A "Trillion-Dollar Blunder" in the Making

A year ago, I wrote a blog entitled, The Big Business Story to Come, about the incoming Trump administration’s plan to cut corporate taxes in a drastic manner to spur economic growth. At the time, I thought it was a dandy idea.

Celebrated by Republicans and scourged by Democrats, a bill that drops the corporate tax rate from 35 percent to 21 percent, is now expected to be voted on and passed this week.

But I’m not so sure this legislation is the cure-all that it is being billed as. Indeed, it may come back to bite us. Just last month, business leaders attending the Wall Street Journal CEO Council were asked for a show of hands if they planned to increase capital spending in the coming year should corporate tax cuts become a reality.

Few responded, prompting President Trump’s top economic adviser, Gary Cohn, to ask, “Why aren’t the other hands up?”

A surprising number of chief executives have said they will use the extra cash to pay shareholders more, and not grow jobs and wages. 

No Talk of Tax Cuts

A little more than a week ago, I attended a conference in New Orleans, bringing corporate site selection consultants, like myself, together with economic developers from around the country. The purpose of Economix 2017 was both educational and networking.

Curiously, there was virtually no talk of massive tax cuts for businesses and how that might affect the economic outlook for communities. Now granted, the final details of the Republican Party’s plan were only hammered out on Friday, but the fact that there was little or no discussion about it had me puzzled.

After all, wasn’t this tax plan going to have broad ramifications on us all? Wasn’t it ostensibly designed to spark more corporate investment, more jobs, and higher pay?

For my part, during short, revolving small group sessions, I told economic developers that cutting the corporate tax rate from 35 percent to 21 percent will make the United States a more attractive place for new business ventures, will stimulate investment and create American jobs.

Most of the economic developers nodded in agreement, and I puffed up like a damned blowfish.

Apparently Not

Soon after I returned home from the conference, the Institute for Supply Management, came out with its semi-annual forecast indicating that capital investment and hiring would grow at a slower pace in 2018.

What’s more, only a small share of the factory purchasing managers surveyed said the proposed tax cuts would be driving their capital-spending decisions.

In hindsight, the ISM forecast was in line with what another consultant told me across the dinner table on my last night at Economix, an event sponsored by my friends at Consultant Connect. This particular consultant, who primarily works with European manufacturers, said a lowering of the U.S. corporate tax rate would mean very little to most of his clients.

In response, I think I said something very deep. “Really?”

I’m All Wet

So let us recap. Though far from being scientific surveys, it would appear that CEOs and factory purchasing managers are saying that a dramatic tax rehaul, the biggest since 1986, will have little impact on capital spending.

Furthermore, the subject of tax cuts was largely ignored at a conference that I attended of corporate site selection consultants and economic developers. And a fellow consultant said his clients could really care less about the federal corporate tax rate.

Now if I am being totally objective, this would indicate that I might be all wet by holding onto the common belief that reducing marginal tax rates will spur economic growth.

To further my self-humiliation, I have learned that the Bureau of Labor Statistics has collected 25 years of data showing that high income earners spend much less for every tax dollar saved than low income earners — 86 cents versus 48 cents respectively.

And a study by the Congressional Research Service showed that economic growth over a 65-year span was largely unaffected by how much tax the wealthy pay. Indeed, growth is more likely if lower income earners get a tax cut.

Now that was something to ponder right there. And I did so over a glass of bourbon.

Compared to the Rest of the World

There has been this long-running assumption, certainly I have subscribed to it, that our corporate tax rate of 35 percent has been unreasonably high in comparison to the rest of the world and that doesn't even include state taxes. Faced with that prospect, companies have been compelled to invest in facilities and jobs in offshore locations with lower taxes.

The United States has the third highest corporate income tax rate in the world, exceeded only by the United Arab Emirates and Puerto Rico, according to the nonpartisan Tax Foundation. We also have the highest corporate income tax rate among the 35 industrialized nations of the Organization for Economic Co-operation and Development (OECD).

