Trump says a big corporate tax cut will boost average incomes by $4,000 a year

Donald Trump ran for office loudly pledging big tax cuts for the middle class. But the reality coming into focus is a tax plan that on its face offers a bonanza for rich people and could leave most families worse off.

Team Trump has been arguing that this isn’t the case. And for about a week now, they’ve specifically claimed that the corporate tax cut would increase the average household’s wages by about $4,000 per year. Monday morning, Trump’s Council of Economic Advisers, whose chief, Kevin Hassett, is a longtime proponent of this view, released a paper laying out their case.

Unlike some of the things Trump says, this is unquestionably an opinion that has some grounding in expert opinion. But Hassett’s view is an outlier. And of course it would not be that difficult to design a program that would more clearly offer benefits to middle-class wage earners if that were your primary goal.

An increase in the tax on cigarettes would, obviously, cost smokers money.

But cigarette consumption would also probably fall. So it would cost tobacco companies some money too. Some of that would take the form of reduced profits or share values for the people who own stock in tobacco companies. Some of it would take the form of reduced pay for people who work at tobacco companies.

The incidence of the tax, in other words, is diverse. And it doesn’t really hinge on whether, formally speaking, the tax is collected from smokers at point of sale or from retailers that buy from wholesalers or from producers at the factory. It’s also not obvious, a priori, exactly what the incidence is. You’d have to do actual work to figure it out.

Hassett’s argument is that the real incidence of taxes on corporate profits falls on workers. So much so that Trump’s proposed tax cut would “increase average household income in the United States by, very conservatively, $4,000 annually,” a figure that he says is “driven by empirical patterns that are highly visible in the data, in addition to an extensive peer-reviewed research.”

He also presents this chart, showing that wage growth in recent years has been higher in countries with lower corporate tax rates.

The basic conclusion that some of the corporate income tax is paid by workers is now broadly accepted. But Hassett’s estimate is very much on the high end of the range. And the superior short-term economic performance of the low-tax OECD could be explained by any number of things, starting with the fact that these tend to be poorer countries to begin with.

Most government agencies argue that capital pays the bulk of the corporate tax bill. The Treasury Department puts the capital-labor split at 82-18, the Tax Policy Center at 80-20, the Congressional Budget Office at 75-25. Before relatively recently, it was standard practice to assume that capital paid the whole tax, and some observers argue that that remains the correct approach, given recent empirical research showing that shareholders tend to be the exclusive beneficiaries of cuts in taxes affecting corporations. A recent survey of the empirical research by Reed College’s Kimberly Clausing found “very little robust evidence linking corporate tax rates and wages.”

Hassett has long disagreed with this consensus, and his new paper largely restates that earlier work. In an influential 2006 paper analyzing data in 72 countries across 22 years, Hassett and Aparna Mathur estimated that a “1 percent increase in corporate tax rates is associated with nearly a 1 percent drop in wage rates.” A second paper in 2010 found a slightly smaller effect (a 0.5 to 0.6 percent decrease in wage rates per 1 percent increase in corporate tax rates) but still concluded that labor was ultimately paying the tax.

That suggests that cutting corporate taxes would be a very easy way to raise wages for ordinary workers. Hassett has also gone a step further and, with his American Enterprise Institute colleague Alex Brill, argued that cutting the corporate income tax could raise economic growth enough to actually increase revenue: a Laffer effect. They conclude, based on a data set covering rich developed countries from 1980 to 2005, that the revenue-maximizing corporate tax rate is about 26 percent, significantly below the US rate.

Plenty of economists and tax researchers have argued that Hassett’s results are implausible and reach some absurd conclusions. Jane Gravelle and Thomas Hungerford at the Congressional Research Service noted that the initial Hassett-Mathur study predicted a $1 increase in the corporate tax would reduce wages by between $22 and $26.

This is very much an in-the-weeds debate, but pulling out to look at the big-picture math is useful. Cutting the corporate tax rate to 20 percent costs the government about $200 billion per year in revenue. There are 125 million households in the United States, so for the average household to see its income rise by $4,000 per year implies total income growth of $500 billion, implying that labor bears 250 percent of the incidence of the corporate tax cut. As Jason Furman, who held Hassett’s job in Obama’s second term, tells me, “This is a hotly debated literature, but the answers for the labor incidence tend to range from 0 to 100 percent, with 250 percent being well outside the plausible range.”

A qualitative way to think about the issue is this.

One way for a country to get richer is to attract more investment. If foreign rich people think your country is a good place to invest, they will help build factories and offices and hotels and houses in your country, creating more and better job opportunities for your citizens. Conversely, if domestic rich people think your country is a bad place to invest, they will tend to take their wealth and invest it in other countries, starving your country of the factories and offices and hotels and houses your citizens need to prosper.

The question of whether the United States needs a big corporate tax cut is thus, in part, a question of whether the United States needs to make itself a more attractive destination for footloose international investment money.

On the pro side, it’s hard to deny that more investment would be nice. Cities and states seem to clamor for big corporate investment opportunities and the jobs that they bring, so encouraging more investment in general could be good.

On the other hand, interest rates are really low right now. Ultra-safe Treasury bond yields are low, but so are risky “junk” bond yields. The stock market, as Trump himself keeps saying, is at a record high. In other words, it doesn’t seem to be the case that American businesses are currently struggling to find money to invest. It’s very cheap to borrow right now and very lucrative to sell stock.

Under the circumstances, is trying to make the United States an even friendlier place to invest really the best way to boost middle-class living standards?

Another way to do a tax plan that benefits the middle class would, of course, be to directly cut middle-class taxes. You could accomplish that by lowering the 10 percent rate, increasing the generosity of the child tax credit, making the standard deduction bigger, making personal exemptions more generous, cutting payroll taxes, or any number of other things.

Money would then flow directly into the pockets of middle-class households rather than hopefully trickling down via increased investment. And optimistically, consumers with more spending power are exactly what would spur businesses to invest more in expanded capacity.

That Keynesian-style thinking fell out of style during the Great Inflation of the 1970s, when Western economies seemed to strain against objective limits to productive capacity. Those limits spurred policymaker interest in Ronald Reagan’s “supply-side” approach to tax policy, an approach that is very much the model Hassett is following. Keynesian-style thinking came back, briefly, during the unemployment surge of 2009 but then vanished from the policy agenda amid deficit mania after the 2010 midterms.

With Republicans back in office, deficit mania has mysteriously vanished in favor of a devil-may-care attitude toward financing tax cuts. But within that context, the fundamental choice remains: Is what the country needs a financier-friendly tax cut that will hypothetically benefit workers down the road by spurring more investment, or does it need a worker-focused tax cut that will spur investment by increasing spending power?