The Bright Side and the Dark Side of Trump’s Tax Reform

The announcement of the White House’s sweeping tax reform plan on Wednesday, April 26 has increased the level of attention by the political world and U.S. public opinion toward the evolution of internal economic dynamics. In fact, it follows Trump’s decision to scrap the Dodd-Frank Act and heated discussions on the future of the federal budget.

Essentially, the reform guidelines officially announced by Treasury Secretary Steven Mnuchin represent the most extensive and boldest move in tax matters since two famous laws enacted during the presidency of Ronald Reagan, the Economic Recovery Tax Act of 1981 and the Tax Reform Act of 1986, by which the maximum income tax rates for U.S. citizens dropped from 70 percent to 28 percent. Furthermore, a net decrease in capital gains tax was secured, then further reduced during the 1990s. With the “made by Trump” reform, however, it is anticipated that tax breaks for individual incomes will range from seven to three, charged by three fixed rates of 10, 25 and 35 percent, and that the “no-tax area” income for families will be extended up to $24,000. But more incisive yet, the Trump tax plan proposes to reduce corporate taxes on companies, for which a cut from 35 percent to 15 percent is anticipated.

Trump echoes Reagan and the economic theories that inspired his actions throughout the 1980s; above all, the so-called “Laffer curve,” according to which the economic system would have a certain “optimum” tax rate that would both guarantee that the state would receive optimal revenue in terms of taxation, and accelerate production growth, which would justify the cuts at the top.

This is precisely what Trump intends to do to ensure the optimal conditions that would allow a revival of the U.S. economy, which he imagines being driven by massive returns on investment, industrial plants and manufacturing from large national corporations. Cutting corporate taxes, in fact, should mark the start of an ample “national-liberal” economic strategy. By fully exploiting its effects, it should enable growth in production and employment for the U.S. economy in sectors that have historically been stimulating value or had high value added, such as automotive, technology and pharmaceutical manufacturing. By returning $100 billion to American soil through investments and jobs, the administration in Washington plans to fully repay the high costs of tax reform. The Washington Post foresees $5.5 trillion of missing tax revenue over the next 10 years, while the think tank Center for a Responsible Federal Budget predicts that it will be between $3 trillion and $7 trillion.

Trump and Mnuchin, in any case, will have to bear in mind the risks inherent in the reform. First, the experience of the Reagan era teaches that the failure to enter large amounts of money into federal funds could cause a sharp increase in public debt, which during Trump’s presidency is already beginning to considerably exceed the $20,000 billion threshold. U.S. public debt grew from $907 billion to $2,850 billion throughout Reagan’s eight-year presidency, and in contrast to an average gross domestic product growth of more than 3 percent per annum, it also began to show a significant increase in inequalities within the U.S. economy. The result of Reagan’s tax reforms was a decidedly level system that in fact gave free reign to the growth of inequality. A 2011 study from the Congressional Budget Office, sure enough, revealed a 50 percent increase in the average income in the highest percentile of distribution from 1980 to 1990. There were more moderate increases in the quintile below it, a modest level of growth between the 80th and 20th percentiles (comprising the vast majority of the United States’ middle class) and even a decrease in total income for the bottom quintile.

Trump’s strategy is therefore likely to lead to a further polarization of the income distribution and wealth in the United States over the long term, which would be further accentuated by the elimination of the inheritance tax. Consequently, the resulting benefits from the extended de-taxation may seem very small in comparison to the unequal distribution of the fruits of economic growth dreaded by Trump during the election campaign as the way to make America great again, but from which the middle class that was impoverished by the Great Depression could only reap a residual part.

To win approval for his tax plan, Trump will need to keep the Republican Party tightly on his side, avoiding the “turncoat” actions that have already harmed his policy on Obama’s health care law, and he will need to complete the budget dialogue with the Democrats, among whom there is all sorts of outcry. Trump has some action-packed weeks ahead of him. He will have to obtain a majority of at least 60 votes in the Senate, requiring the support of at least eight members of the rival party, in order to make a reality out of a large-scale reform that at its core shows noteworthy strengths and obvious, undeniable weaknesses.