Raising economic expectations with the “after-tax” reckon: President Trump’s corporate tax cut plan.

The series of documents published by the White House Council of Economic Advisers indicate that President Donald Trump’s Tax Reform will end up being his economic growth policy. The most persuasive pitch behind the corporate tax cut is that lowering taxes to corporations will foster economic investment thereby economic growth. Further, the political rhetoric refers to GDP growth estimates of a tax-cut-boosted 3 to 5 percent growth in the long run. In supporting the corporate tax cut, the White House Council of Economic Advisers presented both a theoretical framework and some empirical evidence of the effects of tax cuts on economic growth. Even though the evidence presented by the CEA is sound and right, after reading the document, any analyst would promptly notice that the story is incomplete and biased. In this blog post, I will briefly point to the incompleteness of White House CEA’s tax cut policy justification. Then, I will show that the alleged “substantial” empirical evidence meant to support the corporate tax-cut policy is insufficient as well as flawed. In third place, I will make some remarks on the relevance of the tax-cut as a fiscal policy tool in balance to the current limitation of monetary policy. Finally, I conclude that despite the short-term benefits of the corporate tax cut, such benefits are temporal as the new normal rate settles, and at the end of the day, given that tax policy cannot be optimized, setting expectations from the administration is a policy waste of time.

The very first policy instance that CEA stresses in its document is the fact that corporate tax cut does affect economic growth. Following CEA’s rationale of current economic conditions, the main obstacle to GDP growth rates above 2 percent is low rates of private fixed investment. CEA infers implicitly that the user cost of capital far exceeds profit rates. In other words, profit rates do not add up enough to cover for depreciation and wear off capital investments. Thus, if private investment depends on expected profit as well as depreciation, simply put I_t=I(π_t/(r_t+ δ)) where the numerator is profit, and the denominator is the user cost of capital (Real Interest rate plus depreciation), the quickest strategy to alter the equation is by increasing profit through lowering on fixed cost such as taxes. CEA’s rationale assumes correctly that no one can control depreciation of capital goods, and wrongly thinks that no one (including the Federal Reserve which faces serious limitations) can control real interest rate, currently.

CEA fetched some data from the Bureau of Economic Analysis to demonstrate that private sector Investment is showing concerning signals of exhaustion. The Council sees a “substantial” weakness in equipment and structures investments. More precisely, CEA remarks that both equipment and structure investment have declined since 2014. Indeed, both variables show a decline in levels of 2 and 4 percent respectively. However, and although CEA considers such decline worrisome, those decreases seem not extraordinary for the variables to develop truly policy concerns. In fairness, those variables have shown sharper decreases in the past. The adjective “substantial,” which justifies the corporate tax cut proposal, is fundamentally flawed.

The problem with the proposal is that “substantial” does not imply “significant” statistically speaking. In fact, when put in econometric perspective, one of those two declines does not appear to be statistically different from the mean. In other words, the two declines look perfectly as a natural variation within the normal business cycle. A simple one sample t-test will show the incorrectness of the “substantial” reading of the data. A negative .023 change (p=.062), in Private fixed investment in equipment (Non-Residential) from 2015 to 2016, is just on the verge of normal business (M=.027, SD=.097), when alpha level is set to .05. On the other hand, a negative .043 change (p=.013) in Private fixed investment for nonresidential structures stands out of the average change (M=.043, SD= .12), but still, it is too early to claim there is a substantial deacceleration of investments.

Thus, if the empirical data on investment do not support a change in tax policy, then the CEA tries to maneuver growth by policy expectations. Their statements and publications unveil the desire to influence agents’ economic behavior by reckoning with the “after-tax” condition of expected profit calculations. Naturally, the economic benefits of corporate tax cuts will run only in the short term as the new rate becomes the new normal. Therefore, the benefit of nominally increasing profits will just boost profit expectations in the short term while increasing the deficit in the long run. Ultimately, the problem of using tax reform as growth policy is that tax rates cannot be controlled for optimization. Unlike interest rate, for numerous reasons, governments do not utilize tax policy as a tool for influencing either markets or economic agents.

 

Internal demand strengthens as external conditions weaken.

Main national economic indicators reveal a solidifying moment of the American economy. In spite of job losses in mining and oil-related sectors, total nonfarm payroll employment increased by 242,000 in February; and although the unemployment rate kept unmovingly, the economy shows signs of very good standing relative to past winter season data. The biggest risk, though, is probably to come from outside the United States. In that regard, the latest data on international trade in goods and services confirm that the economic momentum in being built on the internal demand for goods, whereas the international market weakens. In other words, foreign trade is not adding much to the current economic expansion given that both imports and exports decreased in January. With the dollar as it stands currently, what analysts expect to see is a big inflow of trade, which has not realized yet. That could be somewhat worrisome.

