By Enoch Hill and Tim Taylor
The Tax Cuts and Jobs Act (GOP tax plan) has left people asking: What exactly does this mean for me? What does this mean for the county? Is this a good thing or a bad thing? Who does it help and who does it hurt? Will this really lead to more jobs, fairer taxes, and bigger paychecks? How would I have voted if I occupied a political seat?
One of the benefits of a liberal arts ethos is the collaboration that takes place between disciplines. The more you swim in the waters of the liberal arts, the more you realize how interdisciplinary thinking is at its symphonic core. There is a deep seeded belief in the power of compounded perspectives. Since I am not an economist or a political scientist by training, I asked two expert friends and colleagues from different fields about their thoughts regarding the new tax bill. I wanted to see how they would have voted based on the changes they saw and how they arrived at that conclusion. I kept hearing so many different views on the bill, I needed to hear from people I knew would give me an analysis from a moderate perspective that was willing to consider both sides, weigh the whole reality, and then give their thoughts on the matter. This collaborative thought piece by my friends, Dr. Enoch Hill (economist) and Dr. Timothy Taylor (political scientist) was so helpful, I asked if I could share it publicly. They graciously obliged:
Dr. Enoch Hill
Dr. Timothy Taylor
Neither of us being particularly partisan, we offer our insights based on what we know about the Tax Cuts and Jobs Act (also known as the GOP tax plan).
With Congress bringing the most sweeping changes to the tax code since 1986, we want to give the tax bill a fair review. While we applaud simplifying the overly complicated American tax structure (among developed countries, the United States has one of the most complex tax systems), we are concerned by the anticipated massive deficit wrought from reducing revenue without changes to existing government spending. We are also disappointed by the regressive nature of the tax cuts.
Taxes have many purposes and uses. We’ll (somewhat) briefly cover several of these purposes and share our opinion on how this particular tax bill achieves (or fails to achieve) these goals. We start with some bigger picture reflections and move on to the nitty gritty.
Death Debt and Taxes
First and foremost, taxes are the primary source of revenue for the government to pay for the services it provides. Any differences between what the government spends each year and the tax revenue it collects are financed by debt. Put simply, we can either pay for what we buy now or later. This bill is a tax cut. Depending on the analysis, predicted federal government revenue is expected to decrease between $520 billion to $1.4 trillion over the next decade as a result of this bill.
Let’s not fool ourselves, lowering taxes now means we are increasing our future tax burden. In light of our consistent inability to balance the budget (we have experienced deficit spending since 2002), lowering our collections at this juncture seems like a poor decision. Eventually, the bill will come due, and a tax cuts now just increases its size for either our older selves or future generations.
To provide some additional perspective, this year the total government debt surpassed $20 trillion dollars. Even at the very low interest rates currently paid by the federal government, we spend about $500 billion dollars per year on interest alone. Think on this, just to pay for past benefits, our annual interest payment averages more than $1,500 for every single American every single year.
Take a moment to imagine a terrifying prospect. If people stopped believing in the US government’s ability to repay its debt obligations, interest rates on government debt would rise. If they rose to the peak level experienced by Greece, total interest payments on US debt would be greater than the total revenue of the federal government! Meaning, if we cut every single government job and service, we would still run a deficit just to pay for the interest on what we bought in the past.
This point isn’t solely targeted at the Republican tax bill. We the people seem to have an insatiable appetite for wanting the government to spend more than it earns, and many politicians are all too eager to give voters what they want. As a general rule, instead of decreasing taxes, Democrats generally prefer to increase services. It’s not surprising that economists would make for unpopular candidates. With being in favor of having it worse now in order to make the future better for our children, would you vote for our platform of increased taxes and reduced services?
Coffee and a Red Bull
Second, we must consider the important, but often overlooked, timing of tax cuts. Economists have often argued for short term tax cuts to jump-start an economy during a recession. The massive tax cuts proposed by the Republicans in Congress could potentially boost output by significant amounts. However, if done when the economy is already growing, a tax cut is predicted to lead to inflation (and possibly bubbles), and is likely to cause a more severe recession than would have otherwise occurred had the cut not been implemented. Having coffee when you just wake up may move you from sluggish to alert. Adding a Red Bull once you are alert may just increase the jitters rather than increase your ability to accomplish things.
Here’s the basic idea, giving people more money does not mean we produce more stuff. If everyone tries to spend their extra money but we are already producing all we can, the only thing left is for prices to rise. Given that unemployment is currently as low as we’ve experienced since the late 1960s, arguing for tax cuts due to a poor economy does not seem reasonable.
Robin Hood or Random Hood?
A third use of the tax code has been as a vehicle to redistribute the nation’s income. We are in favor of redistribution when done thoughtfully and intentionally. Unfortunately, rather than simply transferring income from the wealthy to the poor, taxes are often used to fund special interests.
For example, consider how taxes are used to transfer funds from non-farmers to farmers. Farm subsidies are not based on farmer income, but based on the amount of crops produced. In this sense, wealthier farmers receive larger transfers than their poorer counterparts. We also use the tax code to transfer from those who don’t own property to those who do in the form of mortgage interest deductions. These happen to be fairly popular, but from our perspectives, they are regressive.
