Could US corporate taxes get any worse? How about a border adjustment tax?

The current US corporate income tax code is extraordinarily complex. It tends to favor larger companies. It also tends to favor companies who can squirrel away their profits overseas. Even worse, it really favors companies that can afford to hire lobbyists to create loopholes and to hire lawyers and accountants necessary to exploit the loopholes.

The US has the highest corporate tax rate in the developed world, which is especially harmful to mid-size and smaller firms. Even with the high tax rate, the US collects much less in taxes (on a relative basis) than its peers, as shown in the figure below.

A border adjustment tax would reduce (or eliminate) the corporate income tax. It would alter the current corporate tax structure by essentially imposing a tax or levy of 20 percent on all imports – including components and parts used in assembly – while exempting US exporters from any taxes. In other words, US companies would no longer have to report revenue generated by their overseas sales as taxable income. At the same time, they could no longer claim expenses incurred by importing goods and materials as deductible from their federal tax obligation.

The proposed border adjustment tax may be the most revolutionary idea in corporate tax reform in decades. If approved, it would transform the corporate income tax code into something similar to the European value-added tax or VAT. Overnight, the tax would create new categories of corporate winners and losers and will most likely drive up prices for US consumers.

  • Winners: Export-driven companies, including manufacturers of electronic equipment, machinery, aircraft, munitions, cars, and tobacco. Indirect winners would be small and medium sized business that benefit from a vastly simplified tax code.
  • Losers: Any business that relies heavily on imports including retailers, foreign car dealers, toy manufacturers, and oil refineries. Major retailers like Walmart and Target that get many of their products from Asia and other markets with cheap labor would be hard hit by the border adjustment.

There’s a chance that the BAT may be DOA. Republican senator Lindsey Graham has said that he can’t find even 10 votes in the US Senate for the current boarder adjustment tax proposal.

Nevertheless, the current US corporate tax system is a massive drag on business growth and doesn’t even do a good job at what it’s supposed to do – generate tax revenues. At this point it’s difficult to conceive of a scheme that could be any worse than the corporate tax system currently in place.

In case you were wondering … here are the top imports and exports by state. It seems Wisconsin spends a lot of money on imported sweaters.

Signs are pointing to strong growth for the U.S. economy and that’s a big deal

Global growth will pick up faster than previously expected in the coming months as the Trump administration’s planned tax cuts and public spending fire up the U.S. economy, the OECD recently announced, revising its forecast upward from earlier this year.

In its most recent Economic Outlook, the Organization for Economic Cooperation and Development projected the U.S. economy would grow by 2.3 percent in 2017 and to 3 percent in 2018. Global growth is expected to accelerate from 2.9 percent this year to 3.3 percent in 2017 and reach 3.6 percent in 2018.

Markets have shown some early confidence that the economy will improve with the new administration. The Dow Jones Industrial Average is up almost 5 percent since election day and the S&P 500 is up more than 3 percent. Consumers seem to be sharing the confidence with early reports of strong retail sales for Black Friday and Cyber Monday.

During his campaign, Mr. Trump pledged to boost infrastructure spending by as much as $1 trillion, although the details of how that would be financed are sketchy. He has also promised to cut corporate and personal income taxes. In addition, changes to employment regulations and the Affordable Care Act are expected to spur hiring by businesses and bring more Americans into full time employment.

Costly and onerous overtime rules imposed by the Obama administration have been blocked by a federal judge and are likely to be overturned during the Trump administration. Changes to the ACA are expected to jettison mandates triggered by having more than 50 employees or by working more than 29 hours a week. Be prepared for more people working more hours.

Financial reforms are on the way with an expected overhaul of Dodd-Frank. House Finance Committee Chairman Jeb Hensarling and others in Congress have laid out the key principles they say will guide financial reforms: restoring rule of law to the regulatory process and allowing banks to regain control of their own lending and other business decisions so long as they are credibly taking risks with their own funds rather than relying on the protection of taxpayers. This may be the end of “Too Big to Fail.”

