Will There Be Tax Reform?

Popular Economics Weekly

After Republicans’ failure to repeal Obamacare, they will now attempt to pass a budget, and tax reform plan. But the $1 trillion in spending cuts (mainly from Medicare) they hoped with the repeal of Obamacare, which would go into tax cuts for corporate, capital gains and upper income personal tax brackets, probably won’t happen.

And that could be a good thing, if it focuses solely on enriching a few. Corporate taxes aren’t too high with all the loopholes that bring down the effective corporate tax rate to 13 percent, rather than the nominal 23.8 percent rate, while the maximum personal tax rate was 92 percent in the 1950s under President Eisenhower when the U.S. was building our modern productivity- enhancing infrastructure, which badly needs an upgrade. And corporations already have record corporate profits as a percentage of GDP, which most aren’t using to increase capital expenditures and so productivity (and growth).

Any attempt at tax reform will run into the moderates in a split Republican Party that want to maintain Medicare and other social programs that aid those in the poorest overwhelmingly Republican red states. So the moderates will stymie efforts to cut spending in social programs, which means that Repubs can’t cut taxes without creating a very large budget deficit—even larger than it is now.

Tax cuts matched with spending cuts have only increased the budget deficit under the various Republican plans. Whereas the Obama administration drastically reduced annual budget deficits while rescinding most of the Bush tax cuts. The formula worked. This raised most taxes back to Clinton administration levels, while maintaining the various social programs that benefited the poorest and disabled.

Corporations are not investing what they should and could because they prefer using financial engineering to finagle stock prices to enrich investors (and executives) while squeezing employees’ incomes that hurts their producitivity. 

Whereas public sector investment is so important when it gets spent on productivity-enhancing infrastructure upgrades. It becomes revenue neutral because it stimulates higher growth, just as it did in the last 4 years of the Clinton administration, which yielded actual budget surpluses.

Republicans’ sole focus on spending and tax cuts is a mistake. The CBPP reports the House GOP agenda issued in 2016 a tax reform plan, which they haven’t amended, and that a 2016 Tax Policy Center (TPC) analysis shows would overwhelmingly benefit the highest-income households.  Under the plan, 76.1 percent of the net tax cuts would flow to the richest 1 percent of households in 2017.  And by 2025, essentially all of the net tax cuts — 99.6 percent — would go to the top 1 percent.

The figures are similarly striking for households with incomes over $1 million, who would reap 71.2 percent of the tax cuts in 2017 and 96.5 percent of the net tax cuts in 2025.^[1]  The plan is actually more regressive and more heavily tilted toward those at the top of the income scale than past GOP tax cut proposals.

On the individual tax side, the new tax rate structure would have three brackets of 12 percent, 25 percent, and a top rate of 33 percent.  High-income people’s pass-through income — business income that’s claimed on individual tax returns — would be taxed at a special lower top rate of 25 percent. 

Evidence of the damage from corporations’ financial engineering (instead of productivity-enhancing investments) is the collapse in the number of listed companies. In a Credit Suisse report released in March titled “The Incredible Shrinking Universe of U.S. Stocks,” there were 7,322 in 1996; today there are 3,671. It is important not to confuse this with a shrinking of the stock market: the value of listed firms has risen from 105 percent of GDP in 1996 to 136 percent now. But a smaller number of older, bigger firms dominate bourses.

Consequently between 1996 and 2016, the number of publicly-listed stocks in the U.S. fell by roughly 50 percent — from more than 7,300 to fewer than 3,600 — while rising by about 50 percent in other developed nations, said Credit Suisse. 

A spike in M&A activity also accounted for the rapid acceleration in delistings (and fewer stocks) as well. Private equity has been a dominant force. In 1980, PE deal volume slightly exceeded $1 billion. By 1996, that number had reached $80 billion. And today, it sits at a staggering $825 billion.

Though it’s an old (but time tested) proverb, when private enterprise won’t step up to save economic growth, government has to fill the void.  The best tax reform is that which invests in the future of American productivity, rather than in Wall Street's financial engineering.

Harlan Green © 2017

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