In 2017, President Donald Trump signed the 2017 Tax Cut and Jobs Act (TCJA) into law. Proponents of the law promised that it would add $1.8 trillion in new revenue. That would more than pay for the $1.5 trillion cost of the tax cuts themselves, according to an analysis by the U.S. Department of Treasury.
Trump Administration Predictions of TCJA's Impact
The analysis provided by the White House looked at the combined effect of the tax cuts and Trump's Fiscal Year 2018 budget. The budget planned to boost growth through increased infrastructure spending, deregulation, and welfare reform.
Congress approved the budget plus additional appropriations. Trump asked for $1.15 trillion in discretionary spending; Congress approved $1.3 trillion.
The Treasury report projected that the tax cuts and the budget would boost economic growth to 2.9% per year for the next 10 years. The report said that prosperity generated by the cuts and the budget would boost tax revenue enough to offset the tax cuts.
Impact Predicted by Other Organizations
In examining the likely impact of the TCJA, other organizations came to dramatically different conclusions about the likely impact of the new tax law. Their analysis predicted increases in the federal debt and deficit.
The Joint Committee on Taxation (JCT) analyzed the tax cuts alone, independent of the FY 2018 budget. This analysis found that the TCJA would increase the deficit by $1 trillion over the next 10 years. In creating this prediction, the committee expected the economy to grow 0.8% per year.
The Tax Foundation came up with a second conclusion, predicting that the TCJA would add almost $448 billion to the deficit over the next 10 years. It looked at the effect of the tax cuts themselves and the TCJA's elimination of the Affordable Care Act mandate.
The Tax Foundation analysis stated that the tax cuts would cost $1.47 trillion in decreased revenue while adding only $600 billion in growth and savings. The plan would also:
- Boost economic growth by 1.7% per year
- Create 339,000 jobs
- Add 1.5% to wages
Impact of TCJA Cuts Becoming Permanent
Congress could choose to make the individual cuts permanent before they expire. If that happens, the cost of the tax cuts would rise to $2.3 trillion instead of $1.5 trillion over the next 10 years.
A separate analysis found that while the TCJA would result in increased economic growth, all of the revenue from this growth would go toward paying for the cuts. The cost is too high for the tax cuts to pay for themselves. Instead, the deficit and debt would continue to grow.
A Change in Priorities
This increase in the federal debt means that formerly budget-conscious Republicans in Congress have done an about-face on fiscal policy.
For example, in 2011, Republicans supported the Budget Control Act, which automatically cut spending across the board between 2013 and 2021. These mandatory spending cuts were called "sequestration."
In 2013, Republicans threatened to not raise the debt ceiling to force budget cuts. That would have forced the U.S. to default on its debt. Fortunately, better-than-expected revenue meant that the debt ceiling debate was postponed until the fall.
In these instances, congressional Republicans were focused on limiting debt and deficit growth at the expense of government functioning. However, with the TCJA, Congress passed a law that significantly increased both deficit spending and the federal debt.
When Tax Cuts Don't Work
Supporters of tax cuts believe in the theory of supply-side economics. This theory states that freeing up businesses to grow more will drive broader economic growth. When the government cuts taxes or regulations, companies will hire more workers. The resultant job growth creates more demand, which boosts the economy.
Supply-side is the opposite of Keynesian theory. It says that consumer demand drives the economy. It supports more government spending on infrastructure, unemployment benefits, and education.
In general, tax cuts work when the economy is sluggish, businesses need money, and tax rates are high. For example, the Treasury Department found that the Bush tax cuts gave the economy a short-term boost, because the economy had been in a recession. The tax cuts gave businesses extra capacity that they could put to use immediately.
According to a 2017 survey, many large corporations said that they didn’t need the money from the Trump administration's tax cuts. They were sitting on a record $2.3 trillion in cash reserves, double the level in 2001.
Instead of using the money from tax cuts to increase production, create more jobs, or raise wages, the CEOs of Cisco, Pfizer, and Coca-Cola instead planned to use the additional cash to pay dividends to shareholders. The CEO of Amgen would use the proceeds to buy back shares of stock.
As a result, the corporate tax cuts in the TCJA would boost stock prices but wouldn't create jobs.
Economist Arthur Laffer found that tax cuts work best when taxes are high. According to the Laffer Curve, that's called the "prohibitive range."
Tax cuts also helped to end a recession during the Reagan administration because the highest federal tax rate at that time was 70%. Lower interest rates and increased government spending also boosted growth. The 2017 tax rates were 30 percentage points lower than they had been before the Reagan tax cuts.
Investors see a large debt as a tax increase on future generations. That's especially true if the ratio of debt-to-GDP is near 77%. That's the tipping point, according to a study by the World Bank, which found that every percentage point of debt above this level costs the country 0.017 of a percentage point in growth.
The U.S. public debt-to-GDP ratio was 104% before the tax cuts. By 2019, it had risen to 107%, not including intragovernmental debt that's owed to Social Security and other federal agencies.
The Bottom Line
Tax cuts aren't effective at boosting economic growth when the economy is already expanding. They also don't work well when tax rates are below 50% to 65%.
There are three main estimates of the cost of Trump's tax cuts:
- The Trump administration said it would generate $1.8 trillion in revenue, more than making up for its $1.5 trillion cost. But that included the impact of the FY 2018 budget.
- The Joint Committee on Taxation said the TCJA would increase the deficit by $1 trillion, but that does not include the impact of the FY 2018 budget.
- The Tax Foundation said that the act would add $448 billion to the deficit. It also includes the impact of eliminating the Obamacare mandate.
If the individual cuts are made permanent, the cost will rise to $2.3 trillion without having been successful at significantly boosting wages or increasing jobs.