Last week the IMF upgraded its projections for global economic growth based mostly on estimated impacts of Donald Trump’s tax plan. But the growth is set to be short lived and is more about policies that increase growth now at the cost of growth later, rather than better ongoing economic performance.
In its October world economic outlook, the IMF projected world GDP this year would grow by 3.7%; last week however it revised up this forecast to 3.9%. It was a significant increase and came mostly from the improved performance of advanced economies – especially the USA.
The upgrades also carried over into 2019, with the prediction for USA’s GDP growth up from 1.9% to 2.5%.
The rather siezeable boost in the USA economy comes due to the expected impact of the Trump tax cuts, “in particular the reduction in corporate tax rates and the temporary allowance for full expensing of investment”.
Not surprisingly, Australia’s treasurer, Scott Morrison, quickly used the upgrades to talk up the need for our own company tax cuts. However within the upgrades comes little sense that the company tax cuts are a sensible way to improve growth, nor a particularly solid one.
As a general rule, a stronger US economy is something Australians should welcome. Regardless of our increased dependence upon China, the reality is when the US economy is doing well, the world economy is usually doing well, and given our small open economy, that usually means Australia is doing well:
Since the early 1980s, the only time Australia’s GDP growth has not closely followed the USA’s was during the GFC – a performance that truly does not get the credit it deserves.
And given the budget-projected US GDP growth for this year and the next at 2.25% rather than 2.7% and 2.5%, it means that our economy should perform better over that time than anticipated.
But we should not be too quick in lauding Trump’s company tax cuts and equally desiring our own.
For a start, the IMF is not really crediting the company tax cut for the upgrades. Yes, it notes “in particular the reduction in the company tax rate”, but it also notes that the “associated fiscal stimulus” is “expected to temporarily raise US growth.”
And yet the tax cuts are permanent. So why is the stimulus only temporary?
It’s because the big driver of growth according to the IMF is the “the temporary allowance for full expensing of investment”. This is where businesses are allowed to deduct the cost of depreciable assets over one year rather than amortise it over a number of years. But this only applies for purchases made before the middle of 2022.
In effect, the policy is trying to get companies to invest in things now rather than later. And it thus often doesn’t create new investment; rather it creates earlier investment.
And as a result, the IMF notes that “due to the temporary nature of some of its provisions, the tax policy package is projected to lower growth for a few years from 2022 onwards”.
This is not much of a tick for the benefits of a company tax cut, if they are so feeble that the improvement in growth is swamped by the removal of another temporary measure.
It aligns with the analysis from credit agency, Moody’s, last week, which noted of the company tax cuts, that “with the US economy close to full employment” (its unemployment rate is currently 4.1%), “the extent to which any fiscal stimulus can substantially increase growth is limited”.
It also noted that “we do not expect corporate tax cuts to lead to a meaningful boost in business investment.”
Not exactly a ringing endorsement.
The reason the tax cut from 35% to 21% is not expected to drive investment is that many US firms are taking advantage of the lower tax rate to buy back shares rather than invest in new equipment or buildings. This fact is so clear that the rightwing Cato Institute, rather than suggest it is not happening, is now instead trying to suggest that it is no big deal and probably a good thing.
Within the IMF’s analysis is also some warnings of the impact of the tax cuts.
First, it notes that the improvements in growth come because overall the tax cuts and others measures are unfunded – ie they are basically pumping money into the economy. The IMF assumes the drop in tax revenue “will not be offset by spending cuts in the near term.”
And that is a big assumption given the speaker of the House of Representatives, Paul Ryan, has already begun talking about cutting social security and Medicare funding in order to “tackle the debt and the deficit”. Doing so would only serve to exacerbate America’s inequality problem – a problem already worsened by the tax cuts themselves, which the IMF notes, will “reduce the average tax rate on upper income US households relative to those in the middle and lower segment.”
And it sounds a warning that growth founded on policies that increase inequality “increase pressures for inward-looking policies” (ie nationalistic, protectionist policies). And Trump is already moving towards higher tariffs and greater protectionist policies – all of which will reduce economic growth in the long term. As the IMF noted in a note to the G20 meeting last year, “high and persistent inequality can undermine the sustainability of growth itself” – a position the Trump policies seem determined to achieve.
The IMF’s upgrade of the US’s economic growth is in no way a cause for those in favour of company tax cuts to declare victory. If anything, it reinforces how little tax cuts improve the economy and increase the risk of higher inequality – thus reducing economic growth in the long run.
Greg Jericho is a Guardian Australia columnist