The Great Tax Debate

A SPIRITED controversy is crackling around the key element in President Nixon's program to stimulate the economy: his plan to reduce taxes on business spending for plant and equipment. Since it was announced last month, the proposed "investment tax credit" has sparked debate among leaders of business, labor, Congress and the Administration. Critics charge that the tax credit is economically and socially inadequate because it offers too much for corporate investors while individual tax reductions provide too little for consumers. Top White House aides argue that the credit will induce more spending for capital investment, provide jobs and prosperity, and make prices of American goods more competitive abroad.

Basically, the tax credit would enable businessmen--as well as doctors, dentists, freelance writers, and all other self-employed persons who buy new equipment--to subtract 10% of their expenditures from their tax bill the first year. Because of the way deductions are calculated in the corporate tax structure, this would be about the same as getting 20% knocked off the price of the equipment. From the second year on, the credit would drop to 5%. Treasury officials estimate that the credit would slice $3 billion from corporate taxes during the first fiscal year, $4 billion the second, and somewhat less thereafter. Investors who buy machinery before next Aug. 14 will be able to claim the higher credit for goods delivered six months beyond that date. This accommodation will cause a bulge in 10% claims in fiscal 1973, which starts next July 1. In a form of self-defeating protectionism, however, the new measure would apply only to U.S.-made goods.

The credit would be the second big break for business so far in 1971. Last January the Administration granted businessmen a speeded-up depreciation allowance on machine and equipment spending. This so-called "asset depreciation range," or ADR, increases by 20% the pace at which investment in equipment can be written off. In effect, it is a tax reduction. If Nixon's proposed investment tax credit were added to the ADR, corporations would stand to gain a total of about $7 billion in tax reductions in fiscal 1972. By contrast, the Administration's program would bring about savings on individual taxes totaling only $2.5 billion in the next calendar year.

Critics contend that the investment credit, on top of the ADR, not only is inequitable but also fails to meet the immediate problems of unemployment and a sluggish economy. They point out that with industry running at only 73% of capacity, corporations have scant reason to buy more equipment. Thus the tax savings, in the opposition's view, is a windfall that would do little more in the short run than boost profits. Most labor leaders oppose the idea, maintaining that it would do little to whittle down the jobless rate in steel, aerospace, autos and other major industries. Says A.F.L.-C.I.O. President George Meany: "The President labels the scheme a Job Development Program, but he knows well that much of industry's investment in new equipment will eliminate jobs."

Businessmen naturally support the tax credit program. Yet officials at many large companies, including steel firms and the nation's largest corporation, General Motors, agree that capital spending is governed more by market conditions than by tax incentives. In a recent survey, Lionel D. Edie & Co. found that the proposed tax credit had made almost no impact on business spending plans so far.

In defense of the tax credit, Budget Director George Shultz says that it would provide plenty of new jobs in the construction field and capital goods industries, notably in the metal-working trades. Shultz argues strongly that the credit would spur corporations to undertake much needed modernization of equipment "to improve productivity and get costs down."

The latest official survey shows that the U.S. spends about 6.9% of its gross national product on plant and equipment; by contrast, Germany spends more than 11%, Norway 15.2% and Japan 29%. Partly because of liberal tax incentives, much of the industrial equipment in foreign countries is newer than in the U.S. For example, most of Japan's plant and equipment is no more than six years old. In the U.S., 20% of the industrial complex is more than 20 years old and much of the rest of it is more than ten years old.

Administration leaders constantly recall that the Democrats instituted a similar investment tax policy under President Kennedy in the 1960s. From 1962 to 1965, the tax credit and other tax reforms increased jobs without stirring inflation; annual economic growth climbed from 2.3% to 6.3%, and unemployment dropped from 6.7% to 4.5%. "But there are differences between today and ten years ago," says Joseph Pechman, chief of economic research at the Brookings Institution, who prefers the tax credit without the ADR. "Now we have low capacity after a long period of investment boom. Back then we had low capacity after a long period of low investment. We needed the combined stimulus of rapid depreciation and investment credit."*

Walter Heller, a former chairman of the Council of Economic Advisers who helped institute the first investment tax credit under President Kennedy, remembers that business spending did not substantially pick up until 1964, when consumer spending was boosted by a major cut in personal income taxes. Heller opposes Nixon's current tax package. His view: "It's a case of upside-down economics, because while investment stimulus is needed, consumer stimulus is needed even more." In the view of Heller and some other top economists, an investment credit should be adopted now, but the ADR should be jettisoned and greater cuts should be made in personal income taxes.

Indeed, Congress is likely to modify the Administration's tax package along just such lines. Wilbur Mills, chairman of the House Ways and Means Committee, believes that the investment credit is the most powerful economic stimulant devised in a generation; he expects results from it within six months of enactment. "We know what it will do," he says. Mills also wants to increase tax reduction for consumers. To get the money for this, he will probably cut back on the depreciation allowance and push for a straight 7% tax credit instead of the 10%-5% formula. Obviously the Administration will have to accept some modifications in its package. In matters economic, Wilbur Mills is a tough man to beat.

* The 7% investment credit was repealed by Congress in 1969 in an effort to cool inflation fired by the Viet Nam War.

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