Why economics tells us that crediting the TCJA for wage increases is just PR
After the passage of the GOP Tax Cuts and Jobs Act (TCJA) in December, multiple companies announced decisions to give out bonuses or raise wages for workers and claimed that these decisions were driven by the corporate tax cuts embedded in the TCJA. Since proponents of the tax bill sold it to the public based on claims that corporate rate cuts would trickle down to typical workers, it’s no surprise those proponents would point to these companies’ announcements and claim vindication for their claims. And far too much reporting took the claims of corporations at face value, though some recent exceptions stand out as being much better at evaluating those claims.
While we’re not surprised by the cynicism of these corporate claims, that doesn’t change the fact that there is absolutely no economic evidence to think they’re true. What these companies are doing amounts to nothing more than PR. As we’ll detail, immediately handing out bonuses and raises is simply not how the economic theory that links corporate tax cuts to wage growth works. And we aren’t the only ones pointing this out. Companies are engaged in a clear campaign to gin up support for unpopular corporate tax cuts by crediting each new check they write to those tax cuts.
We’ve spent plenty of time detailing why we think corporate tax cuts won’t actually end up raising wages in the real-world, but even the theory that links corporate tax cuts to wages looks nothing like the campaign corporations are currently engaged in.
Here’s how that economic theory actually works: Corporate tax cuts increase the after-tax returns to owning capital like stocks and bonds. These higher after-tax returns induce households to save more. Higher after-tax profitability incentivizes firms to invest more and the new savings needed to finance these investments come from increased household savings in response to higher returns. The resulting investments in plant and equipment give workers better tools with which to do their jobs, and this boosts productivity (how much income or output is generated in an average hour of work). In turn, these increases in productivity are seamlessly translated into across-the-board wage growth.
If this theory plays out as planned, part of the corporate income tax is shifted away from capital and borne by labor in the form of lower wages. In economic jargon, figuring out how much of a tax change ends up labor income or capital income (or prices) is called assigning the incidence of the tax. The first reason why we’re so skeptical that corporate rate cuts will end up boosting wages is a raft of prior studies examining the incidence of the corporate tax. The consensus of these studies typically allocates only between 18 and 25 percent of that incidence to labor and between 75 and 82 percent to capital. So, changing the tax has historically not filtered through to significant changes in wages.
Further, even this chain of events that could in theory push some of the burden of corporate taxes onto labor takes time to occur. Companies must first make investments in plant and equipment and undertake their installation, and only then will the benefits of those investments begin boosting productivity. Wages will likely only follow productivity with a lag. The estimates above are for the incidence of corporate taxes in the long run. In the short run, economists allocate the entire incidence of corporate income taxes to shareholders. Shifting the burden (or benefit) of a corporate tax change onto another factor of production only occurs over time—and it could take a long time indeed. To put it simply, factories cannot instantaneously disappear from high-tax countries and reappear in low-tax countries whenever corporate taxes change.
Why this primer on how economic theory links corporate tax cuts and wages? Because it makes clear that this theory absolutely cannot be used to support claims that the bonuses and wage gains corporations are currently touting have anything to do with the tax cut. Instead, the driver of these bonuses and wage gains were already baked in. And it’s not that hard to identify economically sound channels driving these bonuses and wage gains.
Take the bonuses first. Bonuses are an incredibly regular part of the labor market. Nearly 40 percent of workers received a bonus in 2017. That some major companies gave out end of year bonuses is of zero economic interest. That this year of all years they’ve decided to showboat about should be of some political interest.
And though it may be less clear, lots of wage increases were also already baked in. After years of slow growth following the Great Recession, the labor market has steadily tightened. Unemployment has remained at 4.5 percent or below since April 2017. A tighter labor market means employers have to compete in order to get and retain workers, leading to higher pay. Based on historical relationships, we should have expected pretty robust wage growth by now. While the overall wage story is mixed (see our upcoming report on 2017 wage growth), the summary is that it remains far weaker than most would have expected given unemployment rates below 4.5 percent, yet 2015 and 2016 saw respectable growth in median wages that looks to actually decelerate in 2017. Further, even in fairly slack labor markets, roughly half of all workers see wage increases over a year. (See survey data from this story, and also see Figure 1 in this paper from 2014.)
Finally, we should note that many corporate decisions to raise wages in recent years were likely helped along by minimum wage increases taking effect. 18 states increased their minimum wages on January 1 of this year. For employers like Wells Fargo or Walmart, knowing that many employees’ wages were going to be pushed up by minimum wage increases (either directly or through ripple effects) in many states anyhow, the value of trumpeting this inevitable increases as tax cut-driven was just smart PR.
And this Walmart anecdote ties in neatly with what the data are already telling us. Walmart’s announcement of an $11 minimum wage comes after the company already raised its minimum wage to $10 in 2016 and $9 in 2015. And, it comes after its competitor Target announced an $11minimum wage in September. This pattern depicts a tightening labor market and rising minimum wages, not some distinct shift caused by a tax cut.
The economic theory that supports corporate tax cuts boosting wages does not provide any support for the claim that recent wage and bonus announcements are due to the tax cuts. Instead, anyone that wants to actually see if the theory supporting corporate tax cuts is playing out in practice shouldn’t pay attention to cynical corporate wage and bonus announcements. Theory says they should look for the effects to bear out in investment decisions. Early reviews aren’t good, as capital spending has not leapt forward. All in all, the best estimate for how much the TCJA has influenced wages in the U.S. economy to date is zero.