GOP Tax Proposal

We had great fun reading Jeanne Sahadi’s article on CNN Money: Details Of The GOP Tax Reform Framework Revealed.  We have some serious comments about the framework below but first a few snippets from CNN Money that reveal the interaction of CNN and GOP.

Here are some nuggets from Jeanne with [our comment]:

And even though the administration says it wants reform to offer middle class tax relief, the framework calls for a 12% bottom rate, which is actually higher than today’s lowest rate of 10%. But typical families in the 10% bracket today “are expected to be better off” when all the changes under reform are considered together, the blueprint says.  [So why are there quotes around expected to be better off?  Is it because it comes from the framework?]

Next:

[The Alternative Minimum Tax (AMT)] was originally intended to ensure the wealthy [nope, high income as it is not a wealth tax] pay at least some tax.  [It has been a spectacular failure.]

And then:

Kill the estate tax: What Republicans refer to as the “death tax” only affects about 0.2% of all estates — and only those worth more than $5.5 million. [So it is not a death tax?  Jeanne makes strong arguments

And then:

The hope [hope?  Do you think business react to incentives or not?] is that the new system will make U.S. companies more competitive with their foreign counterparts, and that they will use more of their foreign profits to invest and create jobs in the United States.

It is just the usual tone you expect.  Now on to the serious stuff.  Our position is that we only care about business taxes in this reform period.  So the personal tax stuff seems inoffensive but we really don’t care about it.  We care about business taxes and find this proposal is a good one.

  1. It cuts corporate taxes substantially.
  2. It cuts business taxes.
  3. It switches to a territorial system.

No proposal is perfect but this is a good one.

 

 

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A Good Start

We have been hard on the WSJ lately.  Holman Jenkins, jr, one of our favorites, did nothing to help their batting average.  We’ll see if we can get to that later.  Edward Kleinbard has an excellent idea about tax reform that is consistent with our thinking.  You can look it up as we don’t reference ourselves.  Edward reports that a carbon tax of $25 per metric ton would raise $1 trillion over ten years.  He starts with some assertions that are not unreasonable:

To reset the competitiveness of the U.S. tax system, corporate tax reform must be permanent and revenue-neutral. The $1.5 trillion in incremental deficits just approved by the Senate would actually cut into growth, because interest costs on new debt crowd out private investment.

We would add that the reform of corporate taxes (business taxes would be even better) must be large.  He then outlines the positions of the two parties and where the room is for negotiations:

Earlier this year Democratic Sens. Sheldon Whitehouse and Brian Schatz proposed a trade along these lines, but their plan is politically infeasible. They want a carbon tax rate that starts at $49 a ton and ratchets up annually, and their suggested 29% corporate tax rate is unresponsive to the needs of Republicans and many business leaders. This doesn’t mean a deal can’t be reached. The parties need to embrace face-to-face negotiations—not Republican leaders holed up in the White House trying to get corporate tax reform done without a single Democratic vote.

We would also insist on eliminating the gas and diesel tax so that gas is not subject to a double carbon tax. We think $49 per metric ton is high and $25 would be fine but that is the business of politics to negotiate.  A carbon tax of $49 might be sufficient to eliminate the gas tax and corporate tax.  Alternatively, the $49 carbon tax might allow elimination of the gas tax, reducing the corporate rate to 15 percent, and refunding part of social security for low income folks.  Reducing social security would keep the carbon tax from falling too heavily on low-income folks.

We are with Edward.  It is time to negotiate.  Accepting a carbon tax for reduced business taxes seems like a reasonable deal.  You elected officials should be better at negotiation than you have shown so far.

Tax Reform: Serious And Not

The editors at the WSJ and Kevin Williamson at NRO show the two sides of conservative discussion of tax reform.  The latter is serious while the former is not.

The editors are all about rates.  It seems, but is not clear, that they are talking about personal rates and they certainly don’t care much about the deficit:

In an ideal world, the Senate deal would create room for tax cuts of $2.5 trillion or more. That’s at least how much more revenue the government would get if the economy returned to its historic growth rate of 3% a year from the Obama era’s 2%.

