WASHINGTON – President Trump is borrowing Ronald Reagan’s "Morning in America" campaign slogan to sell tax cuts. But the former Republican president's economic officials have a warning for him: A 1981-style income tax cut will do little to revive the economy and would raise an already booming deficit.
Republicans on Capitol Hill plan to unveil this week their legislative package to lower individual and corporate tax rates without commensurate spending cuts. In a recent USA TODAY opinion editorial, Trump likened his plan to Reagan’s approach to cutting taxes, saying "the sun is once again rising over America."
Trump's plan is most comparable to Reagan’s first round of tax cuts in 1981, which slashed individual income tax rates and estate and corporate taxes as opposed to a broad, bipartisan tax reform package Congress passed in 1986, said Eugene Steuerle, a deputy assistant Treasury secretary for tax policy during Reagan's second term.
“The administration appears to be moving away from reform and back into the Santa Claus mode,” Steuerle said, since the national debt is already in unprecedented territory. In 1980, the national debt was 25% of gross domestic product. In 2017, it’s projected to be 77%. “If it’s just a tax cut financed by tax increases in the future," Steuerle continued, "you have to ask whether there’s a tax cut at all."
Art Laffer, who was on Reagan’s economic policy advisory board who is now advocating for tax cuts, said cuts to the individual tax rates and eliminating the estate tax, which only applies to estates worth more than $5 million, will add to the national debt and do little to juice the economy. Laffer is best known for the “Laffer Curve,” a theory about the optimal rate for taxes, and advised Trump’s presidential campaign.
Yet he is adamant a corporate rate cut would spark growth and pay for itself. “Every Democrat knows that the corporate tax rate is too high,” Laffer said. “I wish it were just a big old corporate tax rate reduction, from 35% to 15% and that would be perfect."
Getting a tax package through Congress has become a litmus test for the Trump presidency, as Trump has not yet delivered on any of his major legislative promises, such as repealing Obamacare or building a border wall, even with GOP control in both chambers. Republicans fear if they don't pass something soon, simmering intraparty tensions will explode and they’ll be voted out in the 2018 midterm elections.
While tax cuts are a pillar of GOP economic theory, in today's economy, tax cuts that add to the debt are an even riskier proposition than they were under Reagan given baked-in future deficits due to the retiring baby boom generation. In the 1980’s, the baby boom generation was entering its most productive years, buying cars and houses, while women were entering the work force in greater numbers. Now they are retiring, creating a budget strain.
Still, many Republicans are saying they have no choice but to pass a bill in order to declare a legislative victory. “They are afraid. There are among them very few people who are going to be considered profiles in courage,” said Steve Bell, who was the Senate Budget Committee staff director from 1981 to 1986.
Trump set unrealistic expectations during his campaign, promising to protect Social Security and pay down the national debt while cutting taxes and increasing defense spending, said Jeffrey Frankel, a Harvard economist who served on Reagan’s Council of Economic Advisors from 1983 to 1984. “The fiscal promises President Trump made are not just implausible on the basis of economy, but it’s arithmetically impossible,” Frankel said.
“It shouldn’t be that hard to understand. How are massive tax cuts for the rich in the interest of fiscal responsibility and the median worker?” Frankel said.
While Trump has been touring states to reveal the details of his tax plan, the details are still unclear.
In his editorial, Trump said Reagan’s cuts in 1981 “helped launch one of the largest peacetime economic expansions in history as “dormant small businesses and factories sprung back to life.” In a Friday conference call, the chair of Trump's Council of Economic Advisers, Kevin Hassett, laid out a case for why corporate tax reform could raise median household incomes by increasing economic growth and boosting demand for labor.
History suggests tax cuts aren’t a guaranteed political boon. In fact, things got worse for Reagan in 1982, according to a Gallup analysis that found the public's view of the economy “remained sour” after his first round of cuts. At the end of the year, Reagan's approval rating dropped to 41% and Republicans lost about 25 seats in the House midterms.
Further, as deficits spiked, Reagan's cuts were followed by a series of tax increases, including one to the Social Security payroll tax that disproportionately hits the middle class. Today Democrats fear Trump will also propose Social Security cuts after securing tax cuts. Social Security's trust funds, the assets held by the U.S. Treasury that fund benefits, are already projected to be depleted in 2034.
The administration is also facing challenges in labeling Trump's plan as a “middle class” cut – when the centerpiece appears to be a corporate rate cut financed by potential limits on retirement savings and a state income tax deduction. To counter criticism the plan benefits the wealthy, the administration is considering maintaining a higher tax rate for the wealthiest Americans.
Another important difference between today and the 1980's economic and fiscal picture: The top income tax rate is 30 points lower than when Reagan cut taxes. Compare today's top tax rate of 39.6%, versus 70% in 1981. That means cutting rates further will pack less of a punch today. Also, unemployment is already relatively low, at 4.2% in September. It was 8.6% in 1982.
Trump also wants to cut the corporate rate, which is higher than many other nations, saying it will unleash investment. Even so, some economists argue U.S. corporations pay a much lower effective rate given tax preferences and are already sitting on large sums of cash that are not being invested. “It’s not clear they need more money in their hands,” Steuerle said.
Further, when Reagan negotiated subsequent tax reform, in 1986, it included bipartisan principles aimed at overhauling the entire code – including eliminating as many special interest loopholes as possible and taxing all income similarly – that some Reagan economists say are lacking in the current debate.
“Trying to call up the good name of Ronald Reagan and assign it to what’s going on now is a travesty,” said William Poole, a member of Reagan's Council of Economic Advisers in his first administration. Reagan, he said, insisted on a long legislative process that included serious negotiations with Democrats – whereas Republicans are largely crafting their plan without Democratic input.
“This legislation is utterly, completely different from the way that Reagan went about in the 1986 legislation,” said Poole, also a former president of the Federal Reserve Bank of St. Louis.
Steuerle said Trump should adopt a new approach. "The emphasis has to be on more effective government ... rather than just trying to give money away to people when our budget is in such bad shape," he said.
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