By Catherine De Las Salas

By Catherine De Las Salas

Countries have not found their way in:

Most of the accounts of trade balance declined in January. Countries have not found the way in for commodities even when the US Dollar remains high. In fact, the US Balance of Trade in 2015 exhibited a positive trend with a net gain of U$851 million of dollars (Graph 1 below). In January, imports of goods declined U$2.9 billion as a result of a noticeable drop in the value of Crude Oil imports, and a decrease in Capital Goods. On the other hand, exports of Goods fell U$4.0 billion mainly as a result of small international sales of Capital Goods and Industrial Supplies Materials. Nevertheless, those decreases, exports of services increased especially on Travel for all purposes and transportation.

No analyst expects to see US Exports to grow considerably currently. Otherwise, economists expect overseas countries to take advantage of the current dollar rate, which has not happened yet. US Exports deteriorate due to strong dollar abroad. The deficit in the Balance of Trade continues to grow negatively for the United States in spite of 2015 being a good year. The deficit increased by $U2.1 billion over the year, which correspond to 4.8 percent when compared January 2016 and January 2016. Exports decreased U$12.5 billion over the year as Imports did so too by U$10.5 billion. Over the month changes in the Balance of Trade registered only positive increases in exports of Services. All these data beg the question about international markets. Why countries overseas are not selling to the United States?

U.S. Balance of Trade

Internal demand is gaining momentum:

With almost every international trade indicator declining, what is feasible to infer about the economy is that the internal demand for good and manufacturing is gaining momentum. The evidence rests on employment data. Just in the past three months, payroll data has shown an average increase of 228,000 jobs created per month. Usually, employment creation in January and February are not that good because of the weather. February 2016 employment data exhibited gains in Healthcare (+38,000), Retail trade (+55,000), Food and Services (+40,000) and Construction (+19,000). Retail trade, Food and Services, and Construction usually are affected by weather conditions. This year seems to be different.

 

Gross Domestic Product in 2015: same tempo as in 2014.

Real GDP in the United States increased by 2.4 percent in 2015 when compared to 2014. This growth rate represents the same tempo as in 2014. Growth was pulled up mainly by Personal Consumption Expenditures, Nonresidential fixed Investments, Private Inventory Investment, State and local Governments, and Exports. Although these figures of economic growth may look sluggish for many analysts, the truth is that they encompass good news for the American economy as far as investments concerns. The fact that economic growth was pushed up by both Personal Consumption Expenditures and nonresidential fixed investments means that both business people and consumers are confident about future economic outlook.

Consumption and  Nonresidential Fixed Investments:

On one hand personal consumption expenditure reveals that people are spending and not holding back on economic plans. Such a situation, combined with recent data on household debt, shows household are in good stand not only for economic growth but also for absorbing unexpected economic shocks. Same intuition applies to businesses insofar as Nonresidential Fixed Investments grew considerable. Those Nonresidential Fixed Investments are the set of spending dedicated to improving and expanding business facilities. State and local state spending continue to bolster economic growth nationally proving public expenditures work out well for the economy.

Price Indexes have been dragging much of the GDP figures for the last year or so. Indeed, the price index for gross domestic purchases barely increased 0.4 percent during 2015. It is worth noting that in spite of deflationary pressures derived from low oil prices, the price index for purchases rose 1.2 percent in 2014.

On the quarterly basis, second estimates data for the last quarter of 2015 showed that the economy expanded at 1.0 percent (when compared 4Q2014 and 4Q2015). Unlike the year-round picture, the last quarter increases resulted mainly from residential fixed investments and federal government spending, whereas nonresidential fixed investments declined along with a decrease in private inventory investments.

“Core” inflation rate will have huge influence on monetary policy next month.

Second Estimates for real GDP growth in the United States indicate that the economy grew at 3.7 percent during the second quarter of 2015 after correcting by price change. The report from the Bureau of Economic Analysis informs that the change mainly derived from positive contribution of consumer spending, exports, and spending of state and local governments. These increases are said to have been offset by a deceleration in private inventory investment, federal government investment, and residential fixed investment. The revised figure for first quarter of 2015 went up from -0.7 percent to 0.6 percent.

