White House: Tax cuts will boost GDP by … We’re not sure

Rick Newman
Senior Columnist

President Trump’s team of economists has been generating academic support for the supposed benefits of a big tax cut. The upshot: It would be substantial but take a while.

The Council of Economic Advisers (CEA) released a report on October 27 suggesting that slashing the corporate tax rate could boost GDP by as much as 3% to 5%. But that would only happen over the “long run,” which the CEA doesn’t define. If the long run were five years, the annual boost to GDP would range from 0.6 percentage points to a full percentage point, which would be a relatively large gain. If the long run were 10 years, the annual gain would be half those amounts, ranging from 0.3 to 0.5 points per year. And, of course, the long run could be even longer than that.

Trump has promised to boost economic growth from the middling 2% range of the last several years to 3% or higher. While the latest data show the economy did grow by 3% in the third quarter, that’s just a short-term number. Economists expect GDP growth for the year to be just 2.2% after inflation. For 2018, Moody’s Analytics is expecting 2.9% growth.

Helping ordinary people

Economists get fired up about the predicted effects of tax cuts. An earlier CEA paper predicted that cutting the business tax rate from the current 35% rate to Trump’s target of 20% would boost middle-class incomes by at least $4,000 per year. Prominent economists such as Larry Summers and Jason Furman, Democrats who both worked in the Obama White House, attacked that claim, arguing that it’s vastly overstated. More conservative economists such as Greg Mankiw and Casey Mulligan generally support the CEA’s claims on wage growth.

Kevin Hassett, chair of the CEA, told Yahoo Finance at its All Markets Summit recently that while he stood by the numbers on wage gains, there was some “disappointing news”—It would take at least three to five years for typical families to feel the benefit. In the worst-case scenario, it would take six to 10 years.

“Firms are going to say, ‘Oh geez, we should go to the United States and locate our plants here,’ ” Hassett told Yahoo Finance. “But it takes a while for the machines to get nailed down and plugged in, the jobs to be listed online, people to apply and so on. That process takes a little bit of time.”

The latest paper looks at two elements of corporate tax reform: lowering the rate and allowing “immediate expensing” of most business investment, compared with the gradual expensing in the current tax code. It does not entail cuts in individual tax rates, which will also be part of the Republican tax plan. The House of Representatives is due to unveil a formal tax-cut plan on Nov. 1, with the Senate likely to follow with its own plan.

There are countervailing views on the way tax cuts affect the economy. Some economists say tax cuts are counterproductive if they push up deficits too much because that raises interest rates, which can slow economic growth. The big battle coming over Republican tax-cut bills will revolve around how quickly, and how much, tax cuts are likely to help ordinary people. As Hassett himself points out, corporate profits have been rising 11% per year, while real wages have been rising less than 1% per year. The big question in Washington right now isn’t whether to rectify that, but how.

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Rick Newman is the author of four books, including Rebounders: How Winners Pivot from Setback to Success. Follow him on Twitter: @rickjnewman