US fiscal policy Ghosts of the past

  • Over the last five months, President Trump has initiated an ambitious program of tax cuts and higher fiscal spending, with the promise that positive dynamic effects on growth will be strong enough to avoid any increase of the public debt
  • We estimate that the impact on GDP growth should be moderate with a 0.7 pp boost in 2018 and 0.6 pp in 2019
  • The rapid worsening of the fiscal situation, embodied by a public deficit at 4.5% of GDP in 2019 compared with 3.4% in 2017, will evidence rather weak multiplier effects in a late phase of the cycle and call for rapid changes in the orientation of the US economic policy

 

The US economic policy at a crossroad

Over the last five months, President Trump has initiated an ambitious program of tax cuts and higher fiscal spending, with the promise that positive dynamic effects on growth will be strong enough to avoid any increase of the public debt. Taking into account the specificities of these fiscal packages, we estimate that the impact on GDP growth should be moderate with a 0.7 pp boost in 2018 and 0.6% pp in 2019. The rapid worsening of the fiscal situation, embodied by a public deficit at 4.5% of GDP in 2019 compared with 3.4% in 2017, is evidence of rather weak multiplier effects in a late phase of the cycle.

History can tell us a lot, especially the smell of the 80s, concerning the fiscal actions. In this paper, we will look at the three building blocks of President Trump’s fiscal policy, i.e. a radical program of tax cuts (USD 1.4 trillion over ten years), a tax holiday on foreign profits (targeting a pool of USD 2.4 trillion of funds detained abroad) and a significant acceleration of public spending (USD440bn over 2 years).

Similarities and differences from the past suggest that the bet of higher growth and stable debt may not materialize. Mid-term elections will probably play the role of a wake-up call as debt sustainability will come back at the forefront of concerns among conservative leaders.

 

A sizeable tax bill with limited effects, especially if/when the fiscal hawks are back

Donald Trump has announced one of the largest tax cut programs ever in the US.Losses on fiscal revenues, without taking account of macroeconomic positive feedback effects, are estimated at USD 1.45 trillion over ten years.It represents an average stimulus of USD140bn per year. The estimated size of the tax cut boost ranks fourth in the hierarchy of past tax cut programs, behind 1981 Reagan’s program (Table 1).

Table 1 Revenue effects of major US bills enacted since 1968 (Constant 2012 USD bn)