Pixel by pixel, President Donald Trump’s tax plan is coming into view. And it’s beginning to look less like genuine tax reform and more like a handout meant to woo voters toward the Republican ticket when they head to the polls in the 2018 midterm elections.
Trump’s Treasury Secretary, Steven Mnuchin, said at a conference on Sept. 12 that if Congress passes tax cuts, they could be backdated to the beginning of the year. That would put a wad of money in taxpayers’ pockets sometime between the passage of a bill and Election Day, 2018. But it probably wouldn’t do much to stimulate growth, because it wouldn’t trigger much new economic activity. Plus, the government would lose billions in tax revenue, pushing the $20 trillion national debt even higher than it would otherwise go.
It’s worth keeping in mind that taxpayers won’t see a dime until Congress actually passes a tax-cut bill, which is harder than Team Trump makes it sound. Earlier this year, Mnuchin predicted Congress would pass a tax bill by August. But August came and went before the Trump administration even proposed a bill. Mnuchin now says a bill is possible by year-end, but most analysts think that’s an extremely tight window.
Whether it passes in 2017 or 2018 (assuming it does), a tax bill could be retroactive to the start of the calendar year without too much trouble. Making it retroactive to the prior year could be more complicated for the IRS and for tax filers, since taxes have already been withheld, and financial decisions made, based on today’s rates. The idea with retroactivity is that giving consumers a pot of found money will produce a big surge in spending. “It would be a big boon for the economy,” Mnuchin said.
Er, not really. The problem with retroactive tax cuts is consumers have already made their spending decisions. “Tax cuts make sense if you’re going to change consumers’ behavior,” says Mark Mazur, director of the nonpartisan Tax Policy Center. “If you reduce tax rates to the beginning of calendar year 2017, you haven’t changed anybody’s behavior in January, February, March, up till now, really.”
A tax rebate won’t necessarily encourage spending
But if people get a windfall from Uncle Sam, won’t they go out and spend it? Not much of it, actually. In 2001, President George W. Bush signed a tax rebate into law, with most U.S. households getting a check ranging from $300 to $600. Various studies showed that consumers who got the rebate spent about 25% of the money. They were more likely to use it to pay off debt, and some just put it in the bank. Paying down debt and saving money are prudent moves, but they don’t stimulate the economy in the short term, which means the stimulative effect of the Bush tax rebates was highly diluted.
At least the Bush rebates arrived during a recession, which is the best time to try to stimulate the economy. We’re not in a recession now, and while many economists would like to see policies that push annual growth rates above the mediocre 2% levels we’ve been stuck at, taking on more federal debt is an inefficient way to do it. “Retroactive tax cuts make little sense from this perspective,” says the nonpartisan Committee for a Responsible Federal Budget. “They only change incentives for economic activity that has already happened.”
Here’s what would stimulate growth: an increase in legal immigration, which would enlarge the labor force and generate more economic activity. Tax reform is important too, but the real need is better business taxes, not tax cuts for individuals. The U.S. corporate rate, at 35%, is considerably higher than in most developed countries. But most companies claim a bevy of tax breaks that make cheesecloth of the tax code while creating perverse incentives for U.S. companies to move money overseas. Lowering the rate, closing loopholes and ironing out distortions would make American businesses more competitive and attract more money to the United States.
That doesn’t change this voter belief: We all deserve a tax cut. So politicians will try to give the people what they want — more money in their pocket. If you get it, enjoy it, but don’t expect much additional prosperity, beyond what a few extra bucks can buy.
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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