Besides real GDP calculations stand the estimates for prices changes in goods and purchases made by American residents that the Bureau of Economic Analysis (BEA) does simultaneously to the calculations made by the Bureau of Labor Statistics (BLS). In this regard, this time around the second quarter, prices had a positive growth of roughly 1.6 percent, which the BEA reports was derived from an increase in both consumer prices, and prices paid by local and state governments. Please bear in mind that, in the first quarter of 2015, prices were said to have dragged down the GDP numbers since the index decreased by roughly 1.1 percent change.

H&M Store in Broadway NYC. By Catherine De Las Salas. Summer 2015.

H&M Store in Broadway NYC. By Catherine De Las Salas. Summer 2015.

These price changes are actually good news for the Federal Reserve System for whom a moderate upswing in inflation helps them to achieve their yearly monetary goal of 2.0 percent inflation rate. And for those of whom like to make economic forecast, these figures mount onto their analysis for determining whether or not the Federal Reserve will increase interest rates in September. So, although real GDP measures are certainly corrected for price changes, the BEA’s price index will -on its own- have huge influence on monetary policy options for the months to come.

Thus, relevant data nowadays stem from BEA’s “core” inflation rate, which is to say price change without food prices and energy prices. Indeed, when figures isolate energy and foods volatility, the measure of inflation reaches 1.8 percent change from the first quarter of 2015. These changes in prices and output rightly affect the wallet of American residents. Price changes, plus increases in output -which reflect decreases in unemployment rate- may take consumer and producers to edge up their spending, which was one of the factor behind positive change in real GDP growth as mentioned above. Then, whenever spending tends to accelerate beyond its capacity the Federal Reserve reacts with an increase in interests rates. Even though one could argue that such is not currently the case, given that data on capacity utilization clearly shows that the American Economy has room to further spending, the BEA’s “core” inflation will be the measure that could possible make Federal Reserve Officials think twice about interest rates.

So, the puzzle about what the Federal Reserve will end up doing next Federal Open Market Committee meeting is fourfold, and it will derive from the different sources of data: first, price change data from BEA, which BEA claims to be way more “accurate” than BLS’. GDP growth from BEA, which is calculated by correcting price changes with their own price index. Price change from BLS, which may vary from BEA’s calculations. And capacity utilization from the Federal Reserve, which is whom finally decides on interest rates changes.

14 Data Sources, Surveys and Metrics for Doing Research on U.S. Macroeconomic Performance.

If your research project encompasses facts on the Macroeconomic Performance of the U.S. Economy, here are some useful data sources and metrics that might illuminate insights for your research. Although there might be some discrepancies between what you narrowed as your research question and the data sources showed below, chances are you will find a set of metrics that might capture a good proxy for your research topic.

Look through the list and then identify a possible match between your research question and the data source:

1. Gross Domestic Product (Regional, State, Metropolitan Area): U.S. Bureau of Economic Analysis.
2. Money Stock Measures: Federal Reserve System, Board of Governors.
3. U.S. Imports and Exports Price Indexes: U.S. bureau of Labor Statistics.
4. Selected Interest Rates: Federal Reserve System, Board of Governors.
5. Consumer Price Index / Producer Price Index: U.S. bureau of Labor Statistics.
6. Federal Open Market Committee Minutes: Federal Reserve System, Board of Governors.
7. Industrial Production and Capacity Utilization: Federal Reserve System, Board of Governors.
8. Monthly Treasury Statement: U.S. Bureau of the Fiscal Service.
9. Consumer Credit: Federal Reserve System, Board of Governors.
10. U.S. International Trade in Goods and Services: U.S. Bureau of Economic Analysis.
11. Senior Loan Officer Opinion Survey: Federal Reserve System, Board of Governors.
12. Beige Book. Summary of commentary on Current Economic Conditions: Federal Reserve System, Board of Governors. By District
13. U.S. International Transaction – Current Account: U.S. Bureau of Economic Analysis.
14. State and Local Tax revenue: U.S. Census Bureau.

We can support your research:

Econometricus.com helps Social and Political Scientist Researchers in understanding the economic situation of a specific industry, sector or policy by looking at the United States’ Macroeconomic environment. Econometricus.com may guide you through empirical data on Economic Growth, Monetary Pressures, Fiscal Spending, Current Account, and Employment. Applied-Analysis can be either “Snapshots of the U.S. Economy” or historic trends (Time-series Analysis). Our clients can rely on a thorough and exhaustive data driven analysis that illuminates forecasting and economic decision-making. Clients may down-size or augment the scope of the research as to tailor it to their needs.

