US Republicans’ claims about the benefits of tax cuts have a credibility deficit

Tax cuts masquerading as tax reform are the best way to describe the thrust of Washington’s latest policy gambit. The case is largely political – namely, the urgency of a Republican Congress to deliver a legislative victory for a Republican president who has had few. The consequences, however, are ultimately economic – and, unsurprisingly, likely to be far worse than the politicians are willing to admit.

Taking the lead from President Donald Trump, the political case for tax cuts is that they are essential to “make America great again”. Overtaxed and cheated by bad trade deals, goes the argument, America needs tax relief to revive its competitive prowess.

Notwithstanding the political pandering to hard-pressed middle-class families, corporate America is clearly the focus of these efforts, with proposed legislation aiming to reduce business tax rates from 35 per cent to 20 per cent. Never mind that US companies currently pay a surprisingly low effective corporate tax rate – just 22 per cent – when judged against post-second-world-war experience.

And pay no attention to the latest tally of international competitiveness by the World Economic Forum, which finds the US back in second place (out of 137 countries). And, of course, don’t draw comfort from the lofty stock market valuations of the broad constellation of US companies. Forget all that, Republicans insist: cut business taxes, they say, and all that ails America will be cured.

There are times when the politicisation of economic arguments becomes dangerous. This is one of those times. The US can’t afford the current tax cuts making their way through Congress. According to the non-partisan Congressional Budget Office, the cuts will result in a cumulative deficit of about US$1.4 trillion over the next decade. The problem arises because America’s chronic saving shortfall has now moved into the danger zone, making it much more difficult to fund multi-year deficits today than was the case when cutting taxes in the past.