Rising interest rates will strengthen bank profits and provide a tailwind to encourage more lending while also slowing the growth in housing prices.

Does growth really matter? Yes, it’s a big deal

When economists talk about growth, they are trying to get a handle of how much better (or worse) off are we versus a year ago. Are we getting richer or poorer or just standing still? When we talk about growth, we talk about year-over-year percentage growth rates. But, what is a “good” growth rate?

Here’s some perspective, looking back in time.

Average incomes doubled from the bottom of the Great Depression in 1933 to the middle of the post-war boom of 1950—a space of just 17 years. Over that period, incomes grew an average of 4 percent a year. Incomes doubled in less than one generation.

It took another 27 years afterward (1950 to 1977) for incomes to double. The people watching the TV show Happy Days were twice as rich as the people portrayed in the show. That amounts to an average annual growth rate of 2.5 percent a year.

Then, after that, it took another 38 years (1977 to 2015) for incomes to double. Over that period of time, average incomes grew by 1.8 percent a year. It took almost two generations for incomes to double.

A difference of 1.5 percentage points in the growth is the difference between doubling incomes every generation or doubling every other generation.

Think of it this way. Since 2010, GDP growth has been about 2.2 percent a year. At that rate, it would take more than 30 years for incomes to double. If that growth can be boosted to 3 percent a year, incomes would double eight years faster. That’s a big deal. That’s one reason stock prices rise on even modest upward revisions to GDP forecasts.

Look on the flip side, regulations and taxes that stifle growth—even if by less than one percent—can have serious long run effects on our standard of living. When a politician says, “Well it’s just half a percentage point off the growth rate,” you should answer, “Well that’s another five to ten years we lose in income growth.” That’s a big deal.

So, let’s get out there and grow this economy. Your kids and grandkids will thank you for it.

New study concludes: There are few things as expensive as free federal money

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Please download and read the new study: Impact of Federal Transfers on State and Local Own Source Spending.

“Free is a very good price” announced the 1980s pitchman for a local appliance store known for it’s buy-one-get-one offers. But, like most things in life, the BOGO offers had some hitches (Like you had to spend $399[!] on a 19-inch color TV in order to get a 12-inch black-and-white TV for “free”).

Regardless, almost 35 years later, “free is a very good price” is part of the Portland lexicon. But, Portland’s not alone. Throughout the U.S., state and local officials pick up the bullhorn and shout “free is a very good price” when the federal government dangles dollars in front of their faces.

We see this play out across the U.S. States that cannot afford their existing Medicaid programs have expanded coverage under the Affordable Care Act, thanks to the promise that federal funds will pay for a huge portion of the additional costs of coverage. Cities are building slow moving streetcar systems because federal dollars will cover half of the construction costs.

What’s often missed is a simple fact: Federal money isn’t free.

Money “from the feds” is money from those who pay taxes to the feds. Those people and businesses are in every state. If the feds didn’t take those tax dollars, you’d have those dollars in your pocket or your bank account. Sending the dollars to Washington, D.C. only to have D.C. send back a fraction of those dollars doesn’t make you richer, it most likely makes you poorer.

There’s another way in which federal money isn’t free. Nearly every single dollar sent to state and local governments comes with strings attached.

Research I just completed finds that each additional dollar of federal money sent to the states is associated with an average increase of 82 cents in new state and local taxes. Across all states, a hypothetical 10 percent increase in federal grants state and local governments would be associated with with approximately $50 billion in additional increased state and local taxes, charges, or other revenue sources, amounting to an additional government burden of $158 per person.

How does federal funding increase the state and local tax burden? The U.S. Government Accountability Office identifies two ways that strings attached to federal grants can increase state spending: (1) matching fund requirements, and (2) maintenance of effort requirements.