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Employment statistics cannot be interpreted in a vacuum.

Employment statistics cannot be interpreted in a vacuum inasmuch as other economic indicators do determine employment growth. There are many nuances that require attention to detail. Indeed, details on June’s 2015 report on labor market are twofold. First, mining related industries –including utilities- started to adjust to low oil prices, as well as low demand for several manufacturing goods tempered high expectations risen before summer season. Likewise, spring low levels of investment on residential construction realized a decrease on employment for the summer. Second, Professional Business and Services continues to lead job creation in United States. In other words, oil prices do continue to affect the economy, though the industry started to adjust; strong dollar dragged international demand for U.S. metals products thereby affecting employment in manufacturing; third, low levels of investment in construction are taking a toll in employment creation.

Employment level June 2015.

Employment level June 2015.

Since Construction Investment slowed down in the spring, employment in the industry drops in the summer:

The latter factor should worry the most labor economist. Given that oil prices and exchange rates are beyond strictly control of United States institutions, and are also well known phenomena, investment in construction should call the attention of economic policy leaders. Since the beginning of the summer of 2015, when the statistics about GDP 2015Q1 were released, economists started to look at Investment in non-residential and residential structures. This sector is key for the seasonal employment since, as soon as weather allows for, construction and outdoor activities rebound. However, early in the spring 2015, this was not the case. Total residential construction put in place for the month of April 2015 decreased to $353,086 billion of dollars from 360,826 billion put in place the same month 2014, which equals 2 percent decrease over the year.

Residential Construction Put in Place, April 2015.

Residential Construction Put in Place, April 2015.

So, it should not surprise anyone that construction-contractors cut back employment as they see investment dropping. That very fact shows up in employment statistics astonishingly. Data from BLS show construction did not contribute significantly to augment employment levels nationally. Instead, 6.1KResidential construction building workers were dismiss from work; 5.6K Nonresidential specialty trade contractors were also cut from duty. That makes up to roughly 12K seasonal jobs that are crucial for year-round labor statistics.
These statistics are relevant for economics given that construction of new homes has many job spillovers in manufacturing industries. Another way to say the same is that whenever a new home is built, new sofas, TV’s, Kitchens, furniture, so on and so forth, are needed. Furthermore, the housing market was the sector that initiated the Great Recession, and construction as a sector was the latest in joining the path to recover. This issue helps to introduce the other weak flank of the current employment situation: manufacturing.

Manufacturing feels the spillover of strong dollar and low local demand:

The other drop in employment levels for June 2015 was seen in manufacturing, more precisely on metal related products which decreased employment level by 4.5K persons. In this case, apparently, it is not only internal demand which is cutting back employment levels, but also international demand for U.S. manufacture goods. In other words, last six months of strong dollar reduced the demand for U.S. manufacturing thereby affecting employment locally. Several sources have noted the extent to which the exchange rate is affecting negatively U.S. competitiveness and employment. Especially for metal products. Recent data on Current Account –Exports and Imports- released by the Bureau of Economic Analysis showed that during the first quarter of 2015 Goods exports decreased to $382.7 Billion from $409.1 billion. The drop in manufacture exports was mostly driven by a decrease in industrial supplies such as Petroleum, Chemicals and…. Metals products. This effect obviously spills over employment levels nationally. Once again, it is not a surprise.

Unemployment rates, June 2015.

Unemployment rates, June 2015.

The surprise:

Finally, what really happens to be a surprise is the revision of employment levels for the months of April and May 2015. The Bureau of Labor Statistics corrected its initial estimates on those figures by stating that April’s 2015 employments added were 187,000, and May’s employment added were 254,000. At first glance, April statistic fell below the threshold of 200,000 jobs per month, which should worry analysts to begin with. Then, when computed, the total amount of jobs not realized statistically amounts to 60,000. Thus, the monthly average for job gains is 221,000, which is slightly above the 200,000 threshold.

Data show consumers might be focused paying back debt.

Although news on Consumption Expenditures show a decrease in nondurable goods, that does not mean consumers are cutting back expenditure severely. Thus far –June 25th 2015-, economists believe the demand side of the economy affected economic growth in the first quarter of 2015. Data released on June 25th by the U.S. Bureau of Economic Analysis unveiled expenditures in nondurable goods dragged down personal consumption. Bear in mind that nondurable goods are mostly the set of products that consumers buy without using loans. This may indicate that consumers might be offsetting previous expenditure financed by loans. In other words, consumers might be paying back debt, as Durable goods also declined but did not so as sharply as nondurable did.