Kevin, on the other hand, recognizes the challenges that the Congress faces.  We have a significant deficit.  We have escalating entitlement costs.  We need to have dynamic scoring but tax cuts are not self-financing.  He reports (with comments) that:

President Trump’s preferred policy would reduce the top rate to 35 percent, while congressional Republicans have aimed at 33 percent, along with modest reductions in other brackets and, possibly, a large reduction in the corporate tax rate. Our corporate tax rate is one of the world’s highest on paper, but the effective rate — what corporations actually pay — is on average unexceptional, though it varies significantly from industry to industry and firm to firm.

We favor reductions in the corporate tax rate because of the variation that Kevin notes.  Corporations do things because of tax rates.  Those industries that face higher rates take actions like tax inversions to avoid them.  Rather than try to outlaw such inversions we should make the USA a tax haven so corporations and their profits come here.  It is also a reason why we favor lower corporate rates rather than immediate expensing.  We hope that the Congress takes a serious look at tax reform and make it into law.

We Are With Ramesh

Ramesh Ponnuru has an article at AEI, “The Republicans Need A Tax Plan For 2017, Not 1981.”  We are in general agreement with Ramesh and he cites a Weekly Standard editorial.  He notes four issues:

  1. Federal Debt is much higher now.
  2. The top income tax rate is much lower.
  3. Payroll taxes are a bigger issue compared to income taxes for most folks.
  4. US corporate taxes have become higher relative to other countries.

There is no surprise that Ramesh’s only suggestion is an expanded child credit that can be used against payroll taxes.  We hope this leads to the GOP making substantially lowering corporate taxes the first priority.  We are OK with some adjustment for payroll taxes but it is not an emphasis.

 

 

What Is Audacious Tax Reform?

David M. Snick at the WSJ suggests we should apply the Warren Miller standard, go big or go home, to GOP tax proposals.  In David’s word, proposals should be audacious.  We are not convinced but here is our plan to meet that standard:

The Graetz Plan to reduce payroll and income taxes while adding VAT plus
Eliminate tariffs, death tax, corporate tax and gas tax and replace with carbon tax.

David is afraid that the current political situation will lead to

Fearing this outcome, Republican leaders are being tempted to play small ball. They might suggest modestly lowering the corporate tax rate. They might propose allowing full expensing of business investment, to be scaled back after several years. To help the middle class? They’ll throw in a modest hike to the standard deduction. Anything to get something done.

Not as audacious as our proposal and not our favorite choices but we would be delighted.  David thinks it is small ball.  What does he suggest?

Republicans shouldn’t play small ball. Their goal should be a tax-reform plan that will create robust economic growth, which in turn will help heal a bitterly divided nation.

Yup, we are on board for robust economic growth.  The key to robust economic growth is productivity.  So what does David suggest?

 At minimum, the standard deduction should be tripled. But reformers also need to think creatively. Tax reform, entitlement reform and health-care reform cannot be considered in isolation. Working families need relief across the board.

So his only two suggestions are: be audacious and triple the standard deduction?  We guess.  And even David recognizes that increasing the standard deduction will have little impact on because, as he says:

People who earn less than $50,000 a year pay an average effective income-tax rate of 4.3%.

So a thousand dollars in deductions nets them $43.  Increasing the standard deduction does nothing for growth and little for low income folks.  As David says and everyone recognizes, payroll tax is a bigger deal than income tax for folks in the lower quintiles of income.  See the Graetz Plan for one possible idea.

Then David invokes Reagan to suggest we favor Main Street over Wall Street.  We don’t know what David means by that as applied to tax policy.  We do know that Reagan understood that incentives matter and fought against those that denigrated his program as “trickle down economics“.  Sending a check to folks is the opposite of supporting robust economic growth.  Better incentives are the way to do that.  Substantially reducing or eliminating the corporate tax is the best way to support robust economic growth.  We are not sure if it qualifies as audacious.

