Posted on 12/14/2017 5:41:03 AM PST by Kaslin
When Ronald Reagan slashed tax rates in America in the 1980s, the obvious direct effect was more prosperity in America.
But the under-appreciated indirect effect of Reaganomics was that it helped generate more prosperity elsewhere in the world.
Not because Americans had higher income and could buy more products from home and abroad (though that is a nice fringe benefit), but rather because the Reagan tax cuts triggered a virtuous cycle of tax competition. Politicians in other countries had to lower their tax rates because of concerns that jobs and investment were migrating to America (Margaret Thatcher also deserves some credit since she also dramatically reduced tax rates and put even more competitive pressure on other nations to do the same thing).
If you look at the data for developed nations, the average top income tax rate in 1980 was more than 67 percent. It’s now closer to 40 percent.
And because even countries like Germany and France enacted supply-side reforms, the global economy enjoyed a 25-year renaissance of growth and prosperity.
Unfortunately, there’s been some slippage in the wrong direction in recent years, probably caused in part be the erosion of tax competition (politicians are more likely to grab additional money if they think targeted victims don’t have escape options).
But we may be poised for a new virtuous cycle of tax competition, at least with regards to business taxation. A big drop in the U.S. corporate tax rate will pressure other nations to lower their taxes as well. And if new developments from China and Europe are accurate, I’ve been underestimating the potential positive impact.
Let’s start with news from China, where some officials are acting as if dropping the U.S. corporate tax rate to 20 percent is akin to economic warfare.
"U.S. tax cuts—the biggest passed since those during the presidency of Ronald Reagan three decades ago—have Beijing in a bind. Prominent in the new tax policy are generous reductions in the corporate tax and a rationalization of the global tax scheme. Both are expected to draw capital and skilled labor back to the United States. […] In April, Chinese state-controlled media slammed the tax cuts, accusing the U.S. leadership of risking a 'tax war' […] On April 27, state-run newspaper People’s Daily quoted a Chinese financial official as saying, 'We’ve made our stance clear: We oppose tax competition.' […] Beijing has good reason to be afraid. […] 'Due to the tax cut, the capital—mostly from the manufacturing industry—will flow back to the U.S.,' Chen said."
While Chinese officials are worried about tax competition, they have a very effective response. They can cut tax rates as well.
"[…] the Communist Party had promised to implement financial policy that would be more beneficial for the general public, but has not put this into practice. Instead, Beijing has kept and expanded a regime whereby heavy taxes do not benefit the people […] but are used to prop up inefficient state-owned enterprises […] Chinese officials and scholars are considering the necessity of implementing their own tax reforms to keep up with the Trump administration. […] Zhu Guangyao, a deputy minister of finance, said in a meeting that it was 'indeed impossible' to 'ignore the international effects' of the American tax cut, and that 'proactive measures' needed to be taken to adjust accordingly. […] a Chinese state-run overseas publication called 'Xiakedao' came out with a report saying that while Trump’s tax cuts put pressure on China, the pressure 'can all the same be transformed into an opportunity for reform.' It remains to be seen whether communist authorities are willing to accept a hit to their tax revenue to balance the economy and let capital flow into the hands of the private sector."
The Wall Street Journal also has a story on how China’s government might react to U.S. tax reform.
"[…] economic mandarins in Beijing are focusing on a potentially […] immediate threat from Washington— Donald Trump’s tax overhaul. In the Beijing leadership compound of Zhongnanhai, officials are putting in place a contingency plan to combat consequences for China of U.S. tax changes […] What they fear is […] sapping money out of China by making the U.S. a more attractive place to invest.
Pardon me for digressing, but isn’t it remarkable that nominally communist officials in China clearly understand that lower tax rates will boost investment while some left-leaning fiscal “experts” in America still want us to believe that lower tax won’t help growth.
But let’s get back to the main point.
"An official involved in Beijing’s deliberations called Washington’s tax plan a 'gray rhino,' an obvious danger in China’s economy that shouldn’t be ignored. […] While the tax overhaul isn’t directly aimed at Beijing […] China will be squeezed. Under the tax plan now going through the U.S. legislative process, America’s corporate levy could drop to about 20% from 35%. Over the next few years, economists say, that could spur manufacturers—whether American or Chinese—to opt to set up plants in the U.S. rather than China."
It’s an open question, though, whether China will respond with bad policy or good policy.
Imposing capital controls to limit the flow of money to the United States would be an unfortunate reaction. Using American reform as an impetus for Chinese reform, by contrast, would be serendipitous.
