Five Questions About US Tax Legislation

The US Senate approved a tax bill last weekend, and it now appears highly likely that final tax legislation will be passed in the next few weeks. Big changes to the tax rules will impact the economy, taxpayers and financial markets.

Of course, the House and Senate still need to meet in conference committee to iron out the differences between their respective bills. Both chambers will then vote on identical legislation. Assuming it passes, President Trump will then sign it into law.

There could still be delays—or even challenges that keep the bill from passing. However, we feel strongly that the differences between the House and Senate bills will be overcome and the tax law enacted in relatively short order.

Here’s our take on five questions many investors are likely asking:

1. What Does Tax Legislation Mean for US Economic Growth?

In looking at the likely shape of the final legislation, it seems to us that the changes to the tax code won’t be revolutionary and are unlikely to have a large impact on the real economy.

We estimate a small increase in growth—something on the order of 0.2% or 0.3% in both 2018 and 2019. But parts of the tax law will likely expire after a few years (this is necessary for the bill to comply with the $1.5 trillion deficit ceiling required to pass it through the Senate). So, the longer-term impact on growth will likely be minimal. Extending the expiring provisions could boost that impact, but there won’t be much clarity on that topic for several years.

2. What Are the Implications for Monetary Policy?

With faster growth comes higher inflation. And with economic growth already above the Fed’s estimate of full capacity, any fiscal stimulus raises the probability of tighter monetary policy. We already expect the Fed to raise rates four times in 2018; the tax legislation increases our conviction, but isn’t by itself big enough to mandate a forecast change—the impact on growth isn’t that large. Still, the likelihood of higher rates has gone up, and that could further limit the economic growth impact of the tax legislation.