Thanks to President Trump’s “Christmas present” to the nation, most Americans next year will pay fewer federal taxes, many businesses will have a lower tax rate and the pace of economic growth will accelerate in 2018, three economic experts told Insider.
However, they also warned that people at the lower end of the income scale would see no tax benefit and that the impact on middle-class Americans’ paychecks would be small.
In addition, they said the law’s long-term impact on economic growth likely would be muted because the additional growth would not be enough to offset a growing deficit, which either would require spending cuts down the line or force the government to increase its debt, which would produce an economic drag.
The law, which lowers federal income tax rates for individuals and businesses, has passed both houses of the U.S. Congress, and Trump will sign it soon.
Families with annual incomes between $50,000 and $75,000 will see the largest tax reductions in percentage terms, said Jose Fernandez, associate professor of economics at the University of Louisville.
The average middle-income family in Kentucky probably will have about $500 more per year after taxes, or about $42 more per month, he said, quoting figures from the Tax Foundation, a conservative think tank. People with higher incomes likely will see a smaller gain in percentage terms, but a higher gain in dollar terms.
More cash, more spending
Some of those dollars will be pumped into the economy, Fernandez said, with people spending more dollars on everything from food to clothes and dishwashers, which may prompt businesses to invest in new equipment and add some employees.
Gus Faucher, chief economist at the PNC Financial Services Group, said the tax law likely would boost GDP growth by 0.4 percentage points next year, to 2.7 percent. In 2019, the law likely will add only 0.2 percentage points, and “not much after that,” he said.
The primary beneficiaries of the law are businesses, which are going to see a significantly lower tax rate. The law reduces the nominal tax rate for businesses to 21 percent, down from the current 35 percent — though many businesses pay much lower rates.
Some businesses, across all industries, likely will use the additional dollars to buy new equipment, Faucher said. Some manufacturers will buy more machines, financial services companies may buy new information technology equipment, health care companies could buy more data storage.
But, Faucher said, the lower tax rate’s overall impact on economic growth is going to be small.
“Businesses are already highly profitable,” he said.
David Dubofsky, professor of finance at the University of Louisville, agreed.
“There’s no guarantee that companies are going to … spend more and hire more,” he said.
Corporations have generated significant profits in the last few years, Dubofsky said.
“If they wanted to expand … they could have been doing that in the past year,” he said.
Louisville-based Humana is a good example. The insurer will be among the primary beneficiaries of the tax cut, according to Credit-Suisse, but whether the increased cash will translate into job creation or business investments is unclear.
Humana, one of Louisville’s largest employers, could not be reached to talk about the impact of the lower tax rate, but the company cut 2,700 jobs in the third quarter even though it had nearly $10 billion in cash, more than twice as much as at the beginning of the year.
Faucher and Dubofsky said that many companies likely would use their additional cash in the same way that they had used most of their profits in the last few years: increasing stock dividends and buying back shares.
Higher dividends reward shareholders and entice more people to buy shares, which increases the stock price. Share buybacks, too, boost the stock price, which rewards shareholders and executives whose compensation is tied to stock price performance.
Humana this year increased its dividend payment to 40 cents per share, up 11 cents.
The insurer this year also has spent more than $2 billion to buy back its own shares. Humana shares are up about 21 percent this year. For comparison, the S&P 500 has risen nearly 20 percent. Just this month, Humana said that its board had approved share repurchases of $3 billion through Dec. 31, 2020.
The Kentucky Chamber of Commerce and Greater Louisville Inc. have encouraged Congress to pass the legislation. In a letter to U.S. Sen. Mitch McConnell, the organizations said that the lower corporate tax rate “would better allow U.S. businesses to compete in today’s globalized marketplace” and that the lower rate “would increase incentives to invest in the U.S., enhancing economic growth and benefiting American workers, consumers and small businesses.”
The conservative Tax Foundation said the law likely would create a net of 339,000 jobs nationwide, including 4,488 in Kentucky. About a third of the jobs in the commonwealth are in the Louisville metro.
Deficits, spending cuts, unintended consequences
The economic experts also told Insider that the law would increase the federal deficit and debt, which likely would be a drag on economic growth.
Fernandez said that conservative and liberal estimates on the impact on the deficit vary, but the middle point is about $1 trillion. That means either the federal government will have to borrow money, which would make it more difficult for private businesses to find capital for expansion — or it will have to cut spending.
Faucher and Dubofsky said that any spending cuts Congress enacted down the line would diminish the growth impact from the new tax bill.
Dubofsky also warned that given the speed and secrecy with which the law was passed, the ultimate impact of the legislation is difficult to predict.
“There are going to be winners. There are going to be losers,” he said.
And some people who expect to be among the winners will find in April 2019, when they file their federal tax return, that they are instead among the losers, Dubofsky said.
“The tax bill was rushed through so fast, nobody had time to read it,” he said. “There has not been a careful analysis of the bill.”
He also questioned the timing of the tax cut, as it comes during an economic expansion that has lasted for more than eight years, solid GDP growth and low unemployment.
“This is the first time in history that we are giving a tax cut at this stage of the economic cycle,” he said.
Dubofsky and Faucher also said the legislation did not make the tax code simpler. In fact, Faucher said in some cases it’s making the tax code less efficient.
“It’s a real missed opportunity,” he said.