Capital Investment And Growth

Recently we were discussing Reihan’s assertion (look it up it is really recent) that we should go for immediate expensing for capital expenditures rather than lowering corporate rates because capital expenditures are the path to productivity.  We were unconvinced because we see the path to productivity including software and R&D which are already immediately expensed.

Today we found a WSJ article by James Mackintosh that suggests some support for our vision.

Sidebar: We at first used argument rather than vision.  We changed it to vision because, as we said at the time, we have no data to provide.  It just makes sense to us that buildings and equipment are just part of the productivity story.  End Sidebar.

James is discussing the potential pitfalls of Amazon’s new headquarters.  As part of the background he reports:

The lesson from the long term is that companies with high capital spending tend to underperform. Kenneth French, a professor at the Tuck School of Business at Dartmouth College, calculates that shares in the 30% of U.S. companies with the lowest investment returned six times as much as those with the highest investment since 1963.

Along the way he gives examples of overspending including the 1840 British railway boom, peak oil, dot-com, and shipping.  In addition, James notes:

Investing in growth is more plausible. Academics have shown that higher R&D spending on average is followed by better stock performance than for companies with lower R&D spending.

James is far from conclusive on the subject but we continue to think that rates are more important than immediate expensing.  One reason is the evidence he provides on capital spending not leading to stock market price increases but R&D does.  Obviously, stock market prices and productivity are only weakly connected through profits.  It is not QED but it suggests some of the problems with capital spending.  It buttresses the basic argument that rates provide the incentive for profits and solve the problem with firms moving out of the country.  We have moved a little more strongly in favor of rate reductions over immediate expensing.

Reihan’s Assertion

Reihan Salam has an interesting assertion about taxes and productivity in his Who Needs Advisory Boards in the 9/11 NRODT (The National Review magazine).  Reihan’s thoughtful article is worth a subscription.  First, let’s start with an assertion Reihan makes and provides data on:

Right now, our chief interest should be in boosting productivity growth.  From the end of the Second World War to the start of the Great Recession, real GDP per capita in the US has grown at 2.5 percent a year.  Since then it has grown at a mere 0.6 percent a year.

Yup, we totally agree.

Sidebar: Phil Gramm and Michael Solon at the WSJ frame the same issue slightly differently as bringing back three percent GDP growth.  The difference between the numbers reflects population growth.  We prefer Reihan’s formulation because it eliminates population growth.  Of course, the open-borders folks at the WSJ like it the other way. End Sidebar.

Taxation is an important issue in producing real GDP per capita growth.  Two of the possibilities are reducing the corporate tax rate or full expensing.  We prefer The Donald’s view of reducing the tax rates on all businesses not just corporations.  Full expensing mean that equipment et cetera can be expensed immediately for tax purposes rather than depreciated over time.

In discussing these options Reihan supports full expensing over lower rates because he thinks the former will be better for productivity.  In fact, he thinks the choice will have profound implications for America’s economic well-being because we should reward companies for investing in new equipment rather than reward companies for investments made ages ago.

The issue is: do depreciable assets drive productivity?  We don’t know the answer but our priors are that it does not.  We  agree that machinery is part of the equation but think that productivity is driven by R&D, software, and things that are already fully expensed.  It is a great question for grad students out there.  We would like to see the data.

Reihan brings up a problem for full expensing if we have a binary choice between full expensing and lower business tax rates.  US multinationals move operations and profits to current tax havens.  There the profits stay to avoid US taxes.  This leads to less investment in the US.  It is one of the reasons why we are for lower rates if it is a binary choice is between lower rates and full expensing.  Let the US be a tax haven.

We would like better data on what is best for productivity.  At the same time we cannot let perfect be the enemy of good.  As Reihan concludes, overhauling corporate [business] taxes could be an achievement for the ages.  We agree.  Our suggestion is to ignore personal taxes and get corporate taxes somewhere near right.