Doylestown Wealth Management - LPL

165 West Ashland Street Doylestown, PA 18901
P: (267) 864 - 2000 | F: (267) 864 - 2010

January 2018 Budget Commentary

Plus Ça Change?

With all the talk of tax policy transforming the economy, it is enlightening to note that for the last fifty years the federal government’s receipts from all sources have fluctuated in a fairly narrow range between 15 and 20% of Gross Domestic Product (GDP).  This would seem to suggest that decreases or increases in tax rates are soon compensated for in the real economy.  On the one hand, it implies that rate increases are ineffective—perhaps because some people figure out a way around them, on the other, that rate decreases are temporary.  Please note that I am not making a blanket statement that this must be true in every time and place, only that in the United States of my lifetime, tax revenues as a share of GDP at the federal level have been remarkably consistent, and are affected by economic conditions only to the extent of a few percentage points.  In good times, revenues increase as companies prosper, asset prices rise, and wages and salaries pick up, but the effect is temporary and reversed in any ensuing downturn.


A closer look at the chart, however, reveals a more troubling trend.  In the last two years, federal revenues as a percentage of GDP have decreased, even during an economic recovery.  This is unusual and would seem to indicate that either the economy is not as robust as advertised or that the tax system is not operating as in the past.

The increasing variability in federal revenues is also disturbing because we have reached a framework where even the peaks remain far below the amount needed to balance outlays (currently at 21.0% of GDP and rising).  In the late nineties, for example, federal revenues as a percentage of GDP rose as the internet bubble bolstered returns.  Now, however, asset price increases from booming stock and property markets seem to lead to relatively less tax revenue, most likely because long-term capital gains and dividends have been taxed at a preferential rate since 2003.  Likewise, corporations have been able to reduce their effective tax burden in recent years—thanks to Obama-era rules allowing more capital expensing and deductions for R&D.  While the corporate sector’s share of the nation’s GDP has soared in recent years, the portion it contributes to the national coffers has remained relatively constant.

The growth in corporate share of GDP has come largely at the expense of wages and salaries, so while the percentage of federal revenue from these sources has remained fairly constant in recent years, the relative burden on workers’ paychecks has increased.  As the tax law changes begin to play out in 2018, it will be interesting to see how federal revenues respond.  If the new rules actually cut taxes in the aggregate (I have my doubts) we could be on our way to trillion dollar annual deficits in economic upturns—a remarkable feat, and one which will make the fiscal management of the next recession even more difficult.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.  To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing.  All performance referenced is historical and is no guarantee of future results.  

Securities offered through LPL Financial, member FINRA/SIPC. Investment advice offered through Great Valley Advisor Group, a Registered Investment Advisor. Great Valley Advisor Group and Doylestown Wealth Management, Inc. are separate entities from LPL Financial.