Tax Cut? Stimulate The United States Economy? – Don’t Count On It!ByRaymond D. Matkowsky
Part of President Trump’s legislative agenda is a tax cut for individuals and corporations. He feels that this will stimulate the economy. First he was saying by 4 to 5%. That was later scaled back to about 3% growth. After all, it worked for Kennedy. It worked for Ronald Reagan.
Simply put, the conditions that existed for Kennedy and Reagan do not exist now. In addition, the U. S. economy now has numerous restrictions that didn’t exist in the past. I have been studying the U.S. economy for the last nine years. In recent years, the Gross Domestic Product has grown between 1.8 to 2.5% a year. I would guess that 3% is the very outward limit of possible growth.
Tax Rates
Both John F. Kennedy and Ronald Reagan used a tax reduction strategy to stimulate entrepreneurship. The sixties through nineties were the decades of the entrepreneur. Today, that incentive cannot be accomplished through tax policies alone.
When Kennedy was President the highest income tax rate was 91% on incomes of US$400,000 or more. This was lowered to approximately 72%; a substantial decrease of 18%. When Reagan was President, the maximum tax rate was 70% on incomes of US$215,400 and above. He lowered it to 30% in two steps occurring in 1981 and 1986. The present maximum tax rate is 39.6% on incomes of US$418,400 and above. However, very few people pay that rate.
In 2016, the top 50% of income earners paid an average of 14.3%. The bottom 50% paid an average of 3.3%. It is doubtful that the same type of reductions that Kennedy and Reagan used to stimulate the economy can be accomplished now and still generate enough income to operate the government.
For your information, in 2016 the top 0.1% of income earners paid an average of 21.7% tax on their income. Therefore, even a 100% tax cut for this group wouldn’t come close to Reagan’s tax cuts of 1981 and 1986 which totaled about 40% of real savings in taxes.
National Debt
It has been well proven over the years that a country’s national debt restricts economic advancement. During John F. Kennedy’s administration the national debt was US$1.7 trillion. Ronald Reagan’s final national debt level was US$2.7 trillion. As of the end of 2016 the United States national debt was US$19.98 trillion. The interest paid on that debt was US$266.00 billion. Both Kennedy and Reagan were not overburdened by high interest payments. Consequently, a much higher percentage of the federal budget could go into the economy. Of course, the dollar could purchase a great deal more during Kennedy’s or Reagan’s time than today.
In my forty-five years of experience, I have worked under a federal government contract, for a research institute and in corporate America. I will say with confidence, corporations do not do pure research. They do development work. They are in the business to develop and sell products. The initial basic research for that product may have been done by some else and maybe is thirty years old. Their shareholders demand sales. Generally, companies do not spend money on research that may generate a product in ten to thirty years in the future. It is up to government either directly or through grants to do that type of basic research. Consider the amount of research, innovation, and infrastructure spending the government can undertake if it only paid half as much interest as it does today.
Household Debt
Nominal household wealth is at an all-time high, but this is an illusion. Average household assets have declined by 40% in real terms since 2007 according to the federal government’s consumer price index. The level of household wealth is a very poor economic indicator.
Marc Faber, publisher of the “Gloom, Boom, and Doom Report” also points out that owner occupied homes on the average have a negative cash flow because of taxes, maintenance costs, mortgage payments, etc.
Another debt is “student debt.” Student debt is slowing the U.S. economy because households are forced to reduce their spending in order to keep up with repayment schedules.
An additional factor that is affecting the economy is demographics. Soon the largest portion of the population will be above 65. This group has spent more than 30 years accumulating the needs of their life styles. They do not need to purchase as much as they have in the past.
Savings
To many people the Recession of 2007 was the most severe and chilling economic upheaval of their lives. As did their predecessors of the Depression, they swore that their families will never have to go through that again.
It would be logical to assume 21st century adults would react in a similar way that their 20th century counterparts did after the Great Depression of the 1930s.
During the 1950s and early 1960s the children of the Depression were entering adulthood with vivid memories of what it was like during the 30s. The average savings rate between 1950 and 1959 was 11.5% of disposable income. That jumped to 11.7% during the 60s. The household consumption rate between 1950 and 1959 was 69.9%. This went down to 68.8 % of disposable income between 1960 and 1969. The all-time high savings rate of 17% was reached in May of 1975. During these years the savings rate was high and the consumption rate much lower than the 1990-94 consumption rate average of 76.6%. This increased consumption was fueled by a lower savings rate of just 3.4%. The 90s and early 2000s were years of low savings, high debt, and high consumption. This changed in 2007. The rate is about 5.5% now.
People have another reason to save. The demise of “defined benefit pensions,” the poor return on 401ks, and increasing life spans have made people fearful that they will not have enough money in retirement. This has spurred their savings rate. A high savings rate means reduced spending.
Taxes Are Not The Only Consideration
Basically, taxes are not the only consideration a corporation or an individual takes into account. The State of Kansas recently tried a smaller version of Trump’s tax cuts by lowering or eliminating taxes to spur entrepreneurship. It did not. After three years, it was a complete failure and left the budget in severe deficit. Simply, they failed to take all other factors (those mentioned here and those not) into account. The legislature just reversed many of the changes they originally made.
Even though Ronald Reagan’s tax cuts resulted in spurring innovation, they also caused large deficits. The increased taxes from these new innovations and economic advances were not large enough to overcome the increase in government spending. In subsequent years Ronald Reagan quietly raised taxes to deal with these deficits. Even his plans needed fine tuning.
If the government just cut taxes without any further thought, it is sure to fail. The federal government would be much more successful if they would first focus on the national debt and then selectively target research and innovation directly. This would protect the future and advance the economy.
If you have any further suggestions, do not keep it to yourself. Help your fellow readers!
If you have any questions, comments or suggestions drop me a line at rdm@datastats.com.
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