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BACKGROUND
In March, 2021, the Biden Administration announced the American Jobs Program, a sweeping and wide ranging proposal to spend $2 Trillion over a 10 year budget window on American infrastructure and other projects. However, what is considered traditional infrastructure (roads, bridges, ports, water systems, electrical grid, etc.) comprises only 5% to 7% of the total sum proposed by the White House.
This proposal, without surprise, immediately met with opposition by Republicans based on the magnitude and scope of its contents. In May, 2021, the Biden Administration lowered the spending proposal from $2 Trillion to $1.7 Trillion, a move that may be seen as a mostly symbolic attempt to gain bipartisan support. At this time, the Administration and Republicans are still $1 Trillion apart from reaching a bipartisan compromise on this proposal.
The sum of $1.7 Trillion as proposed must be paid for by the Government in some fashion. When it comes to the issue of payment for this initiative, Biden's proposal calls for raising the Corporate Tax Rate from its present 21% rate to a rate of 28% over the proposed 10 year budget window.
ECONOMIC IMPACT OF RAISING THE CORPORATE TAX RATE
- User Cost of Capital
In an analysis of Corporate Tax Rates, economists for one thing examine the user cost of capital (the measure of the cost to a firm associated with making use of $1 in investment in capital goods). This cost is mostly related to sums paid to equity and debt holders for financing the project, but it also includes depreciation costs, the present value of income deductions from spending on investments, and the corporate tax rate.
User Cost of Capital is integral in the financial planning of a business in assessing the viability of a new project. In contemplation of a new project, the finance department first extrapolates potential revenues to be derived from the project, then subtracts the costs of the goods and labor necessary to operate the project, leaving the difference being the operating surplus for the project.
By examining the operating surplus against the cost of the investment, if the operating surplus exceeds the cost, the project is funded and goes forward. However, where there is present an environment of increased corporate taxes, the user cost of capital is higher cutting into its difference from operating surplus. In this scenario fewer projects are funded or projects that are funded are pared down, all leading to less expansion in the economy and lower economic growth.
- Tax Burden and Wages
In economic theory, the costs of taxation are not necessarily shouldered by the payer of the tax. Specifically, with respect to rises in corporate taxes, there is widespread agreement that the tax is not solely borne by corporate shareholders [see, e.g. Auerbach, A.J. “Measuring the Effects of Corporate Tax Cuts,” Journal of Economic Perspectives, Vol. 32, No. 4 (2018), pp. 97–120. https://www.aeaweb.org/articles?id=10.1257/jep.32.4.97 (Accessed June 5, 2021).
Clearly, workers rely on capital to perform their work duties. When newer machines or technologically advanced equipment or even newer factories are available to workers, their productivity increases permitting them to command a higher wage. However, when there is an increase in corporate tax, businesses are forced to reduce their capital investment which in turn leads to lower wages due to the stifling of productivity. Lower wages equates to a reduction in expenditures by the workers in the marketplace, causing a decrease in demand for goods and the resultant reduction in production units manufactured. All of the above leading to a reduction of GDP generated by the economy.
- Reduction in Economic Output
Increases in the rate of corporate taxation affects the amount of both capital and labor utilized in overall economic production. The increase in the user cost of capital [discussed supra.] results in a decline in both the stock of equipment and stock of structures available to businesses for production. Less factories and equipment equals a reduction in economic output.
The fall in capital stock further leads to reduced systemwide wages resulting in people exiting the labor market or merely choosing to work less hours. With fewer people working, or people working less hours, economic output declines.
SUMMARY
"By raising the cost of capital, a higher corporate income tax reduces investment and economic growth. By reducing capital investment, a higher corporate income tax reduces long-term productivity growth, and lower productivity means lower wages". [York, E, and Muresianu, A. "Raising the Corporate Rate to 28 Percent Reduces GDP by $720 Billion Over Ten Years". https://taxfoundation.org/increase-corporate-tax-rate-28-percent/#:~:text=By%20raising%20the%20cost%20of,lower%20productivity%20means%20lower%20wages.&text=Corporate%20income%20taxes%20are%20one,harmful%20ways%20to%20raise%20revenue. (Accessed June 6, 2021). All resulting in an economic cost of reduced GDP.
CONCLUSION
In light of the foregoing, it is readily apparent that raising corporate taxes is one of the most detrimental methods to the economy for raising governmental revenue. The government is unable to collect tax income on corporate income that is not generated [This is the concept of deadweight loss. "As the size of the tax increases, tax revenue expands. However, when a much higher tax is levied, tax revenue eventually decreases. The higher tax reduces the total size of the market; Although taxes are taking a larger slice of the "pie," the total size of the pie is reduced". Wikipedia. https://en.wikipedia.org/wiki/Deadweight_loss#cite_note-:0-3 (Accessed June 6, 2021)].
Therefore, significant economic harm will be done by raising the corporate tax rate to pay for the Biden American Jobs Program. A much better economic approach would be to stay the present course with corporate taxes and to align governmental spending with the present generated revenue going forward.
[Author's Note: Opinions contained herein are those of the author and the author alone. To the utmost extent possible, the author has attempted to remove any perceived political agenda from this article. Please feel free to form your own opinion on this subject in accordance with your own personal beliefs.]
ABOUT THE AUTHOR
B.A. Economics/Political Science, Magna Cum Laude, Gettysburg College (1980)
J.D. Brooklyn Law School (1984)