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Not Such a Capital Idea

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Here’s a letter that I sent yesterday to the Boston Globe:

You propose a tax credit for firms that hire new employees (“To boost jobs, give tax breaks to businesses that hire [2],” Dec. 1).  Bad idea.  A far better idea is to cut taxes on corporate profits.

You correctly recognize that your proposed tax credit would bias firms toward producing output by using more labor and, hence, would likely increase employment in the short-run.  But the flip side of this effect is that this tax credit would thereby bias firms away from producing output by using more machinery, R&D, and other capital investments.  Because in the long-run workers’ wages are determined by their productivity – and because worker productivity rises with greater, market-driven capital investments – your proposed tax credit, by biasing firms away from capital investments, will cause future real wages to be lower than otherwise.

A cut in corporate-profits taxes, in contrast, would simultaneously prompt firms to expand output – and, hence, hire more workers – without biasing firms against making the capital investments that are the indispensable engine of economic prosperity and growth.

Donald J. Boudreaux