Consumption

This very fact shows consumers spend responsible nowadays, which is promising for the months to come inasmuch as consumers balance their budgets. In spite of the actual decrease, the news are indeed positive in that regard. In fact, when comparing the same data on a year basis, Households experienced an increase in consumption expenditures of about 3.4% during the month of May 2015, when compared to the same month in 2014. Data also allow for some inferences about the role that interest rates are playing in both incentivizing and preventing consumption. If indeed, the data reveal that consumer spend nowadays responsible, monetary policy will find in that very fact a limit for its own policy purpose.

 

Consumption 2

On the other hand, the U.S. Bureau of Economic Analysis reported on June 25th that for the month of May, Personal Income increased 79 billion which equals 0.5% change from preceding month. Personal Disposable Income (DPI) also increased by the same percentage. Nominally speaking, Personal Consumption (PCE) expenditures increased $105.9 billion, or 0.9 percent. In April, personal income increased $69.6 billion, or 0.5 percent, DPI increased $57.0 billion, or 0.4 percent, and PCE increased $8.5 billion, or 0.1 percent, based on revised estimates.

Real US GDP increased 5.0 percent in the third quarter of 2014: BEA.

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Real Gross Domestic Product increased 5.0 percent in the third quarter of 2014, the US Bureau of Economic Analysis reported today January 22 of 2015. The largest contributor for its expansion was the Finance, insurance, real state, rental and leasing Industry with a significant 20% of the total value added to GDP during the third quarter of 2014. Real State and leasing industry contributed 13 percent while the Finance and Insurance contributed 7.4 percent. The actual change in Value Added of the Finance industry was 21.2 percent when compared to the second quarter 2014, from which it had grown previously only 6.0 percent. Real Value Added is a measure of an Industry’s contribution to GDP given in constant prices (2005) rather than current prices.

Value Added by Industry group as a Percentage of GDP during the third quarter of 2014 was largely driven by the Finance and Insurance Industry. The second contributors for total GDP Value Added were both manufacturing Industry as well as Professional and Business Services Industry, which both contributed with 12 percent each. The public sector contributed with 9 percent of the GDP Value Added for the third quarter 2014. Education and health care also bolstered GDP Value Added largely with 8 percent.

These data point out toward a more convincing signals of a solid path of United States GDP expansion. First quarter of 2014 posed many question about the strength of the economic recovery from the Great Recession.

Take a look at Real Value Added by Industry:

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Real Value Added by Mining industry augmented by 25.6 percent, which meant its largest increase since the fourth quarter of 2008. It contributed 3 percent of the 5% GDP increase.

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Utility Industry which contributed 2 percent out of the 5 percent GDP growth, showed a 18.2 percent change from the preceding period.

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Real Value Added by Construction industry registered a small 2.3 percent change during the third quarter of 2014. Construction as a whole industry enlarged by 4 percent the total GDP Value Added for the same period.

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Manufacturing barely changed with a small 0.5 percent from the second quarter of 2014, though it still made up 12 percent of the total Value Added to GDP for the third quarter 2014.

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Real Value Added by the Wholesale trade industry registered a 7.3 percent change from period before. Wholesale industry made up 6 percent of the third 2014 quarter change. (Learn more details on Wholesale trade industry during 2014)

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Retail trade industry changed 1.1 percent and contributed the 5 percent GDP change by 6 percent. (See more details on Retail trade Industry).

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Real Value Added by the Transportation and Warehousing Industry changed 6.7 from preceding period. Such increase represents 3 percent of the total GDP change of third quarter 2014 (Read more on industries related to oil).

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Information Industry contributed 5 percent to GDP growth during the third quarter 2014, which came out of a 6.4 percent change of Real Value Added from preceding period.

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Real State, Rental and Leasing also grew its Value by 4.4 percent from the preceding period. The entire industry, which includes Finance and Insurance contributed 21 percent.

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Real Value Added by the Professional and Business services Industry experienced a 5.3 percent change during the third quarter of 2014. Professional Services Industry’s Value Added as a percentage of the total GDP represented 12 percent.

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Education services and Health care industries accounted for 8 percent change of the total 5 percent GDP Value Added during third quarter 2014.

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Real Value Added by Arts, recreation, Food Services, Entertainment added value at 5.1 percent when compared to the period before the third quarter 2014. This Industry as a group made up 4 percent of the total value added to GDP for the same period.

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