Today, the Council of Economic Advisers released a report on the relationship between the corporate tax rate and GDP growth. Please see below for the executive summary and read the full report here.
The recent disconnect between America’s real wages and America’s corporate profits is an aberration that reflects the disappointing state of capital accumulation. The pace of capital services growth in the United States slowed substantially during the current business cycle expansion through 2016, with the centered 5-year moving average contribution of capital deepening to labor productivity dropping below zero in 2012 for the first time in modern history. Workers have not seen real wage increases because firms have been discouraged from investing in America by outdated tax policy and heavy regulation.
This is the second in a series of papers from the Council of Economic Advisers that explores the impact of two key elements of business tax reform in the Unified Framework for Fixing Our Broken Tax Code (hereafter, the “Unified Framework”) – a reduction in the statutory Federal corporate tax rate from 35 to 20 percent and the introduction of immediate full expensing of non-structure investments – on American workers. In the first paper we explored the impact on wages through application of the findings in a literature that directly connects these corporate tax policies to wage growth. In this paper, we review literatures linking the tax changes to capital formation and to economic growth. While a full estimate of the growth impact of the Unified Framework must await the details of the complete plan, we demonstrate below that the corporate tax side alone will have substantial effects on gross domestic product (GDP) growth.
Our findings indicate that the business side of the Unified Framework would increase GDP by between 3 and 5 percent over the baseline long-run projection. The GDP effects we estimate are growth impacts from corporate tax reform alone. The literature and models vary as to the timeframe over which these benefits could be realized; some have the effects as soon as 3 to 5 years, others find it could take at least double that time. There will be additional GDP effects from reforms to individual income and pass-through business taxes, which we have not modeled, as well as growth from regulatory reform (see CEA paper of October 2, 2017: The Growth Potential of Deregulation) and an infrastructure package.
We also study the impact of this growth on average household income and again find that the average household would, conservatively, realize an increase in wage and salary income of $4,000. Additional elements of the Unified Framework, including changes to individual income tax rates, may deliver further increases to household income, combatting a longer-term stagnation.
These estimated boosts to GDP from corporate rate reductions are consistent with estimates from other studies. An evaluation of the Unified Framework by Benzell, Kotlikoff, and Lagarda (2017) similarly estimates a long-run boost to GDP of 3 to 5 percent. Estimates from the Tax Foundation imply a long-run GDP boost of 3.1 percent from corporate rate reductions alone, 3.0 percent from full expensing, and 4.5 percent from both reforms implemented jointly (Tax Foundation, 2017). Previous proposals to reduce the corporate tax rate, such as the “Growth and Investment Tax Plan,” were estimated to increase long-run output by 4.8 percent (The President’s Advisory Panel on Federal Tax Reform, 2005).