Many federal grants require state and local governments to match federal funding with their own spending in order to receive the federal dollars. This allows bad public policy to masquerade as good policy, simply because it appears to be cheaper than superior alternatives. Much like coupons try to entice consumers to buy something they don’t need, federal matching funds entice state and local governments to pursue projects that they don’t need or can’t afford. By drawing limited state tax dollars toward the priorities of D.C., these matching requirements put pressure on state and local policymakers to raise taxes and fees in order to fund existing priorities.

Of course, these federally-funded policies often fail to deliver on their promises, but that isn’t something D.C. tends to concern itself with. For example, the Feds will supply matching funds to build a project, but often leave the costs of operating the project to the state and local governments. For example, federal funds help build the Portland, Oregon streetcar, but nothing to operate it. Today, Portland’s streetcar operations run at a deficit of $4.5 million a year—and growing. That deficit is filled by diverting the city’s money from much needed road repairs and maintenance. To fill that hole, Portland is proposing a citywide 4-cents-a-gallon gas tax. Without the federal funds, Portland wouldn’t have a streetcar, which means it would have millions more dollars for road repairs and maintenance, which means it wouldn’t need millions in new taxes to fund road repairs and maintenance. Who would have thought that free federal money could be so expensive?

The GAO also points out that, in addition to matching funds, state and local governments are sometimes required to maintain spending in the future as a condition of receiving federal grants. For example, the federal stimulus package passed in the wake of the Great Recession required states to provide a minimum state appropriation to higher education. States failing to maintain higher education spending at pre-recession levels would jeopardize a large chunk of their earmarked stimulus money.

For example, a publication from the American Association of University Professors looked at state higher education spending data and found that the threatened loss of federal funds was a key driver of the higher education budget for many states. Spurred on by the pressure of federal money, states spent more on higher education than they otherwise would have in the face of a recession and shrinking state budgets. Some were forced to increase taxes. AAUP notes that it is no coincidence that Oregon set its higher education funding at almost precisely the cutoff amount necessary to avoid the threatened cuts. It is also no coincidence that the state passed the largest income tax increase in Oregon history during the time the federal stimulus program was in action.

Milton Friedman once said “Nothing is so permanent as a temporary government program.” The first annual cash grant to states was made under the Hatch Act of 1887. More than 125 years later, the Hatch Act is still in effect—distributing tens of millions of dollars to states every year (and requiring a dollar-for-dollar match from states receiving federal money).

Perhaps knowing that federal funding translates into pressure to raise state and local taxes, those in elected office will take the long view and reject the empty promises of “free” federal dollars. One can only hope for such leadership and vision from our elected officials.

Next time your local politician/policy wonk/whatever dangles federal dollars in front of you and says “free is a very good price.” Remind him or her of some other wisdom from the ages:

  • “If it sounds too good to be true, it probably is,” or
  • “There’s no such thing as a free lunch,” or
  • “You can’t get something for nothing.”

Or how about a new phrase: “There are few things as expensive as free federal money.”

For more information, please download and read the new study: Impact of Federal Transfers on State and Local Own Source Spending.

 

Taxes, more taxes, and … “recreational” marijuana

With the ink barely dry on Oregon’s costly Low Carbon Fuel Standard law, Portland city commissioner Steve Novick bets than a 10-cents-a-gallon gas tax will be his ticket to re-election. Along the way, Ann asks the question: What if we can say how our tax dollars are spent?

We wrap with the one “sin” that’s not subject to a “sin tax.” That’s right, “recreational” marijuana in Oregon is not taxed. Who will be the first politician to come out of the ganja closet?

Here’s how you can hear more:

  • Listen on Podbean, the podcasting platform.
  • The podcast is now available on iTunes. Please subscribe to make the most of your weekly Econ Minute.

For blogging on the Portland City Council scene, check out TuesdayMemo.

For a minute or so of economics, read the EconMinute blog.

TuesdayMemo/EconMinute podcast: Win-win

“Win-win” is the topic for this week’s podcast because it’s “game on” for Portland’s election season.

