Tax cuts to give little lift to U.S. economy: Fed paper

FILE PHOTO: U.S. President Donald Trump delivers remarks to mark six months since the passage of the Tax Cuts and Jobs Act, in the White House East Room in Washington, U.S., June 29, 2018. REUTERS/Jonathan Ernst

SAN FRANCISCO (Reuters) - The economic boost from U.S. President Donald Trump’s $1.5 trillion tax cut will probably fall well short of most analysts’ “overly optimistic” expectations, two economists wrote Monday in the San Francisco Federal Reserve Bank’s latest Economic Letter.

Instead of the boost to GDP growth this year of about 1.3 percentage points estimated by the Congressional Budget Office and other forecasters, they wrote, “the true boost is more likely to be less than 1 percentage point,” with some studies pointing to as little as zero.

That is because fiscal stimulus has a large effect on economic activity when unemployment is high and personal finances are constrained, but it delivers much less of a jolt when the economy is strong, they wrote.

In June the U.S. unemployment rate rose slightly to 4 percent, much lower than most economist estimates of a sustainable rate, as businesses added many more jobs than expected and more job seekers entered the labor force.

Governments typically increase deficits with spending and tax cuts when times are tough, not when an economic expansion is barreling toward becoming the longest running in U.S. history.

Doing so raises concerns about the nation’s capacity to combat future downturns, particularly if it does not deliver outsized economic gains in the meantime, the report suggests.

“Recent research finds that the effects of fiscal stimulus on overall economic activity are much smaller during expansions than during downturns,” wrote Tim Mahedy and Daniel Wilson, fomer and current San Francisco Fed economists, respectively.

Reporting by Ann Saphir; editing by Jonathan Oatis