The Republican-controlled Congress is in the final stages of
writing the most sweeping tax changes in forty years. The Senate version of the tax bill is 487
pages, which is hardly the sweeping simplification promised by Republicans, and
too long to easily summarize in this paragraph.
Business taxes are affected far more than individual taxes. Specifics of
the tax bill are summarized at the end of this article.
The main focus of the tax reform is lower taxes for
corporations. The pretext is that lower
taxes on corporations will result in economic growth, but the real goal is to
lower taxes on unearned income. Profits
saved through lower taxes will flow through corporations to shareholders,
including Republican Party donors. The
expectation of higher dividends and capital gains has driven the stock market
by more than 25% since the election.
Most, if not all, serious economic reviews of the tax plan
do not support the expectation of higher economic growth. The Congressional Joint Committee on Taxation
concluded that the bill would only add marginally to economic growth, while
adding one trillion dollars to the US Federal debt, even after accounting for
the additional tax revenue resulting from growth. And both private and JCT analyses conclude that
tax benefits will accrue to the wealthiest Americans, with poorer Americans
losing money.
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This is especially evident when we look at non-recessionary
periods. This chart has deleted all
quarters with negative GDP growth.
Wages have declined since World War II, as a share of gross
domestic income, GDI (or similarly, GDP).
Let's look at Corporate After-Tax Profits. We can see that profits
have soared since the 1980s as a share of GDP. Higher corporate profits since 2004 (excepting the recession year) have not produced higher GDP growth, or higher wages.
Corporate taxes have also fallen as a percent of GDP,
coincident with a falling rate of growth.
But the rise in After-Tax Profits has not resulted in a higher
rate of economic growth, or higher wages for workers. The argument that lower taxes will result in higher
economic growth appears to be void.
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Justification for 2017
Corporate Tax Cut
The rationale for the deep cut in corporate taxes is based
on the idea that higher after-tax profits for corporations will result in a higher rate of economic growth. Also, the argument is that a higher rate of growth will be shared by wage-earners in the form of higher take-home pay.
Let’s look at that idea.
United States Corporate Taxes Compared to the OECD
In justifying the corporate tax cut, both of Alaska's Senators have said that American corporate taxes are "among the highest in the world". They believe those high taxes render our corporations noncompetitive in global markets. As this blog has previously noted, a quick trip to the OECD database shows that idea is simply false. Although US nominal corporate taxes are comparatively high, the corporate tax actually paid in the United States is less than the average for the OECD.
GDP Growth, Corporate Taxes, After-Tax Profits and Wages
The premise that higher after-tax corporate profits lead to higher economic growth and higher wages is false. American economic growth has been declining since World War II.
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Tax Cuts and the Reagan Economy
The final argument for tax cuts is that tax cuts worked in the past. The basis for that claim is generally in the mythology surrounding tax cuts enacted in 1981 and 1987 during the Reagan administration. Close examination proves that economic growth during the Reagan administration was not extraordinary, and the growth that did occur was largely due to other factors. The actual performance
of those tax cuts is complicated by eleven tax hikes that were also passed
during the Reagan years, for the purpose of restoring lost revenues.
Let’s look at the Reagan economy.
Let’s look at the Reagan economy.
First, the “economic boom” of the Reagan years looks less
spectacular when viewed in the context of the total post-war economy. American economic growth has been falling
steadily since World War II, part of a general structural problem in the U.S.
economy, reflected in GDP growth, wages as a share of the economy, and the time
required for recovery after recessions. [That
should be the topic of another blog post.]
There were really only two years during the Reagan administration that had
economic growth above the long-term, non-recessionary trend (1983 and 1984).
Still, the Reagan administration was marked by a period of fairly persistent
and strong growth. There are three
reasons for that growth.
1) Interest Rates
I believe that the main reason for sustained growth during the Reagan
years was falling interest rates. Interest
rates reached a singular, extraordinary peak in 1981 (see chart). The Volcker Federal reserve had largely quelled
inflation by 1981, and began to let interest rates fall. The extraordinarily high interest rates at
the peak probably caused the multiple recessions of 1980 – 1982. As interest rates fell, economic growth which
had been bottled up by high rates was released.
I believe the influence of falling rates far exceeded the influence of
lower taxes.
2) Serendipity
Secondly, there is simply the matter of good timing. The Reagan administration was faced with
recessions in 1981 and 1982, but afterwards enjoyed the benefit of the typical
eight-to-ten year business cycle. There
is no particular policy which can be attributed to this aspect of success,
except luck. [See previous chart, with indicated recessions.
3) Tax Cuts
Tax cuts do provide stimulus to the economy, and the Reagan tax cuts of
1981 were appropriately given during an economic recession. Ultimately, though, tax cuts are literally
borrowing against the future, and must someday be paid back in terms of later
economic growth. I believe that it is
best to run budgetary surpluses when there is strength in the economy, to allow
the government the ability to incur deficits when the economy is weak, without fear
of destabilizing the economy. The Reagan
administration never fully funded the government to pay for the deficits it
incurred.
The 2017 Republican Tax Reform Plan
The
Republican Tax Plan passed by the House and the Senate must now be reconciled
into a single bill. The bills are very
similar in scope, and the process should not result in significant changes to the
plans, except where major errors are discovered in the assumptions and
provisions of the bill.
My
main objections to the plan are as follows:
1) Debt
The plan runs large federal deficits, at a time when the total Federal
debt is approaching 100% of annual GDP, and interest payments are starting to
become a significant part of annual spending.
