Key Points

  • The total stimulus from the tax bill recently passed is expected to be about $1.5t; with positive impacts on the economy, but negative implications for the deficit (and possibly inflation).

  • The magnitude of the economic impact varies depending on multiplier assumptions; but the benefits are likely front-end loaded over the 10-year window.

  • Corporate earnings estimates are rising (and companies are doling out special bonuses and raises!) but the spread between the new corporate tax rate and the effective rate companies are already paying could be narrower than assumed.

My section of Schwab’s 2018 outlook included a reference to—but not many details around—tax reform, as it hadn’t yet passed when we were putting pen to paper. Today’s report will take a high-level look at the anticipated impact on the economy, corporate earnings and corporate behavior.

The Tax Cuts and Jobs Act (TCJA) is being labeled tax “reform,” but I think the use of that term is a bit of a stretch. Yes, the changes are sweeping, and the tax cuts meaningful; but the reality is our tax code is now not much simpler—just a different version of complicated. This is perhaps one of the reasons it’s not been met with universal praise. Others include the bill’s timing and its impact on the budget deficit and longer-term debt.

As Schwab’s Mike Townsend noted in one of his post-passage write-ups [Sweeping Tax Bill Becomes Law], the changes are likely to “pose a significant challenge to the IRS, corporations and individuals, who will have to both get up to speed on the changes and make the necessary systems updates to handle them. It is widely expected that some delays could occur in implementation.”

Worker paychecks adjusting next month

The total fiscal stimulus coming from the TCJA is expected to be about $1.5 trillion; with more than 60% slated for individual tax cuts and the remainder for corporate and international tax reform. The good news for individuals is that the Internal Revenue Service (IRS) announced that worker paychecks will be adjusted in early February, and no action is required by employees; which means that nearly every American employee will see a bump up in their take-home pay at the same time.

The last time this occurred was in mid-2003—when President Bush’s Jobs and Growth Tax Relief Reconciliation Act’s tax cuts went into effect—and it led to an immediate boost to consumer spending and economic growth (but also higher bond yields). Real gross domestic product (GDP) growth jumped from less than 4% in the second quarter of 2003 (just before the tax cuts hit paychecks) to nearly 7% in the third quarter and 5% in the fourth quarter. It dropped back down under 3% in the first quarter of 2004.

In terms of consumer spending, personal consumption expenditures (PCE) were 1.8% in 2003’s first quarter; followed by 4.5%, 6.0% and 3.1% in the second, third and fourth quarters, respectively. I would hesitate to extrapolate the consumption gains too aggressively for this year’s outlook given that consumer spending has already been showing considerable momentum. According to the US Census Bureau, retail sales surged at an 11.3% annual rate in last year’s fourth quarter, which was the sharpest pace in seven years.

In terms of the implications for government’s coffers, the Joint Committee on Taxation (JCT)—the official Congressional scorekeeper—estimates that the TCJA will reduce government revenues by about $263 billion; of which $207 billion is due to individual tax reform (see table below).

Source: Joint Committee on Taxation (November 17, 2017, JCX-59-17), Ned Davis Research, Inc. (Further distribution prohibited without prior permission. Copyright 2018© Ned Davis Research, Inc. All rights reserved.).