John Hood: Tax reform merits two cheers
By John Hood
John Locke Foundation
Sunday, December 24, 2017
There’s a valid argument against federal tax reform – an argument that didn’t apply to North Carolina’s path-breaking reforms – but congressional Democrats and their ideological allies are spending most of their time repeating misleading talking points about the bill.
Will the legislation raise the federal tax burden on most Americans in order to pay for tax cuts for the wealthy? With regard to the final deal, the Left’s standard allegation is valid only for some non-wealthy Americans, only in the very long run – almost all Americans clearly pay less for the next few years – and only if one assumes that tax breaks slated to expire in 2025 won’t be extended.
But they will. No future Congress will allow the rate cuts, child-tax credits, or other middle-class provisions expire. Congress will extend the tax breaks again, or make them permanent. Republicans included the expirations solely to squeeze the tax bill under the cap of $1.5 trillion in on-the-books revenue loss required by budget rules currently in place.
Even if the individual tax breaks did expire, most Americans at all income levels would still pay less tax over the next 10 years than they would if the tax bill never happened. They’d get more tax cuts earlier in the decade than the tax hikes they’d get later in the decade. When Democrats start their tax-distribution clock in 2026 in an attempt to claim otherwise, they actively mislead the public by ignoring what happens between now and 2026.
On balance, the 2017 bill will make America’s tax code less harmful to economic growth. Reducing the marginal tax rate on corporate income from 35 percent to 21 percent, allowing businesses to deduct fully their expenses for the next five years, and cutting most of the marginal tax rates on personal income will increase the after-tax return on investment, resulting in more enterprises, more plants and equipment, more research and development, more jobs, and higher incomes.
If not for the expirations in the bill, however, the economic benefits would be far greater. According to a model operated by the Tax Foundation, a think tank in Washington, the current bill would boost the nation’s gross domestic product by 1.7 percent, raise average wages by 1.5 percent, and expand employment by 340,000 jobs. If the business expensing and personal-income provisions were made permanent, GDP would rise by 4.7 percent, wages by 3.3 percent, and employment by 1.6 million.
As I said earlier, it is highly unlikely that the individual tax cuts will expire as scheduled. So, should conservatives give the federal tax bill three full-throated cheers and look forward eagerly to the coming economic bonanza?
No. Save at least one of those cheers. If the tax-cut expirations are notional, so is the estimated fiscal impact of the tax bill.
Virtually all internal and external analyses of the legislation predict that its actual effect on federal budget deficits will be lower than the static forecast suggests. In other words, the supply-side effect of tax reform is not in serious dispute. The magnitude of the effect is, ranging from a 15 percent to 30 percent feedback loop in some models to a much larger effect in others.
Still, even after accounting for the supply-side effect on revenue, this bill will realistically expand cumulative federal deficits over the next 10 years by between $1.4 trillion (according to the Tax Foundation) and $1.7 trillion (according to the Committee for a Responsible Federal Budget).
During the coming decade, the federal government is expected to spend about $53 trillion and take in $43 trillion. Passage of tax reform, then, would make that latter number more like $41.3 trillion to $41.6 trillion. Obviously, we are already headed for a massive increase in federal debt. If nothing else is done, the 2017 tax bill will probably worsen that trend.
To get that third cheer from fiscal conservatives, Congress and the Trump administration need to turn their attention to federal spending. North Carolina accompanied its tax reforms with budgetary restraint. That was wise.