On the day Joe Biden moved into the White House, America’s tax plan was pro-growth, and working well, despite COVID-19. In The Wall Street Journal, Tyler Goodspeed and Kevin Hassett from the Hoover Institution explain that the 2017 Tax Reform pushed through by President Trump has delivered on its promises. They write:
As Karl Popper demonstrated, evaluating a scientific proposition requires falsifiability—theories or hypotheses can’t be proved or disproved if they can’t be subjected to empirical tests. When the 2017 Tax Cuts and Jobs Act was passed, we were criticized for being overly optimistic about the effects we predicted it would have. Now the evidence is in. Our critics were wrong, and the economic data have met or even exceeded our predictions.
In 2017, we predicted that reducing the federal corporate tax rate to 21% from 35% and introducing full expensing of new-equipment investment would boost productivity-enhancing business investment by 9%. Though growth in business investment had been slowing in the years leading up to 2017, after tax reform it surged. By the end of 2019 it was 9.4% above its pre-2017 trend, exactly in line with the prediction of our models. Looking solely at corporate businesses—those most directly affected by business-tax reform in 2017—real investment was up by as much as 14.2% over the pre-2017 trend, slightly more than we expected. Among S&P 500 companies, total capital expenditures in the two years after tax reform were 20% higher than in the two years prior, when capital expenditures actually declined.
Citing an extensive empirical literature, we also predicted that by enhancing worker bargaining power and increasing new investment in domestic plant and equipment, the average household would see real income gains of $4,000 over three to five years. In 2018 and 2019 real median household income in the U.S. rose by $5,000—a bigger increase in only two years than in the entire eight years of the preceding recovery combined. In 2019 alone, real median household income rose by $4,400, more than in the eight years from 2010 through 2017 combined.
Those extra wages contributed extra tax revenue as well. We predicted that despite a short-term drop in corporate income-tax revenue as companies expensed new-equipment investment, the combination of increased economic growth and reduced incentives to shift corporate profits overseas would result in a long-run net positive revenue effect. Before the reform, U.S. firms moved their profits overseas to avoid the highest tax of any advanced economy. After the reform, we predicted that more profits would be booked at home. For each dollar booked at home there would be a gain for the U.S. Treasury, since 21% of a positive number is much larger than 35% of zero.
Commentators have recently noticed that in the 2021 fiscal year, not only did federal corporate tax revenues come in at a record high, but corporate tax revenue as a share of the U.S. economy rose to its highest level since 2015. Actual corporate tax revenue in 2021 was $46 billion higher than the Congressional Budget Office’s post-reform forecast. Even though the U.S. economy was only slightly larger in 2021 than the CBO had projected, corporate tax revenue as a share of gross domestic product was 21% higher (1.7% versus 1.4%).
Some have attributed this good news to transitory effects related to the pandemic rather than 2017 tax reform. Yet in President Biden’s latest budget, the administration’s own baseline forecast for corporate tax revenue (i.e., before the revenue effects of its budget proposals) is now above the CBO’s pre-2017 forecast for every year from 2023 through 2027. This is true for both the level of corporate tax receipts and as a share of GDP. This optimistic forecast is consistent with our views about the long-run nature of the effects of tax reform and inconsistent with critics’ claim it has no effects.
Why are corporate tax receipts coming in not only at much higher levels, but also as a bigger share of the U.S. economy? The reason is exactly as we foreshadowed in the 2018 and 2019 Economic Reports of the President. By neutralizing the favorable tax treatment of selling intellectual-property services overseas via a foreign subsidiary, and by taxing past corporate earnings previously sheltered in those foreign subsidiaries, the 2017 tax law effectively created an incentive for multinational enterprises to move their profits home.
As a result, not only did domestic pretax earnings grow by a greater percentage than total pretax earnings between 2019 and 2021, they also grew by more for companies with greater foreign-derived income from intellectual property, meaning these firms were either repatriating intellectual property to the U.S. or locating less new intellectual property outside the U.S.
This is reflected in aggregate international transactions data from the Bureau of Economic Analysis, which shows that firms were repatriating only 36% of prior-year foreign earnings, and reinvesting 70% abroad, in the years leading up to 2017. Since 2019 they have on average repatriated 57%, and reinvested only 47% abroad. Overall since 2017, firms have repatriated $1.8 trillion in past overseas earnings.