  • Oregon state treasurer Ted Wheeler enters the Portland mayor’s race, facing off against incumbent Charlie Hales. The candidates are virtual twins: both are former Republicans turned Democrats, each trying the show that he is the most serious progressive candidate (or the most progressive serious candidate). What is the one issue on which they differ?
  • A majority of city council is up for grabs. Where are all the candidates? Where are Portland’s Trumps and Sanders?
  • Mayor Hales has a plan to make housing more affordable … by making it more expensive.
  • Trees, trees, and more trees. If you thought bikes were a source of city strife, try cutting down some 100 year old trees.

Here’s how you can hear more:

  • Listen on Podbean, the podcasting platform.
  • The podcast is now available on iTunes. Please subscribe to make the most of your weekly Econ Minute.

For blogging on the Portland City Council scene, check out TuesdayMemo.

For a minute or so of economics, read the EconMinute blog.

Podcast – Millennials, affordable housing, and taxing star scientists

 

What are Millennials and what do they want?

Econ Minute answers that with a clip from Matt Edlen‘s presentation at the Portland State Center for Real Estate Annual Conference. Get inside the minds of the mysterious Millennials and learn how they and their parents will change the world.

Next, we spend a few minutes on affordable housing and look at how it’s a problem worsened by policy.

We end with a look at income taxes and the role they play in attracting scientists to a state … or driving them out.

Taxes matter: The migration of star scientists

Drop in on an Econ 101 class and at some point in the term, you’re bound to hear the economics professor say, “If you want less of something, tax it.”

That’s one reason for “sin” taxes. The hope is that high enough tax on liquor, tobacco, or—more recently—marijuana, will reduce consumption of these sinful products.

Taking it a step further, one way to have fewer rich people would be tax higher incomes at a higher rate.

But there is a rip roaring debate in economics and policy circles about whether this basic rule of economics actually applies to income taxes.

On the one hand, there is a large body of evidence that differences income taxes are associated with the migration of individuals—especially high income individuals—from high tax areas to lower tax areas:

  • Research using data from the Panel Study of Income Dynamics, find that both higher tax rates and increased tax rate progressivity decrease the probability that a head of household will move to a better job during the coming year, slowing the potential for household income growth.
  • The existence of a state income tax influences migration patterns and that higher state income tax levels have resulted in reduced per capita income growth over time.
  • Income taxes have an effect on migration for most races and age groups, and that individuals move from states with high income taxes to states with low income taxes.
  • The Public Policy Institute of California (PDF) finds that Californians of all incomes leave California for states without income taxes. Among highest income households, 36 percent more leave than arrive in California.
  • Approximately 1.5 million New Yorkers left the state between 2000 and 2008 due to “high costs and taxes,” and that those that left were selectively higher income households.
  • Studies from other countries with variable, internal regional tax rates support the hypothesis that US state-to-state migration would also be affected by tax policy. For example, research finds that newly-educated individuals, in particular, migrate in response to tax differences. A one percentage point increase in the tax rate change effects a 2.8 percentage point increase in the net out migration rate.

On the other hand, Warren Buffett once claimed that he’s never worked with anyone who mentioned taxes as a reason to forgo an investment opportunity that he offered.

A working paper recently distributed by the National Bureau of Economic Research seems to support the traditional view.

The authors look at what they call “star scientists,” whom they define as scientists with a large number patents—in the top 5 percent of those with patents. Based on the patent applications, they identify the scientists’ state of residence in each year over a number of years. With that information, the researchers can see whether a scientist has moved, which state they moved from, and which state they moved to. Then they link that information with data on each states top tax rates for individuals and business and and statistically analyze if taxes played a role in the move from state to state.

The results are interesting and indicate that tax rates are factor in attracting and keeping top scientific talent:

  • Star scientists’ moves from state to state are sensitive to changes in the top marginal tax rate on individuals.
  • Corporate income taxes affect state-to-state moves among private sector “star scientists” with no statistically significant effect for moves by academic and government researchers.

Count this as another piece of evidence that, “If you want less of something, tax it.” And it even applies to top scientists.