GOP Signals Hope on Tax Reform
After failing to repeal Obamacare, Republican lawmakers in Washington turned their sights to tackling an equally daunting task: tax reform. Last month the Republican leadership released a tax reform framework much to the excitement of the Trump administration. The one question that seems to have dominated the conversation around the Republican tax plan is whether or not middle class Americans will wind up taking on a lionshare of the tax burden that would come from reform.
A Confusing Policy
Answering this question is not entirely simple. A major reason is that the Republican framework, praised by Paul Ryan as a “game changer” for the economy, does not include crucial information which makes it harder to model an accurate and precise analysis. For instance, the plan states that the existent tax brackets would be simplified to 12 percent, 25 percent and 35 percent but does not specify what income thresholds those rates would apply to. If you earn $34,000 you could be included in the 12 percent bracket or the 25 percent bracket; the plan does specify. Similarly, the plan fails to indicate whether or not the deductions--or amount the IRS will allow you to subtract from your taxable income--for heads of households would stay the same or increase as it does for single filers and married filers. The deductions for single filers and married filers is clear enough, though. Those deductions would increase from their 2016 numbers to become $12,000 and $24,000, respectively.
Additionally, the plan increases the non-refundable child tax credit--also to an unspecified amount. This seemingly bodes well for many lower-middle class Americans as it allows for them to increase their deductions and provides a much needed tax credit to households with dependent children. At the same time, however, the Republican plan calls for an elimination of personal exemptions which no doubt will raise the tax bill of the average taxpayer. If the GOP does not wish to raise taxes on the middle class, they will have to be very scrupulous in the income thresholds they attach to the newly proposed tax brackets.
Beyond the question of whether taxes will increase for the middle class, it should also be asked what impacts a Republican tax plan would have on the growth and vitality of the economy.
Who Really Wins from Cutting Corporate Taxes?
A common talking point on the Left is the flawed notion that Republicans seek to cut corporate tax rates so as to line the pockets of the richest Americans. This claim ignores the fact that much of the burden of the corporate tax is not borne by corporations. While it is true that corporations technically “pay” the corporate tax, it must not be forgotten that the real burden of the corporate tax is carried by consumers (through higher prices for goods), workers (decreased wages) and shareholders (by retaining lower dividends).
American economist Arnold Harberger asserted in his 1962 study, “The Incidence of the Corporation Income Tax,” that it is very possible that workers bear the brunt of the corporate tax and that that possibility becomes more within an open economy. The reality is, however, that we live in an open economy and within an open economy there is less scope for corporations to bear the brunt of the corporate tax. A study by the National Bureau for Economics stated that “high [corporate] tax rates are likely to be associated with high pretax rates of return and correspondingly reduced capital investment.” This essentially means that higher rates of return on capital investments are more likely to be taxed at higher rates--the more money you make on an investment the more likely it is to be taxed. This discourages capital investments which, in turn, “depresses labor productivity and therefore wages, effectively shifting the burden of corporate taxes onto labor.”
This is not only seen on the national level but can also be observed on the state level. Economist George Zodrow observed that higher corporate tax rate would induce capital flight, thereby decreasing wages in the state imposing the tax and encouraging the increase of wages in states that do not impose that tax. Zodrow similarly found a positive impact is seen among consumers in states with higher corporate taxes versus states with lower corporate taxes. Consumers in states with lower corporate taxes face lower prices than their higher taxing counterparts.
Getting the to the Heart of the Issue
President Eisenhower once said, “reduction of taxes is a very necessary objective of government--that if our form of economy is to endure, we must not forget private incentives and initiative and the production that comes from it.” His warning is as true now as it was when he gave it in 1953. The strength of our economy is determined in part by how our government tackles issues of tax reform. Perhaps more importantly, though, our economy is strengthened by how much value our policy makers give to private incentives. In valuing these incentives, Washington sends a very clear message to the middle class: the growth of your wages and the relief of your tax burden matters.
The details of this reform, or the lack thereof, leaves plenty to be desired. That can prove to be a blessing or a curse. The plan could include provisions that would even attract the support of some Democrats who have felt the sting of being in higher tax brackets. Senators Manchin (D-WV), Heitkamp (D-ND) and McCaskill (D-MO) have all agreed to engage in talks with prominent Republican senators about how best to move forward with reforms. Paul Ryan has worked diligently to unite the party behind sound and responsible reforms and remains committed to the idea that legislation can be passed by the November recess. Sound and responsible tax reform--the opportunities it creates, the wages it increases and the burdens it lifts--has always been and continues to be a moral imperative. We cannot afford to see it any other way.