Tax Cut Talk Heats Up

The rally in stocks on Tuesday was said to have been caused by the tax cut talk. The S&P 500 rallied 0.99% and the Nasdaq rallied 1.36% as both inch closer to revoking the 2% selloff. I don’t know how much of the rally is about the tax cuts because the economic data and earnings have been strong. Stocks shouldn’t be down. There’s always an inflow of ETF buying ready to catch the dip as well. Either way, the chart below shows the market’s reaction to tax cuts being discussed. CNBC floated an article saying President Trump’s perceived controversies make it more likely a tax cut would pass because the GOP will need a victory to go into the 2018 election looking good. I don’t buy the argument that bad news is good news. Even if President Trump’s poll numbers were higher, the GOP still would need to do something to show the voters they are making progress. Presidents usually lose Congressional votes as the two-party system sways back and forth. It’s about who is less unpopular opposed to who is more liked.

While the discussion of the likelihood the tax cut is passed based on Trump’s popularity isn’t news, there was another topic floated on the tax cut issue which does effect potential policy. Setting this up, we must remember that the boarder adjusted tax cut isn’t getting done and the healthcare reform is unlikely. That means that there’s not much room to cut taxes as there won’t be an offset. The corporate tax rate will probably only be cut to 25% which is a 10% cut from the current 35% rate, but only a 2% decrease from the effective tax rate which is 27%. Corporations have seen their taxes as a percent of GDP decline despite the high tax rate so there’s not much room to cut. The other obvious issue is that the government is running large deficits, so cutting government revenue isn’t the fiscally responsible thing to do. The tax rates on individuals will likely fall slightly as well. The reason why I keep discussing this issue is because the repatriation tax holiday will help buybacks. Even with the chances of large tax cuts diminished, the repatriation tax cut is thought of as a way to bring back capital to America, so that cut should be large either way