Trump on Taxation

President Trump has announced the intention to make sweeping tax reform, and a significant tax reduction for companies, at present reducing from 35% to 16%. His argument is that by doing this, he will encourage multinational companies to stop hoarding money in offshore tax shelters and bring it back to invest in the US. So what to make of this? The tax reform is an extremely good idea. The simpler and more transparent the tax law is, the less time everybody wastes on minimizing tax and the more they devote to actually earning money. Everybody accepts tax reduction is good for them, but the problem then is, does the government earn enough money to pay for what it wants done? That is a detail that has to be left because it depends on what is available to tax, and how much the government wants to spend.

Company tax is an odd animal because one argument is that you collect more or less the same tax irrespective of the rate. It goes like this. A company earns money, but those earnings are spent in four basic ways: investing in new plant; buying goods/services from other companies; paying staff; paying dividends. Looking at these in inverse order, money transferred to dividends becomes personal income, and that is taxed, so what we are avoiding is double tax. Many countries avoid such double taxation by giving company tax credits with the dividends, and while I am unaware of US tax policy on this, as a general rule as long as there is no double taxation, lowering the company tax rate has no adverse effect on dividends because those on the low tax rates in general cannot afford the stock. The important thing is that unlike people, companies do not spend on themselves, leaving aside “perks” such as company jets. My view is such “luxury expense” for senior staff should be taxed as a personal benefit to them.

Paying staff means the staff pay tax on their earnings. Now, if the staff are low paid, lowering company tax does reduce the tax collected, because most staff do not pay the 35% rate, although some may be on a higher rate. Similarly, buying goods and services from other companies simply transfers the taxable profits, although if the goods are imported, the profits go elsewhere. The question here is, then, will the US increase local production? The reason many multinationals manufacture offshore is that wages there are seriously lower, and they do not have to pay benefits and compliance is less strict. There is rationality in thinking that such goods manufactured offshore should be taxed as if the company met home compliance and had paid home benefits and wages because that levels the playing field from the “own country” point of view, but of course it hurts developing countries.

The virtuous part, according to Trump, is that by lowering company tax, multinationals will bring back more of the offshore funds accreted, and all companies will have more money to invest and create new jobs, or pay dividends. The next question is, is this valid reasoning? I am not so sure. The problem with investing to create new jobs is you have to have something to invest in. That is not so easy to find. There is no real evidence that company tax is inhibiting investment because there is no real evidence that, leaving aside small individual companies in trouble, there is a widespread shortage of money. What I see is more a general shortage of ideas. Thus we see the new product is another mobile phone that is only a little bit different from the last one. Ask yourself this: what would you really want that is not currently available if you had the money to buy it?

What that suggests is the economic slowdown is not caused by higher corporate tax, but more through inequality. Those with money already have most of what they want, and those without money cannot afford much of what is there. If we really want to promote growth, then I am afraid the poorer have to have more purchasing power, because they are the only ones at the moment who could power acceleration in sales. Of course the rich will keep on buying, but only at their current rate, and that will not power the growth President Trump wants. So my question is, will President Trump do anything to reduce inequality?