More thoughts on the value of cutting corporate tax rates

My colleague Tom Hungerford has laid out why he’s not part of the alleged consensus cited by Dylan Matthews that cutting corporate tax rates would boost GDP growth, based on a skeptical look at the research and data. I’d just add a couple of extra points:

First, this is all kind of tangential to the live debate currently going on about corporate tax reform. This debate is sadly all about revenue-neutral reform. So, all research that has used effective average corporate tax rates as explanatory variables in growth regressions is irrelevant to this kind of debate. And the upshot of such reform is even unclear as to what it will do to effective marginal rates—some firms will see their taxes go down, while others will see them go up. So, even if one believed in a huge growth bonanza from significantly cutting corporate taxes—that’s not what the debate in DC is about.

Second, even if one believed the modest growth-spurring impacts of cutting corporate tax rates cited in much of the research that Dylan and Tom discuss, I still don’t think that  I’d fall all over myself trying to accomplish this as a high-priority policy goal.

Why?

Because distribution matters, not just growth. And, the first-order effect of cutting corporate taxes is to make the tax system less progressive. Presumably, some other taxes will have to rise or spending will have to be cut as a “pay-for.” This is very unlikely to be anything but a regressive shift. And, most other “pay-fors” come with their own distortions that will reduce any supply-side benefit from cutting corporate rates.

But the second-order effect of cutting corporate tax rates is a growth bonanza, right? Nope, it’s a rising return to capital. And capital-income is already very concentrated towards the top and is just getting more so over time.

But what if the rising return to capital leads to increased incentives to invest, and a larger capital stock, and higher productivity? That’s where all this pays off for the rest of us, right? Higher productivity is nice, but it has done very little to boost wages and incomes for most American workers and households.

So, filter the effect of going after a big boost to supply-side growth through cutting corporate tax rates and replacing them with, say, a consumption tax.

First, you almost surely boost after-tax inequality directly; it would take an extraordinarily progressive consumption tax to match the progressivity of the corporate income tax, and this doesn’t even take into account the extraordinary political economy pressure that would be brought to bear to provide “transition relief” to today’s capital-owners, relief that also largely destroys the growth-promoting aspects of this kind of tax-swap.

Second, you raise the return to capital. And the rise in the return to capital is actually already a key player in boosting top incomes in the past generation.

Third, you provide a modest boost to productivity, and only a modest fraction of this modest boost actually shows up in the wages and incomes of most American households.

To be clear on this point—I’m not being dismissive of the value of any policy that could theoretically produce growth. I am being awfully skeptical of policies that can theoretically produce growth only after first damaging distribution.

And overall, I think the benefits of even blue-sky, will-likely-never-happen tax changes like swapping the corporate income tax for a consumption tax range from miniscule to negative for most Americans.

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  • Douglas Hopkins

    “The first-order effect of cutting corporate taxes is to make the tax system less progressive.”

    That depends entirely upon what you replace them with. I posit that if you shifted the burden away from corporate income and onto the capital structure, i.e. back toward the long-term historic norm of taxing property, you would 1) make the revenue distribution more progressive, while simultaneously 2) causing unproductive capital currently sitting on the sidelines to search for more productive allocations.

    Our tax policies are currently subsidizing unproductive capital – and thereby obstructing job creation. See http://thehill.com/blogs/congress-blog/economy-a-budget/303045-tax-preferences-aimed-at-wealth-obstructing-job-creation-