Opinion - What ever happened to cutting capital gains taxes?

By Raymond J. Keating

Small Business Survival Committee

Washington, D.C.

The U.S. economy has been in a funk for almost three years now. Since late 2000, business investment has been in the dumper, with venture capital investment in free fall. Venture capital, of course, is the lifeblood of entrepreneurship.

According to data from the National Venture Capital Association, PricewaterhouseCoopers and Venture Economics, through the fourth quarter of 2002, venture capital investment declined for 10 straight quarters. Also, job creation has been nonexistent, with more than 1.9 million nonagricultural jobs being lost between March 2001 and February 2003.

More needs to be done to spur investment and entrepreneurship, which are the engines of economic growth and job creation. President Bush's tax proposal is a solid start. However, when confronted by a stagnant economy and a lack of investment, one pro-growth proposal by Bush has been noticeably absent from the current tax debate. That is, cutting capital gains taxes.

This is a gross economic mistake, since the capital gains tax arguably ranks as the most anti-investment, anti-entrepreneur, anti-growth tax of all. After all, investing and entrepreneurship are high-risk endeavors, and require the potential for high returns. Capital gains taxes reduce the potential returns from investing and entrepreneurship, and thereby restrain such productive activity. In turn, economic growth suffers, as does job creation.

Indeed, it is worth noting that over the past century, when the capital gains tax was either non-existent or relatively low, the U.S. economy generally experienced above-average rates of economic growth.

Currently, the top capital gains tax rate confronted by individuals is 20 percent, and for corporations, it's 35 percent. However, it also needs to be noted that capital gains are not indexed for inflation. Therefore, the real capital gains tax rates for individuals and corporations actually are higher than the stated nominal rates.

At the very least, all capital gains should be adjusted for inflation, which would reduce the real capital gains tax rate, and unlock a sizeable amount of investment frozen due to prohibitive real tax burdens. Deep cuts in capital gains tax rates for individuals and corporations - for example, bringing the top rate for both individuals and corporations down to 10 percent - would enhance incentives for risk taking, and serve the overall economy quite well.

However, in the end, the ideal solution to the problem of capital gains taxes is to eliminate them altogether. Killing the capital gains tax would remove a large, government-imposed obstacle to investing and entrepreneurship. The stock market also would benefit, and likewise, the ability of companies of all types and sizes to raise capital would be improved.

The U.S. would become a magnet for capital investment from around the globe. Economic growth would accelerate, and more jobs would be created.

If our elected officials are serious about getting the U.S. economy back on a track of robust economic growth, then substantive capital gains tax reduction makes imminent economic sense.