We accept that taxes may be an efficient mechanism for redistribution compared to alternatives, but we prefer redistribution to be based on income rather than on special standing (Robin Hood, not Random Hood). This way, the poor are best targeted for poverty alleviation. The GOP tax plan has drastically different effects at every income level but overall the cuts are regressive in that a greater share of wealthy income earners will benefit compared to the proportion of poor Americans who will benefit.
For example, in raising the child tax credit from $1,000 to $2,000 per child and raising the income limits on claiming the benefit to $400,000, most income earners are getting a tax cut. However, by keeping the credit only partially refundable (up to $1,400) based on size of earnings, the poorest 1 in 7 working families will not see any benefit.
We do support the closing of several “loopholes” through the removal of deductions. Largely these reduce some forms of redistribution which by and large we view as a positive change. However, it’s not helping many of those with the lowest incomes. So again, overall we don't support the plan on this topic. However, there are several specifics within the bill that we view favorably. To discuss these we need to dive a bit deeper.
The aforementioned nitty gritty
The biggest change you’ve probably already heard of, the corporate tax rate is slated to be reduced from 35% to 21%. The corporate income tax is essentially an arbitrary double tax. If we are a company that earns profits to be paid to our shareholders, then 35% is currently taken in tax. Additionally, the income to our shareholders is taxed again for personal income. Instead, if we take those profits and reinvest them in the firm rather than distribute them to shareholders, they are not taxed. This causes a perverse incentive for companies to reinvest in themselves (or alternatively spend the money wastefully or spend resources to shelter it in various ways). If the company really has good uses for the profits, fine. But if not, it should give the money back to shareholders who will likely reinvest in other firms.
Milton Friedman believed corporate profits payed directly to shareholders would result in an increase in funds for smaller businesses rather than having the profits of larger companies getting essentially trapped in reinvestment in the firms to avoid the corporate income tax. Other economists disagree but we’re with Friedman on this topic. In this sense, we approve of the lowering of the corporate tax rate. However, these changes are also likely to disproportionately benefit the wealthy. Admittedly, we would have preferred to see countervailing increases to the higher income tax brackets to offset these gains resulting in a more revenue neutral and less regressive bill.
A second major change in the GOP tax plan is to double the standard deduction (to $12,000 for singles and $24,000 for couples), and remove most itemizable deductions. If you don’t claim specific deductions, you currently receive the standard deduction. Under the new tax bill, this basically means the first $12 to $24 thousand you earn each year is not taxed. For those who didn’t previously itemize, this is a benefit, for those who did, it’s less clear. The remaining itemizable deductions are for state, local, and property taxes (up to $10,000), mortgage interest payments (up to $750,000 of mortgage debt), charitable giving, student loans (and graduate tuition waivers), and medical expenses.
From our viewpoint, this is a simplification of the tax code and a positive change. However, there is one unfortunate outcome from this simplification. Even though charitable giving is still able to be deducted, this will likely be a major hit to many non-profits. Many fewer people will have sufficient qualifying deductions to warrant itemizing. For folks who no longer itemize, the tax benefit for charitable giving no longer applies.
We’ll comment briefly on the change to the estate tax, but only because it has received so much attention. This tax applies to the wealthiest (those with an estate over $5.49 million per individual). To put this in perspective, in 2013, this applied to less than 5,000 estates. The proposed changes double the amount that can be passed on tax free. The primary issue with taxes is that they distort decision making. If you receive less per hour worked, you may work less. We want our most productive citizens to work. Many would argue with us, but taxing an estate seems like a great time to collect revenues without significantly distorting decisions. Therefore, we oppose this particular change.
Had Enough?
As mentioned initially, the changes are sweeping and there is plenty to discuss. We also teach classes to college students and know that many of your eyes are beginning to glaze over. Time to pick up the pace with some brief comments on some of the more notable changes not yet mentioned.
The tax plan repeals the Affordable Care Act (ACA) mandate (which currently applies a fine if no health insurance is purchased). We have varying opinions on universal healthcare and would like to see ACA significantly reformed, but removing the mandate without changing other parts is a terrible idea.
You know how your spouse gets angry if you spend a whole lot without his/her approval? The Senate deals with this issue by requiring 60 votes to approve any bill that is projected to increase the deficit after 10 years (i.e. requires bipartisan support.) For this reason, the individual tax cuts are slated to sunset after 2026 (the GOP didn’t get their spouse’s approval on this one).
Education has a host of changes. Tax benefits are being largely simplified, will mostly favor the wealthy, and are facing cuts for higher education. More savings for private education will receive tax benefits, and large endowments are now subject to an excise tax. Given that we both work at a college, we’re a bit biased on this one so we’ll refrain from further comment.
Overall, we both would have voted “no” on the Tax Cuts and Jobs Act. Our primary concerns are decreasing taxes given the current debt and the possibility of overheating the economy. We appreciate the steps taken towards simplifying the tax code (who wouldn’t want to fill out their taxes on a postcard?). Nevertheless, we would like to see offsetting changes to base tax rates, which would remove the regressive nature from the proposal. We know our comments are neither drastic nor flashy, after all we are academics (did you really expect anything different?), but we hope they helped you to reflect on the bill.