In addition, the average annual dollar value of acquisitions by U.S. companies of foreign assets in 2018 and 2019 was 50% higher than in the two preceding years, while acquisitions of U.S. assets by foreign companies declined by 25%. Multinationals find the idea of domiciling in the U.S. and pursuing outbound acquisitions increasingly appealing. U.S. companies, on the other hand, are increasingly uninterested in being acquired by foreign multinationals and domiciling in lower-tax jurisdictions.
One of the exciting aspects of academic discovery is the opportunity to test theories and hypotheses against real-world data. In 2017, we put our hypotheses about the effects of corporate tax reform in the public record and have passed the test. The White House and Democrats in Congress should think twice about undoing the corporate tax reform and partisan economic pundits should point their criticisms at something else.
Despite the success of the 2017 reform, Biden and his Treasury Secretary, Janet Yellen, want to yoke the United States to an international tax plan that will only undo the progress America has made. The Journal’s editorial board writes today:
Treasury Secretary Janet Yellen and her political allies are indefatigable in their attempt to railroad Congress into agreeing to a global tax deal, and their latest argument is that the pact will be good for U.S. competitiveness. If only that were true.At issue is an agreement last year at the Organization for Economic Cooperation and Development to upend century-old international tax principles. The first prong is a form of excess-profits tax targeted primarily at the largest U.S. tech companies, to be applied in markets where they operate rather than where they are headquartered. The second is a minimum effective tax rate of 15% to be applied to the profits of global firms.
Ms. Yellen and the plan’s other backers say this will end a supposed “race to the bottom” on tax rates, although that race is mostly a figment of the left’s imagination. Lately they’ve added another argument: Implementing the OECD deal will boost U.S. competitiveness by reforming America’s dysfunctional tax system while protecting companies from punishing foreign taxation if other countries implement the OECD plan and America doesn’t.
If Ms. Yellen wants to reform U.S. taxation of overseas profits, we can only say be our guest. The U.S. for decades taxed American companies’ global profits, already an uncompetitive set-up, but did it in a way that provided incentives for companies to invest outside the U.S. rather than repatriating their earnings. The 2017 Tax Cuts and Jobs Act made important progress in reforming that mess, but room for improvement remains on matters such as the tax treatment of past losses.
But Ms. Yellen and Congress don’t need foreign help to fix those problems—and the OECD plan could put U.S. companies at a disadvantage globally. For instance, the OECD offers more generous tax treatment for subsidies disguised as refundable tax credits of the sort that are common in Europe, while cracking down on the form of nonrefundable tax credit more common in the U.S.
That illustrates how one point of the OECD plan is to prevent exactly the sort of tax-policy experimentation that can benefit the U.S. over the longer term. Ms. Yellen’s solution to the tax-credit conundrum is to press Congress to switch toward refundable tax credits to stay within OECD rules. Congress should defend its ability to impose whatever rules on credits, or anything else, it thinks might benefit the U.S. economy.
Speaking of Congress, the politics belies the claim that a global tax would be good for U.S. companies. The Biden Administration supports the OECD effort because the White House and Treasury hope a global minimum tax will provide political cover for their own tax increases on corporate profits. But at almost every turn the Administration’s tax plans are worse than the OECD proposal, whether by imposing a higher effective rate than 15% or offering fewer deductions and exemptions.
Ms. Yellen wants Congress to believe this doesn’t matter because she and her peers have agreed to the OECD plan so it’s a fait accompli. Hardly. Efforts to implement the OECD deal in the European Union are stalled, and no one knows how China or India will interpret the proposed rules when—or rather, if—those countries rewrite their tax laws. Nothing would be worse for U.S. competitiveness than for Washington to rush into implementing a “global” tax deal that isn’t global at all.
Competitiveness is what lawmakers should debate when they talk about the tax code. But a global tax deal that’s bad for America and isn’t even global is the wrong way to do it.
Action Line: You know the old adage, “if it ain’t broke, don’t fix it,” and it’s cliche, but that doesn’t make it wrong. America needs a steady, pro-growth economic policy, not a punitive revenue-generating expedition meant simply to punish the enemies of one party. Stick with me and stay ahead of this madness.
E.J. Smith - Your Survival Guy
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