Last week, the White House Council of Economic Advisers put out a paper claiming that Donald Trump’s tax plan would raise average household income by at least four thousand dollars a year. Kevin Hassett, the chairman of the Council, and Larry Summers, the former Treasury Secretary, are now having a heated public argument about that claim. After Summers went on television and called the figure “absurd,” Hassett accused him of failing to understand the analysis and engaging in an ad-hominem attack. In a piece for the Washington Post, on Tuesday, Summers shot back, “I am proudly guilty of asserting that it is some combination of dishonest, incompetent and absurd. “
Although the technical details of this dispute may seem forbidding to non-economists, the underlying story is straightforward and important: Hassett and other conservative economists are telling an outlandish fairy tale in an effort to promote a plan whose centerpiece is a tax cut for corporations and unincorporated businesses.
In its paper, the White House claimed that the figure of four thousand dollars was based on “conservative estimates” derived from academic studies of the link between corporate taxes and wages. “When we use the more optimistic estimates from the literature, wage boosts are over $9,000 for the average U.S. household,” the paper said. The average household income—not the median household income—is about eighty thousand dollars a year. So the White House is claiming that its tax cuts could boost wages and incomes by more than ten per cent—a huge and unprecedented increase.
In assessing this claim, it is worth recalling what the Trump plan would actually do. Among other things, it would cut the corporate tax rate from thirty-five per cent to twenty per cent; allow corporations to expense their capital investments immediately; set a new rate of twenty-five per cent for so-called pass-through businesses, such as partnerships and sole proprietorships; allow multinational corporations to repatriate trillions of dollars they are holding abroad at a low tax rate; abolish the estate tax; abolish the Alternative Minimum Tax; and reduce the number of personal-income tax brackets from seven to three.
The provisions of the plan are heavily slanted toward corporations and other types of businesses. You might suspect, therefore, that the primary beneficiaries will be members of the corporate class—the people who occupy senior positions in corporations, invest in limited partnerships and other tax-friendly vehicles, risk getting ensnared by the Alternative Minimum Tax, and own most of the corporate wealth in the country. Such a suspicion would be well founded. According to figures compiled by Ed Wolff, an economist at N.Y.U., the richest ten per cent of U.S. households own more than eighty per cent of all stock-market wealth. And, as the market has risen in anticipation of the Trump tax plan passing, these wealthy households have already enjoyed a substantial windfall.
If the plan goes into effect, they will enjoy more gains. According to a preliminary analysis of the Trump plan by the Washington-based Tax Policy Center, taxpayers in the middle of the income distribution would get a tax cut of six hundred and sixty dollars a year—about one per cent of their incomes—while taxpayers at the very top of the distribution would see their post-tax incomes rise by $129,030—or 5.7 per cent.
Faced with the widespread (and correct) perception that this is a highly regressive tax proposal, Hassett and his colleagues on the Council are clearly trying to shift the terms of the debate. Their argument is that cutting business taxes will encourage firms to buy a lot more equipment—machines, tools, computers, software—for their workers to use. Over time, the purchase and installations of all this new equipment, which economists call “capital deepening,” will make workers more productive, and, as a result, raise their wages substantially. “Put simply, capital deepening, which brings additional returns to the owners of capital, brings substantial returns to workers as well,” the White House paper concluded.
But the claim that cutting corporate taxes will generate a leap in corporate spending is based on the idea that firms have held off making capital investments because of high tax rates. And, as William Gale, an economist at the Brookings Institution, pointed out to me this week, “Over all, the cost of capital is already low.” To finance their investments, firms today can borrow at record-low interest rates. Another argument sometimes made for corporate tax cuts is that, by reducing the amount of money firms have to give the federal government, they boost corporate cash flows and make it easier for firms to invest. But, as Gale also pointed out, “A lot of big firms right now, they don’t have cash-flow problems. They already have a lot of cash laying around.”
In reality, low rates of capital investment may not have much to do with the corporate tax rate—which is already a lot lower than thirty-five per cent when you take into account all the loopholes in the tax code that businesses can already exploit. The real problem appears to be that many firms can’t see enough profitable investment projects, or sufficient demand for their products, to justify expanding capacity and upgrading their equipment. Rather than taking this risk, corporations are using their profits to buy back their own stock, a tactic that also just happens to benefit senior executives who own a lot of that stock. The Trump tax plan wouldn’t do much to address this problem.
What about the White House’s claim that its figures are based on solid academic research? As Summers said, it doesn’t stack up. Indeed, Martin A. Sullivan, an economist at the Tax Analysts blog, who used to work at the Treasury Department and the congressional Joint Committee on Taxation, points out that the White House has followed the formula for “deceptive economics,” which he defined as follows: “ First state facts that casual observation and simple logic easily support . . .  Cite in your discussion studies, preferably peer-reviewed work of respected academic economists, which support your results . . .  Do not mention that many of these studies are subject to academic criticism . . .  Do not mention that there are many other studies that find contrary results . . .  Do not mention that there is any case enormous uncertainty about the results (that almost all the underlying studies freely admit).”
At least one of the authors of the academic papers mentioned in the White House study, Mihir Desai, of Harvard Business School, has already complained about his research being misinterpreted. “They have 400% of corporate tax cuts going to wages – so v. little relation to estimates in paper with 60% of cuts going to labor,” Desai wrote on Twitter. Other economists, including Jason Furman, who headed the Council of Economic Advisers under President Obama, have pointed out that the White House’s projections are way out of line with most of the findings in the economic literature.
About the only way to justify the Trump White House’s numbers is to assume that the proposed tax cuts will produce a growth “miracle” that reverses almost two decades of sluggish investment and stagnant wages. This is extremely unlikely. The 1986 tax-reform package, which the White House describes as a model for the Trump plan, cut the corporate tax rate from forty-six per cent to thirty-four per cent, Gale recalled, “but it’s not considered generally to have had a huge impact on investment.”
In a speech to the Tax Policy Center a couple of weeks ago, Hassett mentioned the United Kingdom, which, in the course of the past decade, has cut the corporate tax rate from thirty per cent to nineteen per cent. If reducing businesses’ taxes spurs growth, the U.K. economy should have done well in the past ten years. Instead, growth has stalled, productivity has stagnated, and wages have fallen. Last December, Mark Carney, the governor of the Bank of England, said that the U.K. was going through “the first lost decade since the 1860s.”
Hassett didn’t mention any of that, of course. But the British experience is another thing to keep in mind when assessing the White House’s sales pitch. If a student presented him with a plan like this in one his classes at Harvard, Summers wrote, he would be “hard pressed to give it a passing grade.” That actually seems quite charitable. To quote Sullivan again, “Caveat emptor.”