Make tax cuts great again?

By Duncan Simpson, Research Director

With President Trump’s visit to the UK behind us, and the outrage/adulation dissipating, it is worth reflecting on what changes have been afoot on the domestic policy front in the US.

In January 2018, the Tax Cuts and Jobs Act came into force. Though a vast document, some key measures stand out:

  • By 2019, all income tax bands saw an average reduction of 1.7 per cent in federal income tax.
  • The corporate tax rate has been reduced from 35 to 21 per cent.
  • US companies have reduced taxes on profits earned in operations overseas.
  • The federal tax system is also simplified. This is done by eliminating many of the deductions for business expenses, and has removed the alternative minimum tax. This is forecast to save companies (and, in turn, consumers, shareholders and staff) $40 billion over the next decade.

Looking specifically at income tax, Americans across all levels have benefitted from the changes. The Tax Policy Center estimated that 65 per cent of people paid less under the law, with just 6 per cent paying more. The median fifth of earners got an annual tax cut of $780 in 2018. The employment boosting effects of this has also been made clear by the Tax Foundation.

Yet the tax take from personal current taxes (which includes realised capital gains) has actually risen. Each of the five quarters of data (since the Act came into force) shows an increase, with the trend likely to continue in 2019.

Likewise, US companies’ performance was impressive. The S&P 500’s profit growth was over 20 per cent, with sales rises also seeing the best performance since 2010. With revenues and profits up, and their taxes down, companies are responding to this with pay rises, pension increases, more hiring and boosting capital expenditure, as highlighted by Americans for Tax Reform.

This is not to say that the picture is all rosy for the federal government. The deficit this calendar year is forecast to be 4.2 per cent of GDP, a big increase from 2017 and well above the average over the last 50 years.

But the reason for this is obvious: the federal government spends far too much. The defence budget will see steep increases this year (and likely in the years ahead), and the absence of real reform to pensions and government healthcare spending is weighing heavily.

As such, federal government spending is forecast to increase every year between 2018 and 2029, relative to the size of the US economy. Interest rates ticking up will also exacerbate the problem of debt interest payments. Clearly this remains one of the enduring challenges facing this populist president.

The fact remains, though, that the Tax Cuts and Jobs Act has been a boon to consumers and companies. We should welcome many of the reforms and copy that kind of radicalism in the UK too. Corporation tax, in particular, could be cut further still to mirror the growth enhancing effects we have witnessed in the US in the last 18 months.