Two years later the data show that
investment has increased,
with wages and job participation rising.
It’s been two years since President Trump signed the Tax Cuts and Jobs Act into law. To the delight of supply-siders, the law contained significant marginal tax rate reductions for individuals and corporations. At the time there was lively debate concerning the likely economic impact of the bill, with opponents pointing to analyses that found little effect from the rate reductions. At the White House, where we worked at the time, we produced analyses that suggested economic growth would surge. On the second anniversary of the TCJA, the numbers are in, and our projections have been vindicated.
The view that the tax cuts would jump-start the economy was based on abundant economic literature examining how tax policy affects decision-making by businesses and individuals. On the corporate side, the tax cut reduced the cost of installing new plant and machinery by about 10%, suggesting that capital spending would jump by the same amount. This would increase the amount of capital per worker and drive up productivity and wages. President Trump emphasized the last point repeatedly, arguing that family incomes would increase by about $4,000 in three to five years, with blue-collar workers benefiting disproportionately.
This predicted increase in capital has materialized, and has translated into additional economic growth. In 2017 our calculations suggested gross domestic product growth would accelerate in response to higher capital spending, with the contribution of nonresidential fixed investment to real GDP growth rising to between 0.8% and 1% in 2018. The contribution of this type of investment to economic growth from the first quarter of 2018 to the fourth quarter of 2018 was right on target, at 0.8%. This wasn’t the existing trend. Capital spending was 4.5% higher in 2018 than pre-TCJA blue-chip forecasts, and this trend continued in 2019.
This extra capital improved productivity and wages and, as expected, did so especially for those in lower-paying jobs. The numbers are striking. Over the past year, nominal wages for the lowest 10% of American workers jumped 7%. The growth rate for those without a high-school diploma was 9%. The median worker benefited as well, but much less so, helping to begin closing the income inequality gap. And about that $4,000? Real disposable personal income per household has increased $6,000 since the tax cuts were passed.
On the individual side, we expected that lower marginal tax rates would encourage people to re-engage in the workforce after years of lower or stagnant participation rates. On this the literature is clear as well. When tax rates go up, younger workers don’t respond much, since they must consider the long-run benefit of giving up the future gains from having more experience. But older workers, whose future wages are less important because their careers have less run time, respond by exiting the workforce.
We saw this exact pattern when President Obama hiked marginal tax rates, with labor-force participation dropping 0.7% after the tax increase for workers 35 to 44, but dropping 1.5% for workers over 55. After passage of the TCJA, the opposite pattern emerged, with labor-force participation for those between 35 and 44 increasing 0.4%, and labor-force participation for those over 55 increasing 1.3%.
Those who say that the strong economy under President Trump is merely a continuation of past trends are in full-scale denial. Before Mr. Trump took office in January 2017, the Congressional Budget Office forecast the creation of only two million jobs by this point. The economy has in fact created seven million jobs since January 2017. At the same time, the Federal Reserve’s median forecast had the unemployment rate inching up toward 5%, almost 1.5 percentage points higher than the current 50-year low.
To be sure, there have been some headwinds over the past year with the Fed’s interest policy, the domestic political environment and trade-policy uncertainty pushing growth to below the 3% target in 2019. Nonetheless, the slowdown is world-wide, and the U.S. is the only Group of Seven country that will post growth above 2% this year.
All of this is a great victory for the American people—and for the latest economics literature. It is therefore disappointing to see Democratic presidential candidates, devoid of alternative explanations for the surging economy, calling for the reversal of the tax cuts while asserting that the TCJA benefited only the wealthy. The data clearly prove otherwise.
Supply-side economists have long argued that the best way to help lower-income Americans is to create a system in which they have more disposable income by cutting tax rates and creating incentives for more capital investment in American businesses and workers. The 2017 tax reform and the data that continue to come in demonstrate decisively that this approach works.