the wrong target
President Bushs latest tax cut proposal -- $670
billion over 10 years -- appears to have hit the 2004 re-election target. For
those hoping his proposal would stimulate capital investment and job creation,
Bushs arrow misses the target altogether.
The latest economic
salvo is the fourth fiscal-stimulus package of Bushs presidency. It follows
his 2001 $2.1 trillion 10-year tax cut; the smaller emergency-spending program
after September 11, 2001; and the tax incentive for business investment passed
in the spring of 2002. It also follows several speeches last summer in which Bush
talked about the strength of the US economy while the stock market responded with
a Bronx cheer -- plummeting hundreds of points. Under Bush the U.S. has lost 1.5
The most prominent element of Bushs tax cut
is the elimination of dividend taxes at a cost of $364 billion over 10 years.
The dividend tax cut would eliminate the income tax that investors pay on the
dividend checks they receive from stocks in their portfolios.
some have praised the dividend tax cut as relief for the investor class,
such wrong-headed analysis masks the underlying reality that there are really
two investor classes:
- dividend clippers (individuals who hold high dividend
paying stocks); and
- job-creators (executives and investors who build growth
The dividend tax cut rewards dividend clippers and punishes
job-creators. This distinction is crucially important for those who believe that
the best social policy is a job. How so? Companies that pay dividends tend to
be large, slow-growing, government protected bureaucracies like utilities, local
telephone companies, and banks.
Companies that dont pay dividends
tend to grow fast participating in industries such as computer software,
computer hardware, pharmaceuticals, and biotechnology. These technology-intensive
companies tend to create the most new jobs and the biggest capital gains for their
executives and investors. Furthermore, these companies introduce products at the
cutting edge of making life better for consumers and workers.
consider how the proposed dividend tax cut would motivate both kinds of companies.
Dividend-paying companies might see their stock prices rise because they might
attract more investors seeking higher and more predictable after-tax returns.
Fast growth companies that do not pay dividends might simply ignore
the governments intent to encourage them to pay out their cash in
dividends rather than reinvest it in the business. Or they might decide to do
what Bushs plan seems to intend -- starve future growth and pay out the
cash to shareholders instead.
If job-creators decide to pay out
their cash in dividends, the economic impact could be negative. Instead of using
their management skill to identify and exploit new growth opportunities, these
job-creators would be slowly converted into dividend clippers. The economic result
would be anemic capital spending and moribund job growth.
dividend tax cut has a little noted blunting effect on efforts to reform corporate
financial reporting. By creating an incentive for the payment of cash dividends,
clear and understandable reporting of financial results becomes less relevant.
Investors will focus less on the financial performance of the companies whose
cash flows are the source of their dividend checks.
As long as
these checks clear when deposited, investors will care less about the arduous
task of actually trying to estimate the future value of the companies. Therefore
the accuracy and clarity of financial reporting will become less important and
the pressure to reform it will diminish.
For those who are disinclined
to analyze a company performance and prospects, the rewards of dividend clipping
are self-evident. For those who would have preferred that Bush encourage capital
spending and job creation, his fourth fiscal-stimulus package is a disappointment.
Peter S. Cohan & Associates
Marlborough, MA 01752