment cost and small firms less to reduce under-investment cost. If done reversely, the obvious consequence is an increase in cash reserve, perquisites, and tunneling through related-party transactions (in case of family firms), as large firms are short of investment opportunities to exploit. If the government forces them to increase investment, things will get worse. The tax subsidy to large firms will flow to increase their pies within industry, stifling small firms – which are primary sources of growth and employment in the economy – rather than increase the size of pies to share. Even so, the previous and current administrations have continued to cut (effective) tax rates more for large firms – which already have cash in hand but nowhere to invest – and now turn to blame the large firms for not making investment and lay the current economic distress to their charge. Is this a lie or a joke?

Share to grow

Income, or wealth, inequality harms both the rich and the poor by limiting the spectrum of lives to which they are exposed to each extreme. Assume a society that involves persons R and P who are equally talented and passionate but from, respectively, rich (top 20%) and poor (bottom 20%) families; and that every single person in the society desires only to climb up, never down, social as well as economic ladders. Then, the life spectrum one ever experiences is limited to 20% for R and 80% for P if they never interact and 80% for both if they fully interact as R learns from P indirectly lives of the middle 60%. The merits of exposure to a wider spectrum of lives is obvious. For R to sell products as a businessman or win votes as a politician, for example, she must understand what the bottom 80% care or concern about and suffer from. Hence, the more the interaction between R and P, the wider the spectrum to which R and P are exposed, the more the value created by R and P, the richer the society. As the income or wealth equality narrows the distance between R and P, and the wealth of the society is a function of the interaction between R and P, which in turn is a function of the income or wealth equality, it is straightforward to conclude that the less inequal the income or wealth is, the richer the people are in this stylized society.

Takeaways from this society setup include 1) the importance of lessened inequality, which generates more within-society interaction between the rich and the poor, for economic growth; 2) the importance of indirect learning of lives from different economic classes through reading classics and extracurricular activities at school; 3) the risk of firms hiring talents from rich families having a record of little contact with the bottom 80%.