Trump Takes A Page From Obama’s Book

Taxes

Trump’s mention that he might temporarily cut payroll taxes comes right out of the Obama administration’s playbook. From the way the current White House has talked, such a possibility has all the trappings of a contingency plan to give the economy a fillip should it falter before the 2020 election. That is exactly what Obama did when he cut payroll taxes to lift a slow economy going into the 2012 election.  Obama’s cuts came in 2011 and were reversed in 2013. Though at the moment the economy shows enough strength, Trump, if it were to weaken in coming quarters as some economists predict it will, is likely do just what his predecessor did.

Given the current tone in financial markets and among business economists, the president’s team might easily have felt the need for a plan B. Market commentary is full of recession talk, mostly because of the growing trade war with China and some classic signals emerging in bond markets. A recent poll of business economists found that some 34% of them expect a recession to start sometime between now and 2021, up from 25% in a similar poll conducted last February. Most of the pessimists in this group also point to the dangers of trade war with China. Others reference the constraints on growth because the existing labor force is just about fully employed. All these concerns, though hardly decisive, are legitimate enough to prompt White House contingency planning.

As per his usual manner, President Trump was light on specifics when he floated this idea. If he were to model such a move on Obama, he would cut payroll taxes on individuals from 6.2% presently to 4.2%. To boost hiring, he might do the same for the business share of these taxes. Trump also floated the idea of permanently indexing capital gains taxes to inflation so that investors would pay tax only on the appreciation of their assets above and beyond inflation. This is a long-standing Republican proposal and has less the feeling of contingency than the payroll proposal does, though such a capital gains measure could make deficits look smaller for the election by inducing trading and so a jump in capital gains levies.

Without knowing Trump’s specific plans, it is impossible to gauge the potential help they might offer the economy. Some economists, noting the analysis done on President Obama’s temporary cuts, suggest that comparable Trump cuts might add 0.3%-0.5% to the economy’s growth rate. Such figures look reasonable enough.  They clearly would not make the difference between recession and adequate growth.

Some economists and critics in the media have gone beyond such calculations and dismissed the efficacy of a payroll tax cut altogether. They claim that it is tacit admission that the administration’s 2017 tax cut failed to help the economy. Since real economic activity accelerated dramatically in 2017 and 2018 as well as in the first half of this year, such claims are dubious to say the least. They also miss both the nature of the 2017 cuts and the structure of this country’s tax code. Contrary to many of these media stories, the 2017 cuts did help the middle class. Lower tax brackets had dramatically larger relative drops than upper brackets. Even so, the 2017 cuts could not possibly help any who do not pay income taxes, which is the bulk of lower income workers. These people, however, do pay payroll taxes. Indeed, such levies are possibly the biggest tax burden these people face. The floated cuts would help them, even though the income tax cuts could not.

The common criticism also argues that payroll tax cuts would be misplaced, since they would help consumption, an area of the economy showing strength, but do nothing for investment spending, which is where the economy is weak. These points are irrefutable, except that there is no telling where the economy might need help at a future date. Besides, the criticism misses how the payroll tax cut might relieve labor constraints on growth. Such concerns form the basis of at least some of the recession predictions. By making work more attractive, such tax relief could draw out many of the able bodied who presently do not participate in the workforce. The attendant rise in what the Labor Department calls the “participation rate” would give the economy more of the labor resources it needs to continue growing at an acceptable rate.

The usual suspects have pointed out the adverse budget effects of tax cuts. Government analysis shows that the temporary Obama cuts added some $225 billion to the deficit over the two years they were in effect, some $112 billion a year. Comparable cuts now in a larger economy could add some $150 billion a year to deficits for as long as they lasted. That is hardly a bagatelle, but in this economy, it would constitute only some 15% of the existing deficit and less than 1% of the gross domestic product (GDP) – not pleasant but hardly enough to destroy the country’s finances, especially since the pressure would be temporary.           

Of course the economy presently is a ways away from needing such help and so, accordingly, is the administration a ways away from making such moves. Should the economy sustain an adequate growth rate into 2020, doubtless such talk of payroll tax cuts would die a quiet death. If the economy were to falter, the tax cuts could very likely become a reality, as similar cuts did under President Obama.  Hopefully, should the occasion arise, Trump will offer more specifics than he has to date on dollars and percentages as well as timing. His model did when he gave the county temporary payroll tax cuts.

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