A sweeping plan to overhaul U.S. tax rules has passed the House with only Republican votes, and now is in the hands of the Senate. What will the final bill look like? And will it unleash a new era of growth in the U.S. economy? Kim Parlee talks with Leslie Preston, Senior Economist at TD Bank Group.
I wouldn't mind talking with the specifics and what you see on the impact could be. You brought a chart here to talk about the impact on GDP. But I wouldn't mind just dialing in to understand some other parts of the sectors as well. But in terms of the specifics, what do you see the impact is going to be of a tax cut?
Well, some of the immediate impacts for consumers are that, on average, the US consumer does get a tax cut. So you get a boost to consumer spending.
On the business side, you get a big reduction in corporate tax rates. You also have-- businesses have the ability to fully expense investment in equipment, to write it off right away. So we would expect to see a boost to business investment.
Also, there's a repatriation tax holiday, where companies can bring back money parked overseas at a lower tax rate. They did it before in 2005. We would also see that potentially expect to boost dividend payouts and share buybacks by companies.
Which is a nice-- investors, music to your ears.
For investors, yeah.
We've got a chart here that you brought in where you take a look at the GDP growth. And I'm assuming the one on the left is without and the one on the right is with. Is that correct?
Well, the one on the right is our forecast for 2018 and '19. And the bright green is what our current forecast is. So we're expecting about 2.3% growth in real terms next year in the US economy.
The current packages that are on the table now, we would expect to boost that growth by about 0.3 percentage points, so taking growth to 2.6%. So as the chart or the title says, it's not a game changer for the US economy. A lot of the Republicans are going around Washington talking about we're going to drive growth of 3% over the long term. And we just don't see that happening in this package. You get a couple-year boost of a few tenths of a percentage point, but it's not a game changer.
Where are they getting that from? I guess that's just the politics of it all.
It's a big number. OK. Let's talk about some other impacts. if you take a look at what you see. US dollar-- is this going to have a huge impact on that?
Well, with the US economy growing more rapidly-- right now, we're at arguably close to full employment. The Fed is already raising rates. They're in a rate tightening cycle. So we get faster growth. We're likely to get faster rate hikes, too.
And that drives the value of the US dollar relative to other currencies. It drives it up. So you get a higher US dollar, which ultimately actually increases the US trade deficit, which is something that Trump says he does not want.
Which is a problem, I guess. You do the fiscal pieces, and then the monetary kicks in and tries to neutralize what you're actually doing.
Now, there are some elements of the package that could be negative for the housing sector in certain areas of the country. The House plan is going to cap the mortgage interest deduction, move it down from $1 million to $500,000, which will affect house prices in some more expensive markets on the coast, where people have those mortgages larger than $500,000, or trying to get. It would be on new mortgages.
And also, both plans look at either capping or repealing the state and local tax deduction. So that will negatively impact taxpayers in high-tax states. And it will indirectly affect the property market.
So we've seen some estimates. We're still working through where they talk about-- the national level could affect house prices by 5%. But that would be more concentrated in the higher-priced markets, in places like New York and New Jersey that you could see a housing market impact.
Interesting. Markets you alluded to. The one thing-- of course, if you give corporations more money, the thought is investors will see more of that through dividends or share buybacks, those types of things. Is this market positive? Actually, let me ask-- is it market positive from where the market is now? Because some of it is priced in right now, I guess.
And that's the trick, is how much is priced in. Because we certainly saw that Trump bump right after he was elected. How much of that was generally a Republican Washington, more business-friendly, less regulation, all of that is priced in versus actual tax reform?
So I think a smaller package could potentially have the potential to disappoint markets. And we could see-- if it's not as generous as Wall Street is hoping, could see a bit of a give-back in terms of a bit more volatility on markets.
Which is interesting, because there hasn't been a whole lot of give-back in any market right now.
It's a bit of debate as to how the fiscal stimulus is priced in. So if it's not fully priced in, you could see a boost when it comes through.
What about winners and losers if you take a look at sectors from the economy standpoint? What's going to win out of this, and what's going to lose?
Well, I think in terms-- I already mentioned housing a little bit. In terms of things levered to consumer spending, people being able to spend more money-- that would also be positively impacted. But it cuts so many different ways.
Because as you mentioned, when we get higher interest rates, you would see declines in interest-sensitive sectors, also coming back to housing, too, which could further negatively impact the housing market.
Let's bring up a second chart you have here about short-term gains and long-term pain, which of course politics doesn't really run on a long-term agenda. But if we can bring out that second chart, which shows here-- again, you're paying for this in the long term.
Exactly. So what you see there-- it's basically the last chart that was shown, but over a longer period. So the first two years, you see a boost to growth. And then in the out years of the plan-- that goes out to 10 years-- you see a drag. And there are a few reasons for that.
Some of the measures in the tax package expire. That full expensing for businesses, which provides a boost to business investment, that expires after five years. So all that really does is pull forward spending businesses are doing. So then that gives back in the out years.
They're also changing the way they're measure-- the inflation measure they're using, which reduces over time the benefit of the standard deduction and certain credits that are indexed to inflation. A less generous inflation measure reduces the value of those. And so the personal income tax cuts get less valuable, particular for lower income households.
And finally, part of that drag at the end is also because faster growth will induce the Fed to hike rates faster. And so then you get the drag from higher interest rates on the economy. So you've got a variety of forces, essentially, turning this plan into a drag in the out years.
OK. It's fascinating, actually, to hear what this means and what it may not be-- again, short-term gain, long-term pain. What does this mean for Canada? I've only got about 45 seconds. But for someone who's watching this, what should we be thinking about? And let's layer in there NAFTA as well, too, because that just gets to be a big, old mess.
There's pluses and minuses to tax reform. Canada has a lower corporate income tax rate. We've enjoyed that advantage for quite a number of years now. So the US cutting its corporate tax rate is more competitive with Canada, so it does dull our competitive advantage there a little bit.
But at the same time, if you get a boost to US growth, that does still boost Canadian growth a bit. So we would see-- there would be positive spillovers on that side. But that said, in terms of risks out there for the Canadian economy right now, as you mentioned, I would see a NAFTA repeal as-- the risk surrounding NAFTA as larger than the risks stemming from tax reform.
Fascinating. Leslie, thanks so much.
Leslie Preston, Senior Economist at TD Bank.