Could Trump’s proposed corporate tax cuts trigger a stock market boom? This is what history shows.

In December 2017, former President Donald Trump signed the Tax Cuts and Jobs Act of 2017. The act included a sweeping overhaul of the U.S. tax code, including lowering the corporate tax rate from a tiered range of 15% to 39% to a flat rate of 21%.

Now Trump, the Republican Party’s presidential candidate, wants to lower the corporate tax rate from 21% to 15%. Some fear that further cuts could increase the federal budget deficit. But could Trump’s proposed corporate tax cuts trigger a stock market boom?

The investment case for corporate tax cuts

Why might further corporate tax cuts help shareholders? When a company’s costs decline, its financial performance improves (assuming revenues don’t decline as well). Stock price appreciation correlates with earnings growth over the long term. The main argument for corporate tax cuts from an investment perspective is that they should reduce the tax burden on corporations, thereby increasing their profits and, ultimately, stock prices.

Some companies use part of their profits to buy back shares. Corporate tax cuts could allow them to spend more on share buybacks. These buybacks reduce the number of shares outstanding, which increases the value of the remaining shares on the market.

Companies can also use higher profits to increase dividends. Juicier dividends can attract more investors and create buying pressure that pushes share prices higher. They also increase the total return on stocks.

Even if a company does not use increased profits resulting from corporate tax cuts to buy back shares or increase dividends, shareholders may still be rewarded. Reinvesting more profits into a company in a way that drives growth can increase the value of the company’s stock over time.

Historically, a mixed bag

So will Trump’s proposed reduction in the corporate tax rate to 15% set the stock market on fire? Perhaps, but corporate tax cuts have had a negative impact on corporate stocks in the past.

The Trump tax cuts that took effect in 2018 were the first reduction in the corporate tax rate in decades. In the first year of cuts, S&P500 (^GSPC 0.90%) dropped by approximately 6%. However, it rebounded in 2019 and achieved almost 21% growth in two years.

^SPX data by YCharts

Under former President Ronald Reagan, the top corporate tax rate was cut from 46% to 40% in 1987 and then to 34% in 1988. The S&P 500 initially continued its bull run in 1987, but the Black Monday crash caused index decline, end the year with an increase of only 2%. The S&P rebounded in 1988 but did not regain its previous high.

^SPX data by YCharts

Legislation signed by former President Jimmy Carter lowered the maximum corporate tax rate from 48% to 46% in 1979. The S&P 500 Index rose 12% in the first year of the tax cut, and by the end of 1980 it was up 41% .

^SPX data by YCharts

In 1970, the maximum corporate income tax rate dropped from 52.8% to 49.2%. The following year the rate dropped again to 48%. The S&P 500 ended the first year with slight declines. By the end of 1971, the end was up almost 10%. However, by the end of 1972, the S&P had risen almost 27% in three years.

^SPX data by YCharts

Former President John F. Kennedy made tax cuts a key part of his economic agenda. The maximum corporate tax rate was cut from 52% to 50% in 1964, then lowered to 48% in 1965. The S&P rose 12% in the first year of the tax cuts and rose almost 23% by the end of the second year. However, the index fell in 1966, resulting in a three-year gain of just 6.5%.

^SPX data by YCharts

After the end of World War II in 1946, the maximum corporate income tax rate was reduced from 40% to 38%. I don’t have a chart to show because the S&P 500 didn’t exist in its current form of 500 companies until 1957. However, the index’s predecessor fell almost 12% in 1946 and was unchanged in 1947.

Finally, the first reductions in corporate income tax rates in U.S. history occurred in 1928 and 1929. In the first year, the maximum rate was reduced from 13.5% to 12%. In the second year, the maximum rate dropped to 11%. The S&P 500’s predecessor index skyrocketed nearly 39% in 1928. But every student of history knows what happened next. The market crashed in October 1929 and continued to decline for the next three years.

What if corporate income tax rates increase?

While former President Trump wants to lower corporate tax rates, Vice President Kamala Harris has proposed raising the rate from 21% to 28%. Would such a move lead to a stock market crash? Again, the story may surprise you.

My colleague Sean Williams recently looked at five cases since 1950 when the maximum corporate tax rate was raised. In each case, the S&P 500 index rose in the first year of the higher tax rate. The average return was 13%, which was higher than the overall average annual return of the index over the long term.

The most important conclusion from all this is that changes in corporate tax rates do not necessarily translate into the stock market movements that many investors might expect. Why? Firstly, many companies benefit from tax reliefs and incentives and do not pay the maximum corporate income tax rate. More importantly, however, there are many other factors beyond tax rates that influence the stock market, including interest rates, geopolitical events, and overall economic growth.

Investors should not count on a stock market boom if Trump wins and is able to implement his proposed tax cuts. However, they can count on the fact that in the long run, shares usually increase in value.