The Daily Update - Trump tax vision looks short sighted

Stocks, particularly the technology sector and small-caps, continue their optimism fuelled rally with the NASDAQ surpassing 6,000 for the first time on Tuesday: double the level from four years ago. Much of the broader gains can be attributed to the recent waning of global political angst and further risk-on trades as the VIX retreats to near-decade-lows and the US dollar Index (DXY) hovers around the 99.0 level. But the outperformance of growth stocks likely stems from lower expectations for both inflation and broader economic growth in the face of a floundering Trump administration.

If the latest murmurs regarding the Trump tax plan are accurate (full announcement expected later today) they look likely to face as much of an uphill struggle as the recently failed health care bill. One of the most significant proposals may be an attempt to cut the top rate of corporate tax from above 39% (when combining state and federal rates) to just 15%. The other most notable could be a cut in the taxation of offshore profits to just 10%. Some surveys estimate multinationals’ offshore profits facing typical tax rates as low as 6%, paltry compared to the 35% the US levies. There are plenty of tax hawks in the Republican Party to make such a bill very difficult to enact but the figures are still interesting to look at.

Contrarily, the US taxes the global earnings of its corporations but with the option to defer payment until profits are repatriated. Such accumulated foreign profits from S&P500 companies have more than doubled in the past decade; an estimated $2.6tn of profits sit offshore - perpetually deferring US tax. Companies the likes of Apple, GE and Microsoft each have $100-200 billion in offshore cash with just 30 companies accounting for two-thirds of this mountain of taxable opportunity. With the broader proposed cut in corporate tax estimated to cost $2tn over the next decade, it’s no surprise the Trump administration is also targeting this potential tax boost worth hundreds of billions of dollars.

The last time there was significant offshore profit repatriation was in 2005 when the US congress enacted a tax holiday. This attracted $300bn, around half the total level held overseas back then. The current plan looks more likely to be mandatory and, if successful, could draw a large fraction of this $2.6tn back to US shores. Apart from the one-off tax revenue bump this would generate, the manoeuvre could boost wider economic growth if this money flows towards capital expenditure and job creation. In 2005, despite government efforts, most of the money went towards share repurchases and paying down debts with only a modest increase in capital expenditure. Although, possibilities such as allowing capex to be fully expensed could direct more money to flow into productive projects this time around.

If tax havens were to really become unattractive to multinationals one could expect a gain in federal revenues to the tune of $100bn annually, alongside multiples of this in profits stimulating the US economy (and simultaneously starving present day smaller tax havens). But even this would be nowhere near enough to plug the hole in the US deficit which would likely increase should any long-shot tax-cut make it into law. With the US total government debt clock fast approaching $20tn, with many US citizens increasingly concerned, and another potential (but unlikely) government shutdown this Friday, any sane person can’t help wonder what is the ideal debt level for a country in the privileged (and currently unique) position of managing the world’s dominant reserve currency. Moreover what could happen if the US loses this dominance and what viable options are there to reduce a growing imbalance, if necessary, and just how much harder could this be if Trump’s taxation and spending promises become a reality?