“The U.S. tax rate is 16.4 percentage points higher than the worldwide average of 22.5 percent and a little more than 9 percentage points higher than the worldwide GDP-weighted average of 29.5 percent. Over the past ten years, the average worldwide tax rate has been declining, pushing the United States farther from the norm,” according to a Tax Foundation report in August 2016.

Loopholes and Deductions

Clearly, it would seem that the U.S. is out of kilter with the rest of the world. However, the real kicker here is the amount actually paid in taxes relative to taxable income. It varies wildly because of an abundance of loopholes and deductions.

A U.S. Government Accountability Office found in a 2016 study that among large corporations that met that $10 million in assets threshold, 42.3 percent paid no federal income taxes after tax credits in 2012. Among profitable large companies, 19.5 percent paid no federal income taxes. The average effective tax rate among the profitable large corporations was 16.1 percent.

That might be worthy of another glass.

Flush With Cash

Probably the reason why so few CEOs raised their hands at the Wall Street Journal meeting when asked if lower rates would indeed result in more investment, is that corporations really don’t need the money. In fact, they are flush with cash, sitting on nearly $2.3 trillion of cash reserves, double of what it was in 2001.

Which begs the question (or the answer) as to why they aren't spending more of their liquid assets on capital improvements, such as building more new factories around the country.

“CEOs aren't waiting on a tax cut to ‘jump-start the economy’ -- a favorite phrase of politicians who have never run a company -- or to hand out raises,” wrote former New York Mayor and billionaire chief executive Michael Bloomberg in an op-ed piece. “It's pure fantasy to think that the tax bill will lead to significantly higher wages and growth, as Republicans have promised.”

A Core Belief

Cutting taxes has been a core belief of the Republican party since Ronald Reagan. The thinking goes that giving corporations and most Americans tax cuts will result in them spending their tax savings on buying stuff and hiring more workers, which generates more economic growth, more jobs, and incomes to rise.

This theory, which I have long subscribed to, has been derisively called “trickle-down economics.” The phrase originates with American humorist Will Rogers, who mocked President Herbert Hoover’s Depression-era recovery efforts, saying that "money was all appropriated for the top in the hopes it would trickle down to the needy."

Never mind the aforementioned studies by Bureau of Labor Statistics and the Congressional Research Service, if Rogers, who once quipped, “I am not a member of any organized party – I am a Democrat," were around today, he would have plenty of material to work with. The bill will likely not garner a single Democratic vote.

With the passage of the bill, most impartial observers agree the gap between the haves and have-nots is likely to grow. And while most middle-class families will get sizable benefits (at least until the tax cuts for individuals expire in 2025), they are unlikely to see nearly as large of a benefit as the top.

Makes Problems Worse

Declaring the Republican bill a "trillion-dollar blunder," Bloomberg says it does nothing to address the nation’s biggest economic problems.

 “The largest economic challenges we face include a skills crisis that our public schools are not addressing, crumbling infrastructure that imperils our global competitiveness, wage stagnation coupled with growing wealth inequality, and rising deficits that will worsen as more baby boomers retire.”

Bloomberg says the tax bill makes each of these problems worse, achieving four main things:

1. It takes money away from schools and students.
2. It restricts our ability to invest in infrastructure.
3. It does nothing to boost real wages while making health insurance more expensive.
4. It makes it harder to control the costs of Medicare and Social Security without cutting defense and other spending -- or further exploding the deficit.

It would probably take me four additional blogs to explore each of those points in detail to determine if Bloomberg is right. But if he is, and I suspect that he is, those aren’t much in the way of achievements. Nevermind this bill adds $1 trillion to $1.5 trillion to a $20 trillion deficit. Where are the deficit hawks in the GOP when you need them?

Could we see an uptick of corporate investment with lower rates? Probably so, but who will benefit and at what cost? I’m not so sure we are going to like the answers when it’s all said and done.

I’ll see you down the road.

Dean Barber is principal of Barber Business Advisors, LLC, a location advisory and economic development consulting firm based in Dallas. Mr. Barber is available as a keynotes speaker and can be reached at [email protected] or at 972-890-3733.