Proposed Corporate Rate Hike Would Damage Economic Output

August 23, 2018

It’s been eight months since most of the major provisions in the Tax Cuts and Jobs Act (TCJA) took effect. But a new piece from Bloomberg details that some Democrats already want to walk back one of the major pro-growth provisions in the new law.

We’ve estimated that the TCJA–which lowered the corporate tax rate from 35 percent to 21 percent–will help grow the economy in the long run and boost wages. As we’ve written previously, the newly-lowered corporate rate drives these long-run effects. Raising the corporate income tax rate, a proposal that Bloomberg says is under consideration, would dismantle the most significant pro-growth provision in the TCJA and carry significant economic consequences.

The current 21 percent rate is more in line with other major countries. It is important to recognize and understand the economic benefits of a globally competitive corporate tax rate, and the trade-offs that increasing the rate would entail. A corporate tax rate that is more in line with our competitors reduces the incentives for firms to realize their profits in lower-tax jurisdictions and encourages companies to invest in the United States.

The table below considers the economic effects of raising the corporate tax rate to 22 and 25 percent from the current baseline of 21 percent using the Tax Foundation’s Taxes and Growth model. Raising the rate would reduce economic growth and lead to a smaller capital stock, lower wage growth, and reduced employment.

Long-Run Economic Effects of Raising the Corporate Income Tax Rate
  22% CIT 25% CIT

Source: Tax Foundation Taxes and Growth Model, June 2018

Change in GDP -0.21% -0.87%
Change in GDP (billions of 2018 $) -$56.43 -$228.11
Change in private capital stock -0.52% -2.11%
Change in wage rate -0.18% -0.74%
Change in full-time equivalent jobs -44,500 -175,700

Raising the corporate tax rate increases the cost of making investments in the United States. Under a higher tax rate, some investments wouldn’t be made, which leads to less capital formation and fewer jobs, with lower wages.

For example, permanently raising the corporate rate by 1 percentage point to 22 percent would reduce long-run GDP by over $56 billion; the smaller economy would result in a 0.5 percent decrease in capital stock, 0.18 percent decrease in wages, and 44,500 fewer full-time equivalent jobs. Raising the rate to 25 percent would reduce GDP by more than $220 billion and result in 175,700 fewer jobs.

Given the positive economic effects of a lower corporate tax rate, lawmakers should avoid viewing the corporate income tax as a potential source of raising additional revenue.

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