Tax Cuts Alone Won’t Boost Employment

Terry submits an email saying:

“Tax cuts to increase American companies’ ability to compete, lower corporate tax rates, lower capital gains rates and repatriate that $500B plus overseas that companies don’t want to pay 35% confiscatory tax rates on. Stop pandering to the lowest common denominator and grease the skids for what has made this country great, CAPITALISM!”

I agree with one of the three tax ideas Terry supports; the last one. The other two, while certainly fine on their own merits, don’t do anything to boost job growth, which is why our economy is in the tank right now After all, consumers represent 70% of our GDP and when they are losing their jobs, they have less money to spend.

Corporate tax reductions would boost stock prices (which I would obviously be happy about) but they don’t directly create jobs. But if companies have more money, won’t they hire more workers? Not if they don’t need more workers! Corporate America is shedding jobs because they need fewer people now that demand for their products has dropped. The current round of layoffs is being done to “right-size” their organizations for the amount of business they have now, which is less than it was during the loose credit, low unemployment era of 2004-2007.

Without increased demand, there is no need for a larger workforce, and therefore companies won’t hire people. Profits would increase, making share prices more valuable and it easier to pay dividends and buyback stock to boost shareholder value (which is why Wall Street would applaud corporate tax reductions), but without the need for more workers, companies won’t hire just for the heck of it, even if they have more money that is not being sent to the government.

I’m all for corporate tax reductions, but they aren’t getting much traction right now because the focus is on job creation because the unemployment rate is on track to double between 2007 and 2009 (~4.5% to ~9.0%). With consumers representing the bulk of our economy, job loss is truly the thorn in our side.

I have written before about the capital gains tax argument, and I find it even less compelling than corporate tax reductions for two reasons:

1) Nobody has any capital gains

The stock market has fallen 50% and housing prices are down 25%. Most taxpayers who have investments are going to deduct capital losses on their tax returns because very few things are being sold for a profit right now. Now, they should certainly increase the annual maximum capital loss deduction (it has been $3,000 for too long), but reducing the capital gains tax rate actually hurts those of us who are deducting stock market losses on our tax returns because we would get a smaller deduction if the rate was lowered!

2) Investments are not made based on tax rates

The argument against that first point focuses on future investments, not money that has already been allocated. If capital gains tax rates are low, the argument goes, people will have more of an incentive to invest and capital will again flow into the economy.

I love the idea of incentive-based policy, but this idea assumes that investor capital is sitting on the sidelines right now because capital gains taxes are too high. I think that is completely wrong. People stop investing if they think they’ll lose money and they invest more if they think they’ll make money. Nobody is going to forgo an investment they believe they can make a killing on because they have to pay 15% capital gains tax on any profit they make. Incentives are great, but they have to target the things that prompt whatever behavior you are trying to promote.