Will President Trump rely on his instincts or will he allow the political establishment to dictate tax policy? The answer will determine the extent to which Trump can to deliver on his ambitious promise of real growth in excess of 3%.
During his campaign the President proposed cutting taxes by $1 trillion a year. His instincts on taxes are correct. Every successful tax cut in US history had one thing in common—sharply reduced tax burdens without major offsetting tax increases.
In September, Trump released a detailed tax plan, which The Tax Foundation estimates would cut taxes by about $500 billion a year, or 2.6% of GDP. Interestingly, the Tax Foundation also estimates the size of the 1981 Reagan tax cuts at 2.6% of GDP. Both estimates are based on static analysis, meaning they do not allow for any increase in revenues from faster growth in the economy.
The House GOP plan extols the virtues of tax cuts. However, instead of using successful tax cuts as a guide, the plan looks to the Tax Reform Act of 1986.
The 1986 tax act was a complete failure. Although it reduced some tax rates, it was designed to be revenue-neutral. This means any shortfall in revenue from cutting taxes had to be offset by raising other taxes. Among the offsetting tax increases were a higher tax on capital gains and a major change in depreciation allowances.
Given the complexity of the tax system, any tax increase can have unintended consequences. This was the case with the 1986 tax reform. Its tax increases contributed to a collapse in real estate prices, the failure of over 1,000 banks, and a recession in 1990. President Trump has rightfully criticized the destructive impact of the 1986 reforms.
Similar to 1986, the current GOP tax plan “...envisions tax reform that is revenue neutral.” The Tax Foundation estimates the GOP plan would cost the government $740 billion a year based on static analysis. In order to make up for the lost revenue, the GOP plan increases other taxes by an estimated $500 billion a year. The net tax cut of $240 billion is at the most 1.3% of GDP.
The Tax Foundation estimates that most of the net loss of $240 billion will be made up from faster growth in the economy. As a result, the real loss in revenue to the federal government would amount to only $19 billion a year.
There are two main issues surrounding the ability of the GOP tax plan to generate the type of growth the President hopes to achieve. The first is with respect to the magnitude of the tax cut. The static analysis cut of $240 billion a year represents less than half the magnitude of the 1981 tax cuts. Call it Reagan lite. After allowance for growth, the GOP tax plan represents a statistically insignificant tax cut of only .001 percent of GDP. This is not a major tax cut.
The second issue comes from the plan’s tax increases, primarily the border tax. This restructuring of the corporate tax will disrupt the international supply chain. Doing so promotes the same type of unintended consequences found in the 1986 reform.
President Trump’s instincts on the magnitude and type of tax cuts necessary to ignite rapid growth are correct. His plan is similar to all successful historical tax reforms. One of the President’s challenges to achieving his growth targets will be to convince the Congress to trust his instincts over those of the political establishment.
President Trump’s call for an extensive review of the Dodd-Frank financial reforms is a major positive for the economy. Several years ago I completed an analysis showing the cost of these regulations amounted to a staggering $200 billion a year. A summary of the analysis is presented below.
The main problem with Dodd-Frank is its assumption that the banks were the cause of the financial crisis in 2008. As I have argued how the real culprit leading to the financial crisis was the Federal Reserve. It did so by selling $300 billion worth of securities leading up to the ciris in the fall of 2008. (See my complete analysis in the economic/finance section.)
There are a large number of bankers who have explained to me how they have had to replace a large number (in some cases 10% of their employees) with others to comply with various new government requests for information and reports. In many cases, the government requests are by newly hired young people who know little, if anything, about banking or financial markets. Hence, the busy work of complying with these requests represents a cost to the economy without any offsetting benefit.
Trump knows about the extensive waste involved in this legislation. The review he has ordered has the potential to redirect some $200 billion in resources from waste to productive use. Doing so will help increase the typical worker’s living standards by anywhere from $1,000 to $2,000 a year.
Dodd-Frank's Real Cost Is Nearly $200 Billion A Year
By ROBERT GENETSKI
Posted 12/12/2014 06:00 PM ET Investors Business Daily
In the wake of the recent elections, there is one thing both parties still agree on: Middle-income families are being squeezed and voters are angry.
But why? And what should be done about it?
Our politicians have placed any number of barriers in the way of prosperity, and one of the most costly has been the Dodd-Frank financial reforms (DF).
Congress passed this 2,300-page law in 2010. It since has spawned a massive new regulatory environment with an impact reaching far beyond the nation's $1.1 trillion financial services industry.
The Government Accountability Office provided an original estimate of Dodd-Frank's direct cost: $2.9 billion over the first five years. If that is accurate, it means the law will cost the taxpayers roughly $600 million annually, or $5 for each private-sector worker.
The direct cost to taxpayers is only the beginning. Historical estimates show private-sector costs to comply with government regulations tend to be 36 times the direct cost to government.
If Dodd-Frank is typical, the annual cost of compliance will be more like $22 billion, or $188 for each private-sector worker.
Unfortunately, there are numerous indications the Dodd-Frank regulations are far from typical. Since the passage of the law, various banks, from the smallest to the largest, have announced layoffs amounting to roughly 10% of their employees.
In many cases, the layoff announcements came while banks also announced they were aggressively hiring workers to comply with new regulations.
If the 10% figure is characteristic of the entire financial industry, it means Dodd-Frank has a compliance cost of close to $120 billion annually, or just over $1,000 for each private-sector worker.
As burdensome as that estimate sounds, it too likely understates Dodd-Frank's compliance costs. The financial industry is unique in directly impacting every other part of the economy.
Thus regulations affecting finance have a disproportionately greater impact than other regulations.
It's more appropriate to compare compliance costs of DF with those associated with previous financial reform legislation. Sarbanes-Oxley (SOX), the predecessor to Dodd-Frank, created 16 new regulations.
Various surveys showed the cost of complying with those regulations from 2004 to 2007 averaged roughly $9 billion a year.
In a recent analysis, the Davis Polk law firm identified 398 explicit new regulations created by Dodd-Frank, making it at least 25 times more extensive and complex than Sarbanes-Oxley.
If the costs of complying with Sarbanes-Oxley are the more reasonable gauge for those associated with Dodd-Frank, it could easily cost 25 times more than its predecessor, or $225 billion a year. This amounts to almost $2,000 for each private-sector worker.
In addition to the size and complexity of DF, the legislation has taken on a life of its own. By last year, the original 2,300 pages of the law had spawned 14,000 additional pages of regulations.
And regulators have gotten around to implementing only 39% of those regulations. This is a law that keeps taking more and more out of the economy.
Dodd-Frank seriously undermines people's living standards. Whenever laws take resources away from the production of goods and services people want and allocate those resources for the paperwork government demands, living standards decline.
This is particularly true for low- and middle-income families, whose incomes tend to be disproportionately affected by such actions.
When fully implemented, Dodd-Frank is likely to reduce the goods and services available to a typical U.S. worker by anywhere from $1,000 to $2,000 a year.
Repealing this horrendous piece of legislation is one way to restore the gains in living standards that were once a hallmark of the U.S. economy.
• Genetski is a policy advisor to The Heartland Institute and one of the nation's leading economists and financial advisors. He also heads ClassicalPrinciples.com.
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