Defense In Depth
Why U.S. Security Depends on Alliances—Now More Than Ever
As the Republican tax bill lurches toward enactment, many of its major features remain in flux. We still do not know the future corporate tax rate, the extent of tax relief for partnerships and other pass-through entities, the details of the international tax changes, and so on. But, as I wrote in “A Tale of Two Tax Plans” (July/August 2017), the central tension underlying the tax overhaul has been apparent for some time. That tension is between the reform’s clear immediate effects and its speculative long-term consequences.
[Read “A Tale of Two Tax Plans” here.]
First, consider tax revenue. The reform’s immediate effect is a large loss in revenue that experts believe will increase the national debt by about $1.4 trillion over the next decade. Without legislative gimmicks such as the sunset of individual tax cuts in 2026 (something no one in Washington expects to happen), the revenue cost is over $2 trillion. In theory, future economic growth will reduce the revenue losses. The Joint Committee on Taxation—the official congressional scorekeeper—just announced that the growth-induced revenue would be about $400 billion. This is not nearly enough to prevent the deficit from ballooning to almost 100 percent of GDP in about a decade. Most other dynamic long-term forecasts project even lower revenue from growth. But Republicans argue that the boost to the economy will be so dramatic that the reform will pay for itself.
Yet all of these forecasts may be too optimistic. The United States is in the midst of one of the longest economic expansions in its history (anemic as that expansion happens to be). It is almost certain that the country will experience a recession in the next ten years, and probably much sooner. Recessions do not help economic growth. Moreover, the last time that the United States cut its corporate rate dramatically other countries followed suit. It is quite possible that they might do so again. If they do, the anticipated competitive advantage built into the reform’s growth projections will shrink. This, too, will lower tax revenue and increase budget deficits.
The picture does not get any prettier upon examination of the reform’s winners and losers. The bill’s immediate effect will be to give the largest tax cuts to upper-income taxpayers. Under the House of Representatives’ version of the reform, the greatest winners are the richest of the rich—the top .1 percent. They will be able to avoid both income taxes on appreciated assets and estate taxes when passing such assets onto their heirs. The deal is even better for wealthy real estate investors who will continue to benefit from tax-free trading of their properties while other investors, those investing in industrial machinery, transportation equipment, or livestock, for example, would start paying taxes on similar trades.
Republicans argue that in the long run the reform’s benefits will flow to firms’ employees, rather than just their owners, dramatically increasing workers’ incomes. Most economists agree that workers will capture at least some of the benefits of corporate tax cuts, but it will most likely be only a small portion—roughly 20 percent. Add to this the 13 million Americans who are projected to lose their health insurance after the tax bill eliminates the individual mandate, a crucial part of the Affordable Care Act that penalizes those who stay uninsured, and one wonders whether the great middle-class tax cut trumpeted by President Donald Trump will actually come to fruition.
Finally, the legislative process that unfolded over the past few weeks will exacerbate the tax code’s problems. As Americans know all too well, U.S. tax law is riddled with loopholes that bestow unintended benefits on the well advised. To some extent, this is inevitable. The tax code is immensely complex. New tax rules change the meaning and operation of many existing tax provisions in ways that the drafters fail to anticipate even when they have time to reflect, consult, and revise. The current tax reform process gives drafters time to do none of these things. Tax bills numbering in the hundreds of pages are rushed through both chambers at breakneck speed. Provisions affecting hundreds of thousands of taxpayers undergo major last-minute revisions. It is all but inevitable that the resulting legislation will make the tax code even more convoluted and more susceptible to gaming than it already is. This will improve neither the fairness nor the revenue-raising capacity of our tax laws.
The nineteenth-century British Prime Minister Benjamin Disraeli thought it wise to hope for the best and prepare for the worst. If the current tax reform bill becomes law, the latter part of his advice would be particularly apt for the vast majority of Americans.