Nov 15, 2017 - Economy

Why the GOP tax plans won’t solve the biggest economic problem

The GOP is betting its control of Congress on the passage of tax cuts, but in interviews with economists, we found little confidence that either the House or Senate proposals would boost GDP growth and wages, the stated aims.

Data: Inflation data from BEA retrieved via Federal Reserve Bank of St. Louis, Productivity data from BLS retrieved from "No Recovery: An Analysis of Long-Term U.S. Productivity Decline"; Chart: Andrew Witherspoon / Axios

The bottom line: There's a broad consensus among economists that the central problem facing the U.S. economy today is low productivity growth. It explains both slow-growing wages and the exploding costs of housing, health care, and education. Tax cuts such as the GOP recommends might give the economy a short term boost, says Jonathan Rothwell, senior economist at Gallup. But productivity, he tells Axios, will remain flat "without sweeping policy reform."

The details: Productivity matters because it measures the amount of stuff or services workers make or provide per hour. The faster productivity grows, the easier it is for these workers to justify higher wages, or for companies to lower prices. According to Rothwell, productivity has grown just 0.6% per year since 2007, or less than a third of the rate between 1948 and 1973.

  • This translates into slower wage growth. Douglas Holtz-Eakin, president of the American Action Forum, a conservative think tank, says that while recent Census data shows household income rising, this only reflects people moving from unemployment to employment or from part-time to full-time work. It doesn't mean they obtained an actual wage increase.
  • "In households where people worked full time for [all of 2016], their real increase in income that year was zero," said Holtz-Eakin, a former director of the Congressional Budget Office.
  • Three industries are primarily responsible for slow productivity growth: education, housing and health care. Together, they accounted for 36% of total national spending in 2015, up from 25% in 1980.

The dispute is about taxes and productivity. Rothwell says that the GOP's claimed link between tax policy and productivity is tenuous. "The idea that lowering taxes boosts economic growth is a well-established theory, and I don't dispute it," Rothwell tells Axios. "But the economy grew much faster throughout much of the mid-20th century with more inefficient and onerous tax policies, so the slowdown [in productivity growth] cannot be attributed to bad tax policy"

  • But Holtz-Eakin finds a stronger case for lowering taxes: A major driver of productivity growth is corporate investment in new technologies, he says. And the purchase of such productivity-enhancing equipment would be made cheaper under GOP plans for a lower corporate tax rate and other changes in tax law.
  • But economist Josh Bivens says in research published earlier this year that consumer demand is too sluggish to justify more robust investment in productivity-boosting equipment.

Rothwell and Holtz-Eakin say that state and local tax policy can go far, separate from what Washington does. They say:

  • Slow productivity growth in healthcare can be in part blamed on laws that protect doctors from competing with less credentialed practitioners, like nurses or dental hygienists, and laws that protect hospitals from competition.
  • In the housing sector, productivity growth is being stunted by zoning laws and other cost-increasing state and local regulations.
  • And in education, it's being held back by a steep expansion in the number of administrators.

Another obstacle is the market power of today's big companies. Amazon, Facebook and Google are so large and face so little competition that they stifle productivity growth, economists say. Bank of England Chief Economist Andrew Haldane describes this as the rise of "natural monopolies in which single or small sets of players dominate market share."

The bottom line: No one knows with certainty why productivity growth has been slow since the 1970s. And Robert Gordon, a leading scholar of productivity, says growth is largely the result of technological leaps that can neither be predicted nor guaranteed — regardless of public policy.

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