Question about tax cuts and job creation

[Teebs]

I never understood the tax cuts = jobs thing myself. How do tax cuts make sure that the employer is going to bring in more revenue to justify hiring new employees? It really doesn't seem like the cuts are going to be enough to offset the costs of a new hire.

My economics degree says the theory is that people will keep on employing new workers until the marginal return of an extra worker is equal to the marginal cost of hiring that extra worker. Marginal costs increase with more workers while marginal returns decrease. Reducing taxes (at least certain ones) should reduce the costs of all workers and the marginal cost of hiring an extra one and so that extra one would get hired where they wouldn't without the tax cut.

How well it works in practice I don't know. I'd be inclined to think not very well at all, but this would depend heavily on which taxes were cut. For example, a cut in national insurance might have an effect since that's a per-worker cost, but a cut in corporation tax wouldn't.

[CmdrWilkens]

If tax cuts are meant to spur job creation, why are those tax cuts not tied to job creation? Why should a company which employs people in China be getting the same tax cut as a company which employs people in Wisconsin?

If that's the goal of tax cuts, then why not turn them into tax credits, tied to the number of people you employ locally?

Because the claim is not mechanistically driven. The theory behind tax cutting for job creation is that in and of themselves taxes are a hindrance towards hiring. That is the axiom of the entire belief. Once it is taken as an axiom there is no need, within the theory, to "target" the tax cuts as any such cuts will, by theory, result in job creation. In other words from an adherent's standpoint talking about targeting or linking tax cuts to actual job creation is like asking for turning on a light to be linked to raising the brightness of a room. Within the confines of the theory job creation follows from tax cuts as naturally as water flows downhill therefore linking them to actual jobs created is redundant. The valuation is placed on the jobs alone and not their locale, quality, sustainability, or other issues (that would be excessive hindrance of the free-market which gets in to that whole bug-a-boo).

[xammer99]

I never understood the tax cuts = jobs thing myself. How do tax cuts make sure that the employer is going to bring in more revenue to justify hiring new employees? It really doesn't seem like the cuts are going to be enough to offset the costs of a new hire.

My economics degree says the theory is that people will keep on employing new workers until the marginal return of an extra worker is equal to the marginal cost of hiring that extra worker. Marginal costs increase with more workers while marginal returns decrease. Reducing taxes (at least certain ones) should reduce the costs of all workers and the marginal cost of hiring an extra one and so that extra one would get hired where they wouldn't without the tax cut.

How well it works in practice I don't know. I'd be inclined to think not very well at all, but this would depend heavily on which taxes were cut. For example, a cut in national insurance might have an effect since that's a per-worker cost, but a cut in corporation tax wouldn't.

To put it in somewhat more practical terms...

1. Small businesses employ about 1/2 of US workers.
2. Most small business owners file their business taxes/income on their personal income taxes, not as true corporations.
3. An income tax cut results in more income for the business owner who can either take it as income or, hopefully, use the money to hire another worker whose productivity will result in more net income.
4. An income tax cut results in more income for the worker who will in turn consume more necessitating more production.

That's the theory, debate/whine/whatever about the results, but that's the model being operated off of.

[Questor]

2. Most small business owners file their business taxes/income on their personal income taxes, not as true corporations.

While I acknowledge that this is true, I really don't understand it. What is the motivation for doing this? Don't most states still require/encourage with tax breaks a separate corporate return?

[Teebs]

To put it in somewhat more practical terms...

1. Small businesses employ about 1/2 of US workers.
2. Most small business owners file their business taxes/income on their personal income taxes, not as true corporations.
3. An income tax cut results in more income for the business owner who can either take it as income or, hopefully, use the money to hire another worker whose productivity will result in more net income.
4. An income tax cut results in more income for the worker who will in turn consume more necessitating more production.

That's the theory, debate/whine/whatever about the results, but that's the model being operated off of.

Pff, that's a crap theory though. Lowering general costs doesn't lower the costs of employing another worker so there is no change in the net income produced by hiring another worker. As the business was not hiring one before this is presumably negative or 0 and so the business owner is better off simply pocketing the money.

Tax cuts directly tied to employing new people are a different matter, although I'd have thought they're quite open to fraud or hard to monitor and/or enforce. General tax cuts though shouldn't have any effect on employment by the company unless it directly affects the cost of workers.

[Phantasee]

Where can I find figures on the proportion of single proprietorships vs partnerships vs corporations in the US? And it would be useful to now the average sizes of each. Most companies that hire multiple (50+) workers are usually incorporated, AFAIK.

[CmdrWilkens]

Where can I find figures on the proportion of single proprietorships vs partnerships vs corporations in the US? And it would be useful to now the average sizes of each. Most companies that hire multiple (50+) workers are usually incorporated, AFAIK.

Yes but even incorporated business can file their taxes as individuals and do. They are commonly called S-class corporations where all profits are the sole property of the corporate partners, those partners in turn report the corporate earnings as personal income and no corporate taxes are paid. I don't know if anyone other than the IRS would have data on this one though.

[ArmorPierce]

One big reason is that there's thousands of dollars in legal and other setup fees to form a corporation. A sole proprietor needs no fancy setup.

