Trump’s Tax Cuts are Overly-Optimistic, Likely to Inhibit Long-Term Growth
In December of 2017, President Trump signed the “Tax Cuts and Jobs Act”. Aimed at lowering taxes and spurring economic growth, this legislation contains many components that are highly controversial. Those most notable are the cuts in the corporate tax break and a shift in the tax collection scheme for multinational companies. Although aimed at simplifying the U.S. tax code and attracting more companies to America, the prospect of these aims coming to fruition are at the very best optimistic. The consequences of this bill have the potential to suspend economic progress and burden the United States economy with debt for generations.
Currently, any company that is headquartered in the United States is subject to the corporate tax rate of 35% on all of its earnings, including those made overseas. However, while all American-made earnings are taxed the year they are made, overseas income is only taxed if and when it makes its way into the United States. Critics of this system and proponents of the tax bill have long argued that this practice has discouraged investment in America. Recently, The Tax Foundation compared the American tax structure to Organization for Economic Cooperation and Development (OECD) member countries, and found that this model can partially explain why American-based companies flock to countries with a territorial based model. The result is the exclusion of America from the work of these businesses, a phenomenon referred to as the “lock-out” effect.
While the Trump tax bill could address this problem, many critics of the plan have been quick to point-out that instituting a territorial-based model could actually exacerbate the practice of companies offshoring their assets. The Center for American Progress published a September 2017 article on their website warning that the effect of such a change would result in the loss of American jobs and decreased wages. A serious claim, the article cites a figure from the U.S. Bureau of Economic Analysis (BEA) that indicates over half of previously reported foreign income resides in just seven countries with extremely low corporate tax rates. This data suggests that instituting a territorial-based system would only reinforce movement of income to countries with more business-friendly tax systems and have serious consequences on the American economy.
Economists and policymakers don’t have to search very hard for an example of how companies might actually respond to such a change. A 2011 reportpublished by The Tax Policy Center found that when the U.S. government instituted an income repatriation tax holiday in 2004, multinational corporations based in the U.S. were not as generous as proponents of the holiday predicted. Whereas policymakers who supported the holiday anticipated investment in American capital stock and job creation, instead, the report found that most companies bought more shares of company ownership or paid dividends to their shareholders.
Aware of the impact this change may have, Republican lawmakers who crafted the Tax Cuts and Job Acts legislation made last-minute changes to the bill before it was passed to impose a one-time 15% repatriation tax on foreign income moving back into the US. As a result, any of the estimated $2 trillion that is held overseas–if repatriated to the U.S, would be taxed at this rate once the law is instituted. This change came towards the end of the negotiations for the tax bill, after concerns were voiced as to how the bill would impact the deficit. Instituting this tax rate was a natural compromise; lawmakers cut the foreign tax rate in the hopes that it would spur investment the territorial-based model offered, while raising revenue that would have been sunk without it.
While reducing the tax rate companies pay on their income as it moves back into the United States does not resolve the many concerns that a territorial-based model presents, it does address a larger issue: how the tax cuts will create debt. Concerns with the cost of making these tax cuts have underscored the entirety of the tax reform debate. In general, two theories have prevailed: the first comes from the bill’s proponents, who argue that the anticipated growth the cuts will spur will create jobs, broaden the tax base, and therefore raise any revenue lost from lowering the initial rate. Critics on the other hand are far less optimistic; they argue that a lower rate will in lead to decreases in the national revenue, leading to future government budget constraints, inevitable cuts, and possibly even economic downturn in the future.
It is important to note that the fiscal conservatives who support the tax cuts rest their credibility on an optimistic prediction of growth offsetting future debt. Shortly after The Congressional Budget Office (CBO) estimated that the tax bill would result in $1.5 trillion in additional debt over a 10 year span, Secretary of the Treasury Steven Mnuchin claimed that if GDP grows at 2.9% over this same period of time, that growth will offset any revenue shortfalls. While supporters of the bill have rallied around this narrative, what this statement fails to capture is how rare this kind of growth is. According to the BEA, in only one year since 2010 has the U.S. had a growth rate of 2.9% or higher, and after President Bush signed similar albeit less extensive tax cuts during his Administration, 2005 and 2006 alone measured growth above 3 %. This, of course, was followed by a startling declining in growth and the Great Recession.
The CBO estimates that from 2009 to 2019, the Bush Tax cuts will amount to $3 Trillion in additional national debt. Just as these cuts have materialized into a greater burden of debt, the CBO projections show that Trump’s will only add to this. While the United States has a stable credit history, this does not shield it form the drawbacks of slipping further into debt. Foreign Policy magazine reported that before the bill was passed, adding the projected debt would hinder the creditworthiness of the US government and raise interest rates, thus increasing the cost of borrowing. This makes the cost of funding the government grow, thus only worsening the present situation by adding more debt with interest.
Additional costs to borrowing will likely impact the day-to-day government function, particularly in areas of the budget that see the most funding, like national defense. The Brookings Institute found in a 2012 report that adding debt of comparable size to that which already exists would hinder the the creditworthiness of the US government, leading to higher interest rates and a higher cost to lending. Former Chairman of the Joint Chiefs of Staff Mike Mullen called the national debt the single greatest national security risk, echoing concerns cited in the Brookings report that the increased cost of defense spending could jeopardize US leadership abroad. What’s clear from these analyses is that Republican lawmakers and other proponents of the bill have put their blind trust into an overly optimistic projection and corporate altruism. What is not so clear is how strongly these changes will impact future budgetary constraints, economic growth, and US leadership on a global scale.
It is helpful to contextualize this legislation to better understand how this may shake world economic power dynamics. While the US economy is strong, automation continues to sweep the nation, threatening the jobs and therefore the livelihood of millions of working class people. This makes the offshoring of multinational companies, and any bill that might incentivize this behavior, of particular concern. Further, as our population ages, we are reminded of the future financial burden that comes with increasing costs to health care and entitlements. Finally, our young people who will govern over the aftermath of these irresponsible spending measures have their own mountain to climb in the form of student loan debt, which was most recently reported at about $1.5 Trillion in total.
The United States has a debt problem that doesn’t look like it will be solved anytime in the near future. This tax bill, through increasing the national debt and shifting from the global taxation scheme has the ability to rewrite the global economic order. Whereas the current administration touts its first and only major legislative victory as a major step towards economic renewal in the United States, almost every other sign indicates otherwise.