Candice Horbacz
The global economic landscape increasingly demands robust business investment to fuel innovation and foster sustainable economic growth. In this context, major economies like Canada and Germany are urged to solidify their commitment to economic expansion by making immediate deductions for machinery and equipment investment permanent. This strategic move would significantly strengthen their respective business investment climates and set a crucial precedent for other nations. Unfortunately, a concerning trend reveals that important investment incentives in several countries, including three that collectively account for nearly a fifth of global private investment, are slated to diminish in the coming years. Policymakers worldwide now face a critical opportunity to safeguard long-term growth by embedding these beneficial policies into their permanent tax codes.
The Economic Imperative: Why Capital Investment Matters
Capital investment serves as the bedrock of modern economic prosperity. When businesses invest in new machinery, advanced technology, or improved facilities, they are not merely spending; they are laying the groundwork for future productivity gains, technological advancements, and job creation. Such investments enhance a nation’s productive capacity, allowing it to produce more goods and services more efficiently. This, in turn, translates into higher wages for workers, increased competitiveness in international markets, and a greater capacity to address societal challenges through innovation.
At its core, capital investment is about increasing the stock of capital assets—the tools, equipment, and infrastructure that workers use to generate economic output. A larger, more sophisticated capital stock directly correlates with higher labor productivity, which is the primary driver of long-term improvements in living standards. Governments, therefore, have a vested interest in creating an environment that incentivizes businesses to undertake these critical investments.
Understanding Capital Allowances and Depreciation
When businesses contemplate investments in physical assets, such as a new production facility or a state-of-the-art machine, a primary consideration is the potential profitability of such an undertaking. A key factor influencing this profitability is the tax treatment of investment costs. In an ideal scenario for businesses, these investment costs could be immediately deducted from taxable income. This approach, known as "full expensing," allows a business to recover the entire cost of an asset in the year it is placed in service. The immediate deduction mitigates concerns about inflation eroding the value of future deductions, thereby reducing the after-tax cost of the investment and making it more attractive.
However, the prevailing practice in most countries, including many developed economies, requires businesses to deduct investment costs over an extended period—sometimes decades. This process is governed by "depreciation schedules," which specify how much of an investment can be deducted each year. The annual deductible amount is referred to as a "capital allowance." While designed to align the deduction with the asset’s "useful life," this system significantly raises the after-tax cost of making an investment. By spreading deductions over many years, the present value of those deductions is diminished due to the time value of money and, crucially, inflation.
Global Trends in Capital Cost Recovery and the Impact of Inflation
A recent report by the Tax Foundation examining capital allowances in developed countries paints a clear picture of this challenge. The analysis reveals that, on average, the 38 member countries of the Organisation for Economic Co-operation and Development (OECD) are projected to allow businesses to deduct only 70.1 percent of their investment costs over time in 2025. This calculation meticulously accounts for the time value of money, a factor heavily influenced by inflationary pressures.
The current economic climate, characterized by elevated inflation rates, further exacerbates this issue. For instance, the OECD annual inflation rate stood at 3.6 percent in 2025. In such high-inflation scenarios, the real investment amount that businesses can recover through depreciation is significantly diminished. An increase in inflation from a moderate 2 percent to 3.6 percent can reduce the recoverable investment costs by up to 4 percentage points. This means that, on average across OECD countries, as much as 33 percent of investment costs may not be effectively deductible in real terms, imposing a substantial hidden tax on capital formation. This creates a disincentive for businesses to undertake long-term projects, as the real value of their future deductions is eroded, making capital more expensive.
The Impact on International Tax Competitiveness
The effectiveness of a country’s capital allowance regime is a critical determinant of its "International Tax Competitiveness Index (ITCI)" ranking. The ITCI assesses how well a country’s tax system promotes sustainable economic growth and competitiveness. Over the past 12 years, shifts in capital allowance policies have demonstrably influenced national rankings.
Canada, for instance, has seen its ITCI rank improve significantly, rising eight places from 25th to 13th, partly attributable to improvements in its capital allowances. Similarly, the United States climbed 15 places, from 29th to 14th. These improvements signal that more generous and efficient capital cost recovery mechanisms can indeed make a country a more attractive destination for investment.
Conversely, the phasing out of favorable policies can have detrimental effects. Chile provides a stark example, where its corporate tax rank plummeted by nine places from 16th in 2022 to 36th in the past year, directly linked to the complete expiration of its full expensing regime. This demonstrates the fragility of competitiveness when temporary policies are allowed to lapse without permanent replacements. The economic implications of such a drop include potentially reduced foreign direct investment, a slower pace of domestic capital formation, and ultimately, a drag on productivity and wage growth. Businesses, especially international ones, factor these tax competitiveness indices into their location decisions, favoring countries with more predictable and investment-friendly tax environments.