2) Timing
The plan cuts taxes at a time of full employment, when fiscal policy
should be to run surpluses.
3) Corporate Taxes
The plan awards long-term tax relief to corporations, at a time when
corporate taxes are already low; corporate earnings are already soaring, and no
gains in GDP have been observed.
4) Lack of Middle-Class Tax Relief/Benefits
for Unearned Income
Individual tax relief in the plan will accrue mostly to high income families,
particularly those with unearned income.
The corporate tax reduction will flow through to investors, much more
directly than to wage-earners.
5) Abolishes ACA Individual Mandate
The
tax plan eliminates the individual mandate aspect of the Affordable Care
Act. It is considered an important facet
of the act, in encouraging younger people to participate in the insurance
pool.
Conclusion
The Republican tax plan is based on false ideas: that American corporate taxes are higher than other countries; that higher corporate taxes produce higher economic growth and higher wages; that general tax cuts during the Reagan administration produced extraordinary growth. All of these ideas can be demonstrated to be false, using economic data that is available to anyone.
Lower corporate taxes increased profits, not wages.
The Republican tax plan will probably become law. I expect that it is unlikely to survive the next administration and Congress. But the debts incurred before it is overturned will last for a generation.
A copy of this post is available on my political blog, http://debatablypolitical.blogspot.com/.
Lower corporate taxes increased profits, not wages.
The Republican tax plan will probably become law. I expect that it is unlikely to survive the next administration and Congress. But the debts incurred before it is overturned will last for a generation.
A copy of this post is available on my political blog, http://debatablypolitical.blogspot.com/.
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Appendix
Summary of Important Changes
in the Republican Tax Reform Bill
Business Tax Changes
1) Drops the nominal corporate income tax rate from 35% to 20%. The current Senate bill, perhaps through an oversight, keeps the minimum corporate tax at 20%, eliminating exemptions by default. It is expected that the reconciliation bill will restore those exemptions, dropping the actual corporate rate below 20%.
1) Drops the nominal corporate income tax rate from 35% to 20%. The current Senate bill, perhaps through an oversight, keeps the minimum corporate tax at 20%, eliminating exemptions by default. It is expected that the reconciliation bill will restore those exemptions, dropping the actual corporate rate below 20%.
2) The tax rate for “pass-through” small businesses is
reduced, excepting service businesses such as lawyers, accountants, and
doctors. The amount of the reduction is
to be determined in reconciliation.
3) Rules for
expensing, rather than capitalizing, spending are relaxed, allowing quicker
realization of tax benefits from business investment.
4) Repatriated
profits from foreign operations would be taxed at a much lower rate than US
profits. Cash assets would be taxed at
10% (Senate) or 14% (House), while non-cash assets would be taxed at 5%
(Senate) or 7.5% (House).
Individual Tax Changes
5) All classes of individual taxpayers will see a tax
reduction in the near term, but those reductions will expire in ten years. On the other hand, business tax reductions
will be permanent.
6) The standard deduction is doubled, but personal
exemptions are eliminated. Child tax
credits are increased, but the full value is only available to those with
higher income to offset taxes. For large
families, the child tax credit may not fully offset the loss of personal
exemptions.
7) State & local
tax deductions are eliminated; casualty loss deductions are eliminated. The mortgage interest deduction is retained
for all but the largest mortgages.
8) The estate tax may be eliminated, or the minimum
threshold for the estate tax may be doubled.
9) The individual
mandate tax of the ACA is repealed. Some
fear that this will destabilize the insurance markets, by removing a large
number of younger, healthy individuals from the insurance pool.
10) The fate of the Alternative Minimum Tax will be
determined in reconciliation.
11) Waived tuition, common for graduate students, will now
be taxed. Colleges with very large
endowments will have some earnings taxed.
Other
12) Drilling will be allowed in the Arctic National Wildlife
Refuge Area 1002, which was originally set aside for consideration for oil
development.
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Appendix 2
As this blog has previously noted, American Federal taxes
are among the lowest in the world, in direct contrast to Republican claims that
American taxes are among the highest in the world. Here is data from OECD and the World Bank,
showing the relative ranking of American Federal taxes compared to other
countries.
United States Federal taxes as a share of GDP, compared to 34 OECD countries.
United States Federal taxes compared to 123 other countries; data from World Bank.
Countries with lower Federal taxes than the United States
are Ethiopia, Pakistan, India, Afghanistan, Bangladesh, Central African
Republic, West Bank and Gaza, Lithuania, Oman, Nigeria, Bahrain, Estonia,
United Arab Emirates.
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References
Summaries of the Republican Tax
Plan
Washington Post
Forbes
CNN
Economic Reviews of the Tax
Plan
Tax Policy Center – the plan will ultimately raise taxes on
more than half of Americans.
University of Chicago Survey – only one out of 42 economists
believes that the plan will significantly grow the economy.
University of Pennsylvanian/Wharton review – the tax plan will add about $1.3 trillion to the national debt.
University of Pennsylvanian/Wharton review – the tax plan will add about $1.3 trillion to the national debt.
This article attempts to put lipstick on a pig. The article acknowledges that economic growth
from the tax plan will be small, “but significant”. The article recognizes that slower growth has
occurred in the past two decades, when progressively slower growth has actually
been going on for seven decades. The
article gives no explanation for why growth is slower now than in the past, or
why tax cuts at a time of full employment will help.
A Federal tax expert says that the tax plan is stupid.
Historical Data
OECD tax on corporate profits
US corporate tax among the lowest in the OECD
Corporate Tax as share of GDP
Source of federal revenue
FRED
