Tax Cuts and Growth

The data is revealing enough about the lie too common among politicians.

In decades past, there was bipartisan support for policies that laid the basis for a long period of broadly shared prosperity. Unfortunately, this consensus seems to have been replaced by the narrow-minded greed of the very rich and, insofar as they can continue to get their way, the story is not likely to end well.

Take, for instance, the Republican tax plan, which passed in December and contained a potpourri of tax breaks for special interest groups and high-income households. Its centerpiece was a large cut in the corporate income tax; the plan lowered the rate from 35 percent to 21 percent.

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First, we tried cutting corporate taxes to stimulate the economy before: Although it received little attention during this most recent debate, the corporate rate was lowered from 46 percent to 35 percent in 1986, roughly comparable to the current cut. If we consider the share of profits that firms get to keep, the 1986 cut meant that the share kept increased from 54 percent to 65 percent, a 20 percent increase. The latest tax cut increased the share of profits that companies get to keep by 22 percent, going from 65 percent to 79 percent.

The 1986 tax cut did not, however, lead to an investment boom. In fact, investment actually fell relative to the size of the economy in the next two years. So, it’s hard to believe that the slightly larger tax cut in the new bill will have a more positive impact on investment.

Besides which, as a practical matter, tax rates have been shown to be a relatively minor factor in determining where companies invest – but they do affect where companies have their profits appear. For example, Apple reports that a huge share of its profits were earned in Ireland, where the corporate tax rate is just 12.5 percent, and Google claims to earn billions in the Cayman Islands, where the tax rate is even lower.

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But what is perhaps most disturbing about the Republican tax plan is that it seems to steer the United States in the opposite direction of proven paths to growth. Looking back in the past, whether across states or across countries, low tax rates have never been the spur to growth. The spur to growth has been a well-trained and well-educated workforce, coupled with the infrastructure needed to support growth.