I don't recall all the tax specifics but from what I recall, you no longer need to actually be a corporation in order to fill corporate tax form. There are other reasons to do it or not do it but its been a while. I could dig out my taxation book but that would be a lot of work at the moment.

[Surlethe]

I've been unable to find data on this, but I'll reiterate my previous point: if a tax cut is not directly tied to employment, how it affects employment will depend on how the corporation decides to distribute its newly-gained income. It will send part of it to shareholders and reinvest part of it. The part sent to shareholders is partly invested and partly spent; the part reinvested will go either overseas or stay home. The part that the corporation decides to keep at home will either go toward expanding employment or expanding/repairing the capital stock. (We can assume the overseas component has little short-run effect on the local economy.) Repairing or expanding the capital stock can involve local capital purchases or distant capital purchases.

This is like the Drake equation: you have to make some assumptions about these proportions, but ultimately I think it will turn out to be a relatively small number since overseas investments are more attractive to corporations, shareholder reinvestment will be on a national scale and probably barely affect the local market, and the corporation will probably be more likely to replace capital in an uncertain market than invest in new capital or expand employment.

[aerius]

Or it might hoard all the cash and launder it into a Swiss or Cayman Islands account, never to be seen again.

[General Zod]

Or it might hoard all the cash and launder it into a Swiss or Cayman Islands account, never to be seen again.

Swiss banks aren't all that popular anymore these days, since they've actually been cooperating with the IRS on tracking down tax dodgers.

[Surlethe]

Or it might hoard all the cash and launder it into a Swiss or Cayman Islands account, never to be seen again.

Do Swiss or Cayman Islands banks not loan money? Or not pay interest? How do they make their money?

[Samuel]

Or it might hoard all the cash and launder it into a Swiss or Cayman Islands account, never to be seen again.

Do Swiss or Cayman Islands banks not loan money? Or not pay interest? How do they make their money?

I believe those banks charge you for the priviledge of holding your money, with the benefit that it is not counted by the IRS. I don't know the details since I am not rich enough to use their services and doubt I ever will be.

[Surlethe]

Wow, if that's true. Do you have any sort of source? (From principles, I doubt it it's true; that would involve passing up the opportunity to lend it out and make even more money by undercutting the market interest rates, thus violating the universal principle that bankers are all greedy bastards who won't pass up the chance to make a profit.)

[aerius]

I don't think it's true of most of the Swiss banks, but a lot of the Cayman Islands banks are actually dummy corporations which are setup to hold laundered money while others are basically hedge funds which manage assets but don't do any lending. And sometimes they're just outright ponzi schemes, they busted a big one there last year but I can't remember the name of it right now.

[Surlethe]

Where does the laundered money go? Just sit there? Why would someone put money somewhere it's not earning interest when he could put it in equities or bonds that do earn interest or dividends? You'd think those greedy bastards would want their money earning more, not sitting there being worthless to them.) Also, when hedge funds manage assets, do they go out and make investments? (I'm not clear on how they work.)

[Surlethe]

This is not to argue for trickle-down economics as an efficient or equitable policy, mind; I just find it surprising that money just goes somewhere and sits, since investments usually get channeled back to businesses through loans, stock offers, and bonds. (Those investments that don't go into inflating a financial bubble, that is.)

[aerius]

Where does the laundered money go? Just sit there?

Nobody knows for certain, and that's the beauty of it. According to one of my friends who's an auditor at a major bank, the money often just sits there being used as a "pass through" for all kinds of exotic derivatives, CDOs, and other synthetic financial products. No, I don't know how it works, I was referred to Janet Tavakoli's books on structured finance which I'm told are the reference manuals for these things.

Why would someone put money somewhere it's not earning interest when he could put it in equities or bonds that do earn interest or dividends? You'd think those greedy bastards would want their money earning more, not sitting there being worthless to them.)

Liquidity. If you need to liquidate stocks or bonds on short notice there's a good chance you won't get the price you want, and might actually lose money in the process. Plus the smart rich bastards will have a safe account which is all cash or government T-bills and a trading or hedge fund account where they put their money at risk to make more money.

Also, when hedge funds manage assets, do they go out and make investments? (I'm not clear on how they work.)

Yes. But a lot of them will often do so through options & futures contracts along with various derivatives products so they can get higher leverage and better returns. For instance instead of buying 1000 shares of Google and holding for a year, they'd buy 10,000 Jan 2011 call options on Google. It costs them less and if the options hit they get a massively larger payoff.

[Darth Wong]

Why would someone put money somewhere it's not earning interest when he could put it in equities or bonds that do earn interest or dividends? You'd think those greedy bastards would want their money earning more, not sitting there being worthless to them.)

Liquidity. If you need to liquidate stocks or bonds on short notice there's a good chance you won't get the price you want, and might actually lose money in the process. Plus the smart rich bastards will have a safe account which is all cash or government T-bills and a trading or hedge fund account where they put their money at risk to make more money.

Well, that and tax evasion or avoidance of serious criminal prosecution. If you have dirty money or tax-evasion money, you might be willing to tolerate a very low rate of return in exchange for anonymity and a tax haven.