President Trump signed the Tax Cuts and Jobs Act (TCJA) into law on 22 December 2017. This brought sweeping changes in what was the largest overhaul of the US tax code in three decades.
The law created a single corporate tax rate of 21%, cutting corporate tax rates permanently and cutting individual tax rates temporarily.
For the wealthy, banks, and other corporations, the tax reform package was considered a lopsided victory with significant and permanent tax cuts to corporate profits, investment income and estate tax, etc.
When the tax cuts were first proposed, they were sold as a way to make ‘America Great Again’. The trickle-down theory of economics would re-energise US industry, we were told. Companies would build new factories. They would hire more workers. Buy new equipment. Get more efficient. Invest in more research and Expand. It would be a game-changer for US business with a massive amount of investment coming back into America and companies would flourish.
Two years on, the US economy is doing better than many had predicted. Dividends, which are cash payments to shareholders, are up. Capital expenditure, re-investing money back into businesses, is up as is investment in Research and Development. Wages have increased only marginally.
However, the largest corporations have used an average 60% of their tax windfall to buy back their own shares.
Share buybacks have the effect of pumping up the share price. This in turn drives up growth and figures, all without building anything or employing anyone. This type of financial engineering is very popular with executives. It allows them to get higher bonuses because most of their compensation packages are tied to the company’s share price.
Company buy back of shares is legal as long as it meets certain conditions such as public-disclosure requirements and limits on the number of shares repurchased. For some years, the US has had weak capital investment and productivity growth of less than 1% pa and it needed to increase them both. The fear now is, that by diverting so much money into the pockets of executives, the US may have failed to grasp a once off opportunity to improve both.