"The sweeping overhaul of the U.S. tax code, estimated to result in $1.4 trillion in U.S. cuts over a decade, is also serving as a wake-up call for Beijing, which for years has dragged its feet on revamping China’s own rigid tax system. Chinese businesses have long complained about high taxes, and the government has pledged to reduce the levies on them. […] Chinese companies face a welter of other taxes and fees their U.S. counterparts don’t, including a 17% value-added tax. […] Chinese employers pay far-higher payroll taxes. Welfare and social insurance taxes cost between 40% and 100% of a paycheck in China. World Bank figures for 2016 show that total tax burden on Chinese businesses are among the highest of major economies: 68% of profits, compared with 44% in the U.S. and 40.6% on average world-wide. The figures include national and local income taxes, value-added or sales taxes and any mandatory employer contributions for welfare and social security."
I very much hope Chinese officials respond to American tax cuts with their own supply-side reforms. I’ve applauded the Chinese government in the past for partial economic liberalization. Those policies have dramatically reduced poverty and been very beneficial for the country.
Lower tax rates could be the next step to boost living standards in China.
By the way, the Chinese aren’t the only ones paying attention to fiscal developments in the United States. The GOP tax plan also is causing headaches in Europe, as reported by CNN.
"Germany, France, Britain, Spain and Italy have written to Treasury Sec. Steven Mnuchin […] The letter argues that proposed changes to the U.S. tax code could give American companies an advantage over foreign rivals. […] They said the provision could also tax the profits of foreign businesses that do not have a permanent base in the U.S. […] The finance ministers said they opposed another measure in the Senate bill that could benefit American companies."
I have two responses. First, I actually agree with some of the complaints in the letter about selected provisions in the tax bill (see, for instance, Veronique de Rugy’s analysis in National Review about the danger of the BAT-like excise tax). We should be welcoming investment from foreign companies, not treating them like potential cash cows for Uncle Sam.
That being said, European officials are throwing stones in a glass house. They are the ones pushing the OECD’s initiative on “base erosion and profit shifting,” which is basically a scheme to extract more money from American multinational firms. And let’s also remember that the European Commission is also going after American companies using the novel argument that low taxes are a form of “state aid.”
Second, I think the Europeans are mostly worried about the lower corporate rate. German officials, for instance, have already been cited for their fear of a “ruinous era of tax competition.” And politicians at the European Parliament have been whining about a “race to the bottom.”
So I’ll give them the same advice I offered to China. Respond to Americans tax cuts by doing the right thing for your citizens. Boost growth and wages with lower tax rates.
If indeed that is true, wouldn’t globalists be all onboard to “make the world” more prosperous instead of fighting Trump’s cuts?
Liberals will love that... helping out the ‘poor downtrodden’ humanity all over the world
Oh no, not one bit. They don’t need a strong USA that can compete with them, especially militarily.
Reading the title, I thought this was going to be a negative article.
The notion of helping our enemies is certainly negative. The article presumes that they are not our enemies.
Ef Europe...
The GOP made sure to preserve the ability of illegal aliens to still get fat checks from the Treasury.
I find the article quite positive.
Yup.
China and the Pacific Rim are ascendent
Europe will continue to decline. The tax cut will not influence that decline
What’s so bad about cutting taxes and shrinking government power worldwide?
Once crooked politicians start starving and jumping off bridges, it’ll truly be paradise
It’s certainly upbeat. But the EU and China are not going to suddenly become Reaganite, especially after working as hard as they have been to undermine the US dollar as the world’s reserve currency.
‘Due to the tax cut, the capital—mostly from the manufacturing industry—will flow back to the U.S.,’ Chen said.”
WOW! MORE WINNING!
So, this is why the Dems are really against these tax cuts. The Chinese do not want them.
If you were a company guy....you’d find that your tax situation (at least in the US) will decrease, and you can become more competitive. That puts more pressure on Chinese and European companies because they don’t have someone standing there and discussing tax reform on their behalf.
Two or three years of this competitive nature, and they’d have to react and reform their tax base as well.
So presently, don’t expect any European political guy to be happy about this because it’ll make tax codes in Europe a top-three problem shortly.
So when US citizens and companies are more prosperous and can afford thereby to buy more products and services, both the buyers and the sellers are better off. This outcome holds whether the sellers are foreign or domestic.
But here's what some may consider a paradox:
Lower corporate taxes in the USA will make it more attractive for foreigners to invest in the USA. And when foreigners use their dollar holdings to invest rather than to buy US-made goods and services, the USA's merchandise trade deficit goes up dollar-for-dollar in net terms.
In other words, a big tax cut in the USA stands to INCREASE the trade deficit, not to decrease it.
(The latter would not hold if US citizens and companies use their increased prosperity to increase their net investment abroad. I doubt, however, that this outcome would be likely.)
I have to agree with you....
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