The Case for Trumponomics
As details of the US president’s economic policy unfold, interesting analysis begin to emerge.
So far, the World Bank estimates that Trump’s tax cuts could be a boost for the global economy to recover growth, while Deutsche Bank’s team of economists mention these are fiscal measures that should be carried out in the European Union. They estimate that Trump´s tax cuts and infrastructure boost could double real GDP growth in the United States. Of course, we must always be cautious about estimates, but Nobel laureate Michael Spence, also expected a similar impact last week.
The evidence of tax cuts to boost growth is unquestionable. The example of more than 200 cases in 21 countries shows that tax cuts and spending reductions are much more effective in boosting growth and prosperity than spending increases. In the studies of Mertens and Ravn (2011), Alesina and Ardagna (2010), or the IMF, all conclude that in more than 170 cases the impact of tax cuts has been much more positive for growth.
In Trump’s case, these cuts imply that citizens earning less than $ 25,000 annually do not pay any income tax, those with less than $ 75,000, only 10%, from $ 75,000 to $ 225,000, 20% and, for the rest, 25%. The largest tax cut in US history would mean that the lowest earners almost double their current disposable income.
The Corporate Tax, at 15%, would be added to an incentive for repatriation of capital at a rate of 10%. Goldman Sachs estimates that the US would be able to repatriate more than 1 trillion dollars (almost equivalent to the GDP of Spain) with this policy.
How would it all be financed? With increases in efficiency in healthcare spending, eliminating and replacing the disastrous cost of the Affordable Care Act (Obamacare), even as social aid increases by $600 billion. How? Reducing administration costs by eliminating unnecessary regulation and red tape. The infrastructure plan, at least what we know so far, would not increase public spending because it would be financed by the private sector via tax deductions and revenues from tariffs and tolls. But the evidence of large infrastructure plans on growth is debatable, as seen in past decades, so there is sound logic in avoiding putting the cost in taxpayers’ pockets.
When I was able to comment on these cuts with the Mulvaney team, they explained to me that the fiscal deficit effect would be zero with a further increase of 1% in annual growth of the economy – slightly less than what the IMF or Mertens and Ravn show in the studies I mentioned.
Some analysts question the impact. And that is good for debate. The Peterson Institute estimates lower tax revenues of $ 2.85 trillion due to the fiscal reform and higher defense spending of nearly $ 1 trillion over 10 years. A 25% increase in debt. With the details we have of the new budget, these estimates seem exaggerated. The budget assumes no increase in debt by eliminating duplicate programs and the “deep state” bureaucracy created in the past years.
Other studies (from the CRFB) actually estimate that debt may, in fact, fall. Cutting between 10 to 20% in annual spending from plans that had skyrocketed in the past eight years would generate an additional $ 750 billion over 10 years. Income from Corporate Tax would not fall thanks to higher investment and increased economic activity as well as the repatriation of investments. A long-overdue meaningful increase in real wages would reduce the cost of income tax cuts by 35%. This would lead to a zero increase in nominal terms of the country´s debt.
But how would the debt be reduced relative to GDP? With the effect of a slightly higher inflation than currently expected, better real growth and, more importantly, achieving energy independence in 2019. The energy revolution in the US created more than 2 million direct and indirect jobs while adding 1% to GDP and boosting capital expenditure. Unconventional oil and gas producers, including suppliers of equipment and materials, and energy-related chemical production already added about 1.8 percent of the workforce in new -and highly paid- jobs. By 2025, an estimated additional 3.9 million jobs could be created.
Disposable income per household already improved by about $1,500 due to lower gas and power bills. Eliminating obstacles to exploration and production also triggers massive investment. Capital outflow from emerging markets into the United States would explain a stronger dollar that boosts citizens’ wealth -80% in deposits- and consumption. Trumponomics´secret is that trillions of dollars of capital that went to emerging countries since 2009 with the Fed´s “cheap money” will return to the country looking for stability and growth.
Many uncertainties remain, and time will tell. But what the past has proven is that spending more and raising taxes does not reduce debt. The US increased debt by 121% and real investment in the economy declined.
Concerns about protectionism remain. Messages from Trump have greatly moderated the risks because he is not talking of less trade, but more fair trade and fighting barriers lifted by others. In any case, it has been proven that the President’s real ability to take massive anti-trade executive measures is very limited – just as limited as they were for Obama in so many ways.
But let’s not forget that the Obama administration was the one that imposed most protectionist measures in the past eight years. More than any other country … And nobody complained . It led to the poorest growth of any economic recovery in the past decades.
Those who read me since 2007 know that I have tremendous respect for Rex Tillerson’s vision and common sense, and this week he surprised many with a comment on China, which proves that he says what he thinks, anywhere. His comments criticizing China for the Pacific Islands and warning that the Asian giant should not be given access to such islands. Tillerson always distrusted China’s “bubble” growth and, in Exxon, he repeatedly refused to invest significantly and enter into major alliances with Chinese companies.
Is it the prelude of a trade war with China? I do not think so because everyone knows the impact of a global trade war. A crash of consumption up to 3% per year, an average drop in investment of 10%, recession and more unemployment (Peterson, OECD and WTO studies).
The reality is that for some members of the Trump team it is not a matter of trade war but fair trade. It is about China’s disproportionate trade surplus with the United States. The highest in the world.
China exports to the United States about $ 483 billion (2015) and the United States only $ 116 billion to the Asian giant, attributed by many to the inability to export due to blocking actions from regulatory authorities, state enterprises, and the Chinese government.
However, a significant part of these imports are electronic products, machinery and clothing that US companies manufacture in China and then ship to the United States. With lower taxes and less regulation, many might return their activities to the US.
We have to monitor all risks, but the evidence of the past shows that these economic policies are not disastrous, as some are saying. They work. And no business or family has ever complained about having better public services at lower costs or more of their own hard-earned money in their pockets.
Daniel Lacalle is PhD in Economics and author of “Life In The Financial Markets”, “The Energy World Is Flat” (Wiley) and “Escape from the Central Bank Trap” (BEP).
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