A Chronicle of Policy Shifts: Country-Specific Insights
The journey towards optimized capital allowance policies has been marked by a series of temporary measures, reinstatements, and, in some cases, permanent reforms across various developed nations. This dynamic environment underscores the ongoing recognition among policymakers of the critical link between tax incentives and economic growth.
In 2022, a select group of countries, including Chile, Estonia, and Latvia, stood out by allowing businesses to deduct the full costs of all investments. Other nations, such as Canada, the United Kingdom, and the United States, offered full deductions for specific types of equipment investments. However, many of these beneficial policies were initially conceived as temporary measures, creating uncertainty and leading to fluctuations in the overall investment climate.
The expiration of these temporary provisions led to a notable decline in the effective recoverability of investment costs. From 71.2 percent (or 69.1 percent when weighted by GDP) in 2022, the amount of investment costs businesses could deduct fell sharply to 68.8 percent (67 percent weighted) in 2024. This trend highlights the "cliff-edge" effect of temporary policies, where businesses face increased after-tax costs of investment once incentives expire.
Looking ahead to 2026, a positive rebound is anticipated, with capital allowances projected to increase to 70.1 percent (79.3 percent weighted). This projected rise is primarily driven by the reinstatement or permanent adoption of provisions in key economies like Germany, Lithuania, New Zealand, Canada, and the United States. The substantial increase in the weighted average is largely attributed to policy changes in the US and Canada. However, this positive trajectory is again threatened, as some of these policies are slated to expire between 2026 and 2030, which would cause the after-tax cost of investment to rise once more, with deductible investment costs expected to fall to 69 percent (67.6 percent weighted).
Canada’s Path to Permanent Expensing
Canada has actively engaged in leveraging capital allowances to stimulate its economy. A policy providing immediate deductions for investments in equipment and accelerated depreciation for industrial buildings and intangibles, which began phasing out in 2024, has been a significant tool. Recognizing its importance, these phased-out deductions were fortunately reinstated in 2025 and are set to remain in place until 2029, with a gradual phase-out period extending from 2030 to 2033.
Furthermore, Canada has introduced immediate expensing for specific high-tech assets, including patents, data network infrastructure equipment, and general-purpose electronic data-processing equipment and systems software, for acquisitions made after April 15, 2024, and available for use before 2027. This targeted approach aims to boost innovation in critical sectors. A pivotal moment for Canada’s investment landscape is currently unfolding, as a second bill is making its way through the Senate, with expectations of introducing immediate expensing for manufacturing and processing buildings. This presents a golden opportunity for Canadian policymakers to entrench these provisions permanently, thereby providing long-term certainty and a robust incentive for domestic and foreign investment. Permanent full expensing for machinery and equipment, and accelerated depreciation for industrial buildings, could significantly enhance Canada’s manufacturing competitiveness, attract more foreign direct investment, and bolster its position as a global innovation hub.
Germany’s Renewed Commitment to Investment
Germany, a powerhouse of European industry, also recognized the necessity of strong capital allowance policies. Accelerated depreciation schedules for machinery were initially implemented for the years 2020-2022 to counter the economic impact of global events. Although this provision expired in 2023, its importance led to a partial reinstatement for 2024 as part of the "Growth Opportunities Act." This comprehensive legislative package aimed to revitalize the German economy. The renewal was further complemented by an increased depreciation rate for dwellings until September 2029, signaling a broader commitment to stimulating construction and real estate investment.
More recently, the German government has demonstrated a sustained focus on investment incentives by increasing and extending accelerated depreciation schedules for machinery into 2027. This move, reflective of Germany’s drive to maintain its industrial leadership and address current economic headwinds, underscores a growing understanding that temporary fixes are insufficient. To fully unlock its economic potential and maintain its competitive edge in advanced manufacturing and technology, Germany should aim to make these vital investment incentives a permanent fixture of its tax code, providing the long-term predictability that businesses require for strategic planning and significant capital outlays.
The UK’s Strategic Shift to Permanent Full Expensing
The United Kingdom has undertaken a significant reform of its capital allowance regime. Initially, a temporary "super-deduction" of 130 percent for equipment was introduced, allowing businesses to deduct more than the cost of their investment. While impactful, this temporary measure expired at the end of March 2023. Recognizing the benefits of this incentive, the UK government strategically transitioned from the super-deduction to "full expensing" for qualifying equipment, allowing businesses to immediately deduct 100 percent of the cost.
Furthermore, long-life asset investments are now subject to a 50 percent first-year deduction. In a landmark decision, British Chancellor Jeremy Hunt confirmed in his Autumn Statement that full expensing would be made permanent, rather than expiring on March 31, 2026, as originally planned. This strategic shift is projected to have substantial long-term economic benefits for the UK, with estimates suggesting an increase in long-run GDP by 0.9 percent, investment by 1.5 percent, and wages by 0.8 percent, relative to a return to the pre-2021 law. The permanence of this policy provides businesses with unprecedented certainty, encouraging sustained capital formation and positioning the UK as an attractive destination for significant industrial investment.
