Have you noticed how big businesses seem to keep getting bigger? Many banks and similar financial institutions are now said to be “too big to fail.” Big software companies constantly buy out their smaller rivals. We see the same big company names over and over in small print on the items we buy at the grocery. A few large retailers have practically wiped out the locally-owned mom & pop stores. There could be a number of reasons for this, but I will mention only two.
In relation to banks, federal deposit insurance regulations have been an important driver in creating our enormous, too-big-to-fail banks. When a bank becomes short on cash and the banking regulators become concerned that the bank might not be able to pay back its depositors, they don’t just send the bank some cash to help out. Instead, the regulators send the cash to another, larger, bank and tell the larger bank merge with the failing bank. The larger bank takes responsibility for making sure the depositors get their money. Thus big banks keep getting bigger. If there are no financially-healthy banks big enough to take over a failing bank, then that bank is said to be “too big to fail.” (Deposit-insurance reform might be the topic of a future column.)
Another contributing factor that applies to all businesses is the double-tax on corporate dividends. Have you noticed that many major corporations pay no dividends theses days? For successful companies that still pay dividends, the dividend is often a small fraction of their profit. Why don’t these companies send the profits to their shareholder owners? If the owners had their profits they could decide how to invest their money, instead of leaving the decision to some overpaid CEO. Perhaps Facebook shareholders might have preferred to own Whatsapp as a stand-alone investment, instead of as a division of Facebook, but they were not allowed the choice.
The double tax is one reason owners allow corporations to keep the owners’ money rather than paying it in dividends. Corporate profits are taxed when they arrive at the corporation and again when they are distributed to the owners. Many owners would rather postpone the second tax, preferring to pay on capital gains at what they hope will be a lower rate in the future rather than paying on dividends now. It was not always this way. Prior to 1954 there were no taxes on dividends. Now we have a complicated regime of dividends being taxed or not at different rates depending on who pays them and who receives them. Under our current system, it is the wealthy who are charged the highest tax rate on dividends, and are therefore incentivized to influence corporations to withhold profits from the corporation’s owners and instead use the money to buy other businesses.
Eliminating the second tax on dividends would encourage owners to demand that corporations pay out their profits to the shareholders. This would reduce the power of corporate executives to determine which businesses start-ups get funded, returning that power to investors. It would also reduce the incentive for larger and larger corporations. Executives may complain that they need the money to expand. Without the double tax, corporations could still get money to expand, but would have to first convince investors that the expansion was the best use of their money.
Posted 2021/08/10