In a post on LinkedIn the other day, Ray Dalio, one of the world’s richest and most successful hedge-fund managers, offered some thoughts on the incoming Trump Administration. If “you haven’t read Ayn Rand lately, I suggest that you do as her books pretty well capture the mindset,” Dalio, the founder and chief executive of Bridgewater Associates, wrote. “This new administration hates weak, unproductive, socialist people and policies, and it admires strong, can-do, profit makers. It wants to, and probably will, shift the environment from one that makes profit makers villains with limited power to one that makes them heroes with significant power.”
Dalio, whom I profiled, in 2011, himself holds a harsh, Darwinian view of the world. One of his sidekicks at Bridgewater, David McCormick, is being considered for a senior post in the new Administration. Dalio, however, views himself as an analyst and investor rather than a partisan, and his unvarnished post reflects the reality that Donald Trump, after running as an economic populist and tribune of the working stiff, has stuffed his Cabinet with billionaires, bankers, and conservative political ideologues. “This will not just be a shift in government policy, but also a shift in how government policy is pursued,” Dalio wrote. “Trump is a deal maker who negotiates hard, and doesn’t mind getting banged around or banging others around. Similarly, the people he chose are bold and hell-bent on playing hardball to make big changes happen in economics and in foreign policy (as well as other areas such as education, environmental policies, etc.).”
In moments of dramatic political change—Dalio claimed that the Trump era could be even more significant than the 1978-1982 shift to the right that saw Margaret Thatcher, Ronald Reagan, and Helmut Kohl elected—one of the big questions is whether the new policies being implemented will work. Dalio offered an upbeat prognosis. He argued that Trump’s proposals to slash corporate tax rates and give big businesses like Apple and Microsoft financial incentives to repatriate trillions of dollars in profits that they are holding abroad could “ignite animal spirits and attract productive capital” to the United States.
“Animal spirits” is a term from Keynes, not Rand. In his 1936 book, “The General Theory of Employment, Interest and Money,” the English economist used it to describe “a spontaneous urge to action” on the part of business people, one based on a general outlook of optimism rather than an individual cost-benefit analysis. One reason the U.S. economy has grown relatively slowly over the past eight years is that corporations have been sitting on their cash rather than investing it in things like factories, offices, and new equipment—a failure widely attributed to depressed animal spirits. Once Trump takes office, the mood may change dramatically, Dalio argued.
“Regarding igniting animal spirits, if this administration can spark a virtuous cycle in which people can make money, the move out of cash (that pays them virtually nothing) to risk-on investments could be huge,” he wrote. In addition, he went on, Trump’s America could also attract a lot of capital from abroad, because a “pro-business US with its rule of law, political stability, property rights protections, and (soon to be) favorable corporate taxes offers a uniquely attractive environment for those who make money and/or have money.”
Although Dalio used some of Keynes’s language, this is not actually a Keynesian argument. It is the sort of Randian analysis long favored by many people on Wall Street, and recently promoted by some of Trump’s closest economic advisers: if you want capitalism to work more effectively, offer greater rewards to the capitalists. Cut taxes, rein in regulation, and create an environment that incentivizes financial risk-taking. The free market—or, rather, the John Galts who inhabit the free market—will do the rest.
Earlier this year, Larry Kudlow, the TV pundit whom Trump is reportedly about to appoint as chairman of the Council of Economic Advisers, told Breitbart News that Trump’s tax proposals, which include cutting the corporate tax rate from thirty-five per cent to fifteen per cent and allowing firms to pay a rate of just ten per cent if they repatriate profits, would generate a “a movement, a tremendous movement, of capital and labor back to the United States, that’s in China and overseas.” Trump himself has made similar claims, as has Gary Cohn, the president of Goldman Sachs, whom Trump has named to head the National Economic Council at the White House. But what is the empirical basis for this argument?
Several things should be noted. Firstly, there isn’t much evidence that what has been holding back corporate investment is high corporate taxes. Because the U.S. tax code is riddled with loopholes, the tax rate that big businesses actually pay isn’t anything like thirty-five per cent. Between 2008 and 2012, according to a recent study by the nonpartisan Government Accountability Office, they paid a tax rate of about fourteen per cent, on average. Small corporations tend to pay even less. From 2006 to 2012, two-thirds of all incorporated businesses didn’t pay anything, the study found.
Surveys by the Federal Reserve Board and other organizations indicate that the main factor depressing corporate investment has been weak demand. As Keynes pointed out eighty years ago, when firms don’t see the appetite for their products growing, they have little incentive to build new capacity. “The logic is quite simple,” Dominic Konstam, an analyst at Deutsche Bank, wrote earlier this year. “The corporate sector is unlikely to increase investment in the absence of strong (global) final demand.”
Another factor holding back investment is the short-term strategies that, these days, afflict much of corporate America. In many cases, companies’ overriding goal is to raise the prices of their stocks, which feature heavily in the remuneration packages of senior executives. Making costly long-term investments can depress earnings and stock prices in the short term. Instead, many corporations are using their cash to buy back some of their own stock from investors. Since buybacks reduce the number of shares in circulation, they tend to boost firms’ earnings per share—a metric that investors follow closely—but they don’t do anything to expand capital investment or hiring. In the twelve-month period that ended in October, companies in the S. & P. 500 spent $556.6 billion on buybacks, according to the research firm FactSet.
The final, and perhaps most important, point to note is that the Randian theory now being trumpeted was put to the test, not very long ago, and it failed. In 2004, the Bush Administration introduced a “tax holiday” for corporations that repatriated profits they were holding abroad, arguing, much as Kudlow, Cohn, and others are now, that it would spur capital investment and job growth. What actually happened, according to a Senate subcommittee that surveyed twenty leading multinational companies, was that “the 2004 repatriation tax provision was followed by an increase in dollars spent on stock repurchases and executive compensation.”
Of course, things could turn out differently this time, but even some analysts at Cohn’s firm, Goldman Sachs, doubt that will happen. In a recent research note to clients, Goldman predicted that three-quarters of the money that big corporations bring back to the United States next year under the Trump tax plan will end up being spent on stock buybacks. “We estimate that $150 billion out of $780 billion of S&P 500 buybacks in 2017 will be driven by repatriated overseas cash,” the Goldman research note said. “We forecast that S&P 500 companies will repatriate close to $200 billion of their $1 trillion of total overseas cash in 2017, which will be directed primarily toward share repurchases.”
It seems unlikely, therefore, that giving big tax breaks to major corporations will do much to raise capital spending and growth, although it could give another boost to the stock market, in the short term, anyway. Indeed, this may help explain why the Dow Jones Industrial Average has risen by more than sixteen hundred points since the election and is now flirting with the twenty-thousand level. For big investors like Dalio, the Trump honeymoon is continuing. For everyone else, a large dose of skepticism is in order.