The US: Addressing Phased-Out Bonus Depreciation
In the United States, "bonus depreciation," a policy adopted in 2017, allowed firms to deduct a larger portion of certain "short-lived" investments in the first year. This incentive began its phase-out in 2023, with the first-year bonus depreciation dropping by 20 percentage points annually. However, in a significant development for 2025, full expensing was made permanent for machinery and equipment. This crucial provision, according to Tax Foundation estimates, is expected to raise long-run GDP by 0.6 percent and increase the stock of capital by 1 percent.
Beyond equipment, the US is also temporarily providing 100 percent bonus expensing for qualifying structures (covering nearly 100 percent of all industrial buildings), provided construction begins after January 19, 2025, and before January 1, 2029, and the asset is placed in service before January 1, 2031. This encompasses roughly 10 to 15 percent of all buildings and structures in the US. These provisions temporarily elevated the US to the 3rd best capital cost recovery system in the OECD, a dramatic improvement from its 2024 ranking of 21st. For sustained economic benefits and to remove a significant bias in its tax code, US policymakers should seriously consider making the remaining building investment eligible for neutral cost recovery and make this provision permanent, ensuring a truly comprehensive and predictable investment environment.
Lithuania and New Zealand: Diverse Approaches to Investment Incentives
Beyond the major economies, other countries are also refining their capital allowance policies. Lithuania has taken a bold step by implementing permanent full expensing for machinery and equipment, as well as for software and acquired rights, effective January 1, 2026. This comprehensive and permanent approach signals a clear commitment to fostering a dynamic investment climate and positions Lithuania as a highly attractive location for capital-intensive businesses.
New Zealand’s approach has been more cyclical. It temporarily reintroduced depreciation for commercial and industrial buildings with an estimated useful life of 50 years or more from 2020 to 2023, only to abolish building depreciation again in 2024. However, the 2025 budget introduced a new immediate 20 percent deduction for any new assets, including industrial buildings. Critically, no end date has been set for this accelerated depreciation method so far, offering a degree of ongoing certainty, though not yet full expensing. These varied approaches highlight the global recognition of capital allowances as a policy lever, but also the diverse strategies and levels of commitment adopted by different nations.
The Critical Distinction: Temporary vs. Permanent Policies
While any expansion of capital allowances can offer some immediate benefits, the distinction between temporary and permanent policies is profoundly significant for long-term economic impact. Temporary expansions, by their very nature, introduce uncertainty into business planning. Businesses may accelerate some investment decisions they had already planned, creating a "pull-forward" effect where investments happen sooner than they otherwise would have. However, this often merely shifts the timing of investments rather than genuinely increasing the overall level of investment or stimulating new projects that would not have occurred.
Major capital investments typically involve multi-year planning horizons, substantial financial commitments, and a careful assessment of future profitability. Businesses are inherently risk-averse and require stability and predictability in the tax environment to justify such undertakings. Temporary policies fail to provide this necessary long-term certainty, making it difficult for firms to commit to large-scale, transformative projects. A permanent expansion of capital allowances, conversely, provides a stable framework, significantly reducing the cost of capital over the long run and consistently incentivizing businesses to undertake more ambitious and innovative investments that drive sustained economic growth, enhance productivity, and create lasting jobs.
Broader Economic Implications and Policy Recommendations
The policies adopted by countries like Canada and Germany hold particular weight given their significant contributions to worldwide private investment. If their capital allowance policies are not optimally geared towards encouraging investment, it will inevitably create a drag on global investment flows and overall economic output. In an interconnected global economy, the competitive advantage offered by robust investment incentives can attract capital and talent, while suboptimal policies risk capital flight and slower domestic growth.
Therefore, rather than resorting to temporary policies that inevitably phase out and expire, policymakers in Canada, Germany, and other nations should concentrate their efforts on implementing long-term, structural reforms that consistently support investment. Specifically, Canada and Germany should aim to permanently provide immediate deductions for investments in machinery and equipment. For all other capital investments, where full expensing might be fiscally challenging or administratively complex, they should at a minimum provide adjustments for inflation and the time value of money. This concept, known as "neutral cost recovery," ensures that businesses can deduct the real economic cost of their investments, preventing the tax system from distorting investment decisions.
Conclusion: A Call for Long-Term Vision
The evidence is clear: well-designed and permanent capital allowance regimes are powerful engines for economic growth, fostering innovation, boosting productivity, and creating jobs. The experiences of countries like the UK, which has made full expensing permanent, and the US, which has done so for equipment, demonstrate a growing global recognition of this fact. Canada and Germany, as major players in the global economy, have a unique opportunity—and a responsibility—to follow suit. By making their immediate deductions for machinery and equipment investment permanent and moving towards neutral cost recovery for all capital assets, they can provide the long-term certainty that businesses desperately need. This vision, focused on stability and sustained incentivization, is not just about tax policy; it is about building resilient, innovative, and prosperous economies for the future.
