10/12/2017

Tax Reform Will Give Workers A Raise

Lawrence B. Lindsey, The Wall Street Journal

The tax-reform package now working its way through Congress is well-designed and far-reaching. It aims to address the reasons that the current economic recovery has been the most anemic on record. If it becomes law, we can expect economic growth to accelerate to roughly 3.2% for the next three to five years, then settle in at a sustainable pace of around 2.5%. This is well above current official expectations for long-term growth of about 1.9%.

Both history and economics suggest that most of this additional growth will accrue to workers in higher real wages. From 1965 through 2010, the economy grew at an average annual rate of 3.1%. It attained that pace by combining 1.5% employment growth with 3.2% growth in the capital stock and a 1.1% annual rise in total factor productivity. By contrast, the 2.1% average annual growth rate observed from 2011-16 combined the same rapid employment growth with a feeble 1.7% expansion of the capital stock and total factor productivity of just 0.5%. Real wages stagnated.

Any growth-oriented policy must therefore address the problem that, in the current recovery, capital-formation growth was nearly cut in half and productivity growth by more than half. The bill now under consideration does exactly that by focusing on incentives to increase investment in fixed capital. It also promotes entrepreneurship and small-business formation—the ultimate driver of productivity growth. In the current expansion, the pace of new business creation relative to business closure paled dramatically in comparison to the historical average.

The tax package promotes business investment by establishing expensing—immediate write-off—of spending on new equipment. That would bring taxation in line with actual business cash flow. Under current law, businesses must spend money now and receive deductions over time. That particularly hurts new and small businesses, which generally have the most pressing cash-flow needs.

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In Search Of History

The Reagan Tax Cuts Worked

Thanks to "bracket creep," the inflation of the 1970s pushed millions of taxpayers into higher tax brackets even though their inflation-adjusted incomes were not rising. To help offset this tax increase and also to improve incentives to work, save, and invest, President Reagan proposed sweeping tax rate reductions during the 1980s. What happened? Total tax revenues climbed by 99.4 percent during the 1980s, and the results are even more impressive when looking at what happened to personal income tax revenues. Once the economy received an unambiguous tax cut in January 1983, income tax revenues climbed dramatically, increasing by more than 54 percent by 1989 (28 percent after adjusting for inflation).

 

-- Daniel J. Mitchell,

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