The Jobs and Wage Effects of a Corporate Rate Cut

October 25, 2017

Congressional tax writers will soon reveal their plans to reform the federal tax code. The most important thing that Congress and the Trump administration can do to boost economic growth, lift workers’ wages, create jobs, and make the U.S. economy more competitive globally, is reform the business-half of our tax system. And one of the most critical elements of that reform is cutting the corporate tax rate.

There has been a great deal of debate recently over how much a corporate rate cut can create jobs and boost wages and living standards. The Tax Foundation’s extensive economic research and tax modeling experience suggests that cutting the corporate tax rate to a globally competitive 20 percent would substantially lower the cost of capital which, in turn, would boost capital investment, leading to higher wages and more jobs.

Our research also shows that these economic benefits would be enhanced if lawmakers coupled a corporate rate cut with an allowance for full expensing of capital investments.

The GDP, Investment, and Jobs Effect of the Rate Cut

We used our Taxes and Growth (TAG) Macroeconomic Tax Model[1] to simulate the long-term economic effects of these policies separately and combined to give tax writers an idea of how the policies work together. The table below summarizes the long-term results of this exercise.

Here we can see that cutting the corporate tax rate to 20 percent would boost the long-term level of GDP by 3 percent and increase the capital stock by more than 8 percent. This has the effect of lifting wages by more than 2.5 percent and creating more than 587,000 full-time equivalent jobs.

The results are very similar for allowing corporations full expensing for their capital investments. In this example, long term is generally about ten years, once the policies have worked their way through the economy.[2]

Combining the two policies does not double the results because of their interactive effects. However, we can see that the two policies together would increase the level of GDP by 4.5 percent and the capital stock by nearly 13 percent. These economic forces act to lift wages by an average of 3.8 percent and create 861,000 full-time equivalent jobs.

Some might question how a corporate rate cut could create that many jobs while the economy is inching toward full employment. The TAG model is actually estimating the increase in the total amount of hours worked in the economy as a result of the policy change. Thus, some of those full-time equivalent hours could be filled by new workers, while others would be filled by part-time workers moving to full-time, or some idle people coming back into the workforce. 

It should also be noted that in performing these estimates, we have not factored in any increase in profit-shifting into the United States, either by U.S. firms repatriating foreign earnings or foreign-based firms increasing their investments into the U.S. We believe that a lower corporate tax rate would encourage such activity, but estimating those effects were outside the scope of this exercise. 

Long-Term Economic Effects of Expensing and a 20% Corporate Tax Rate
  20% Corporate Tax Rate Full Expensing Only (limited to C-Corps) 20% Rate and Full Expensing Combined
Tax Foundation, Taxes and Growth Model, March 2017 Version

GDP, long-run change in annual level (percent)

3.1% 3.0% 4.5%

GDP, long-run change in annual level (billions of 2016 $)

$587 $571 $867

Private business stocks (equipment, structures, etc.)

8.5% 8.3% 12.8%

Wage Rate

2.6% 2.5% 3.8%

Full-time Equivalent Jobs (in thousands)

592 575 861

The Effect on After-Tax Incomes Could Boost Support for Corporate Rate Cuts

There is typically little public support for corporate tax reform because most people don’t see how it will benefit their lives. Corporate tax reform may not “put cash in people’s pockets” in the same way as a cut in individual tax rates, but it can have a powerful effect on lifting after-tax incomes and living standards.

As we saw in the modeling results above, both expensing and a corporate rate cut can boost wages because of the increased productivity generated by the growth in capital investment. Better tools make workers more productive. Workers who are more productive earn more over time. When these gains are combined with the overall growth in the economy, after-tax incomes and living standards will rise. 

Tax Foundation’s TAG model factors these macroeconomic effects into our estimates of the change in after-tax incomes for taxpayers at different income levels. The nearby table shows that a 20 percent corporate tax rate would lift after-tax incomes by an average of more than $1,800. Every income group would see at least a 3.3 percent increase in their after-tax incomes because of the corporate rate cut.

The TAG model estimates that the combination of the 20 percent corporate tax rate and full expensing would boost after-tax incomes by an average of $2,664. Again, these gains represent the combination of wage growth, economic growth, and the distributed dollar value of the tax cuts.

Long-Term Effects on After-Tax Incomes
Income Group Average After-tax AGI 20% Corporate Tax Rate Full Expensing Only (limited to C-Corps) 20% Rate and Full Expensing Combined
Tax Foundation, Taxes and Growth Model, March 2017 Version
0% to 20% $7,171 $253 $246 $373
20% to 40% $20,138 $659 $641 $972
40% to 60% $33,391 $1,140 $1,109 $1,685
60% to 80% $54,968 $1,876 $1,825 $2,772
80% to 100% $142,539 $5,108 $4,968 $7,555
Average $51,485 $1,802 $1,753 $2,664

Conclusion

Corporate tax reform done right is key to growing the economy, boosting real family incomes, and making the U.S. a better place to do business in, and do business from. Tax Foundation modeling of a cut in the corporate tax rate to 20 percent estimates that the policy would lift the long-term level of GDP by over 3.0 percent, boost capital investment by 8.5 percent, and create more than 592,000 jobs, while increasing after-tax incomes of working Americans by an average of $1,800.


[1] For a full description of the TAG model, see https://taxfoundation.org/federal-tax/taxes-and-growth-model-overview-methodology/. We are also happy to give live demonstrations of the model upon request.

[2] Over the long term, a 20 percent corporate rate is a bigger tax cut than expensing. That is why we are seeing comparable results from the policies.


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