Last summer Congress cut corporate taxes decidedly, with the basic aim of boosting spending on plant and equipment. ''Revitalize America!'' was the idea. ''Modernize industry, boost productivity.''
Will it work?
Yes, says a Massachusetts Institute of Technology economist, Lawrence H. Summers - at least to some extent. He has fed an econometric model into a computer and calculated that the sharp boost in corporate depreciation allowances provided for in the Tax Recovery Act of 1981 should give capital investment a 6 percent shove in the short term and 12.5 percent over the longer run. That increase is over what capital spending would otherwise be. Other factors are at work, too. The recession with its slack industrial capacity might be restraining investment at the same time the tax cut is stimulating investment.
But, notes Mr. Summers, the tax cut has other implications for the economy. The extra demand for money pushes up interest rates 5 percent. That in turn prompts a 3 percent decline in the housing industry and a small decrease in house prices.
Moreover, it causes a 2 percent overall increase in the price of corporate stocks - again up from where they would be barring other changes in factors touching stock prices.
That's not much, particularly considering the sizable realm for error in such fancy mathematical studies of a complex economy.
The impact of corporate tax cuts varies enormously, however, according to the individual company. Together with a graduate student, Michael A. Salinger, Summers has completed for the National Bureau of Economic Research a rough calculation of the impact of corporate tax cuts on the blue chip stocks that make up the Dow Jones industrial average.
For instance, the roughly 25 percent boost in depreciation allowances should raise the price of Bethlehem Steel stock 20.7 percent, and Sears, Roebuck only 1 .8 percent. The wide difference is because the steel company is capital intensive and thus able to take advantage of accelerated depreciation. The tax change could push up its profits 55 percent.
An accompanying table shows the effect on some other stocks in the Dow Jones industrial average.
The two economists have also done some calculations as to the effect on stock prices of a theoretical cut in the corporate income tax from 46 percent to 40 percent. Once more, the increase is from what it would be without other changes in factors affecting stock prices.
This tax cut, they reckon, would boost the price of Bethlehem stock only 2.6 percent and that of Exxon, 34.7 percent. The huge jump in Exxon's value reflects the interaction of foreign tax credits with the reduction in domestic tax rates.
Another theoretical calculation found that if corporate taxes were eliminated completely, stock prices would jump 75 percent.
Economic theory says corporate tax cuts affect stock prices for two reasons:
First, they make new capital goods cheaper. That would tend to depress stock prices of companies with huge stocks of old capital goods. This effect, notes Summers, could be compared to the tendency of a major rebate in new car prices to depress used car prices. People tend to buy the new cars, reducing the demand for old cars.
Second, they boosts profits for existing capital-intensive companies because of the time it takes for new capital goods to come into operation.
In balance, the effect of these two tendencies on stock prices is positive.
But there's a hitch to this study. The investor can't make a buck with it, Summers says. That's because the stock market had been aware of the likelihood Congress would pass accelerated depreciation for at least six months and perhaps a year. Thus, stock prices have already adjusted to the change in the tax environment for companies.
If an investor, however, has some special knowledge of the next change in corporate taxes . . . and a handy computer . . . and an econometric model . . . and two smart economists . . . and some insight as to other factors that might hit the stock market . . . then he might make some money.
From a policy standpoint, however, such econometric game-playing may have some value. It could give the administration and Congress some idea of the economic and stock market implications of potential tax actions.
Stock prices tended to follow the gyrations of the bond market and interest rates last week. The Dow Jones industrial average wound up the week at 851.03, down 20.07 points for the week. Corporate tax cuts boost stock prices Percent change Companies that in stock price make up Dow Jones Increase in industrial average Corporate corporate tax rate depreciation reduction allowances Allied Chemical 8.2 9.3 Aluminum Company of America 9.0 7.3 American Brands 25.5 3.9 American Can 11.6 6.6 American Telephone & Telegraph 3.8 12.0 Bethlehem Steel 2.6 20.7 E.I. du Pont de Nemours 8.2 5.7 Eastman Kodak 13.8 3.5 Exxon 34.7 6.7 General Electric 10.0 2.8 General Foods 14.1 3.4 General Motors 22.9 6.4 Goodyear Tire 18.5 12.3 International Nickel 12.8 11.5 International Business Machines 9.1 2.6 International Harvester 9.6 5.5 International Paper 6.7 6.9 Johns-Manville 16.5 7.0 Merck 19.4 4.3 Minnesota Mining & Manufacturing 13.9 3.4 Owens-Illinois 12.3 11.2 Procter & Gamble 10.7 2.4 Sears 4.6 1.8 Standard Oil of California 11.7 6.1 Texaco 15.2 8.4 United States Steel 4.3 11.4 Union Carbide 5.6 10.3 United Technologies 13.6 2.5 Westinghouse 13.5 7.1 Woolworth 20.3 7.7