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Replacing the 20 Percent Corporate Rate

 

Replacing the 20 Percent Corporate Rate with Rates of 21 or 22 Percent Has Real Economic Consequences

December 8, 2017

Following the Senate’s passage of the Tax Cuts and Jobs Act, House and Senate conferees must now marry two bills that have similar structures but in some cases very different specific measures. This requires a delicate balance of math and economics. They must keep the net revenue loss of the entire tax reform package below $1.5 trillion over ten years while retaining as many provisions as possible that will increase economic growth, boost wages, and create jobs.

Of all the permanent provisions in both bills, the policy that has the biggest economic effect is the reduction in the corporate tax rate to 20 percent from its current level of 35 percent. Lately, there is talk that conferees may scale back this provision to accommodate other policies that also have strong political constituencies.

If conferees are going to make such a trade, it is important that they understand the economic and budgetary consequences of the decision. The table below compares the economic and revenue effects of corporate rates of 20, 21, and 22 percent.

The current benchmark in the bill is a 20 percent corporate rate. The Tax Foundation’s Taxes and Growth (TAG) Macroeconomic Tax Model estimates that because this policy substantially reduces the cost of capital, it would—absent any other policy changes—boost the long-term level of GDP by 2.7 percent, the capital stock by 7.6 percent, and after-tax incomes by 3.1 percent, while creating 530,000 full-time equivalent jobs.

Moreover, we estimate that while the static cost of the 20 percent corporate would be $1.48 trillion over a decade, the economic growth would generate enough new tax revenues to reduce that cost to $718 billion.


For example, a 22 percent corporate rate would increase the long-term level of GDP by 2.4 percent, 0.3 percentage points less than the 20 percent rate. While seemingly a small reduction in the amount of growth, it would create 60,000 fewer jobs and do less to boost family incomes. The capital investment and productivity growth generated by a 20 percent corporate rate would boost the after-tax income of a family earning $50,000 by $1,550, while a 22 percent rate would result in a $1,400 increase in after-tax incomes.By contrast, moving to a 21 or 22 percent corporate rate would mean a smaller revenue loss, in both static and dynamic terms, than the 20 percent rate. However, these higher rates also generate less economic growth, along with fewer jobs and smaller wage growth.

To be sure, conferees face a difficult challenge of balancing politics with the mathematical challenge of squeezing as many House and Senate tax provisions as possible into the $1.5 trillion net tax cut restriction they’ve been given by the budget resolution. As they do this, however, they cannot forget that there are economic consequences to each of these decisions.

Some provisions will lead to stronger economic growth, more jobs, and higher wages, while others will not. The permanent corporate rate cut to 20 percent is the most growth-producing provision in either of the two plans. The economic consequences of scaling that provision back should not be dismissed easily.

 

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