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Kudlow: The Trump Transition Is Transcendent, but the Economy Needs Attention Now

For the sake of a smooth 2017, tax reform must move front and center

President-elect Donald Trump's transition continues to go smoothly. Better than smoothly. Confidently. More than confidently. Transcendently.

And to top it all off, the Dow is up 9 percent since the election, while economic-sensitive small-caps have jumped nearly 16 percent. These are signs of Trump confidence.

Hard-nosed investment manager Ray Dalio, founder of Bridgewater Associates and a non-political guy, expects the Trump years to be as transformational as the Reagan-Thatcher years. Dalio says the Trump era could "ignite animal spirits" and "shift the environment from one that makes profit-makers villains with limited power to one that makes them heroes with significant power."

That's as good a summary as I have found.

Since the election, I have argued that the Barack Obama/Hillary Clinton war against business will come to an end, and that America will once again reward success, not punish it. And while the Left has demonized Trump's cabinet appointees as a terrible group of successful business people, free-market capitalists such as myself regard this group as very good indeed.

Why shouldn't the president surround himself with successful people? Wealthy folks have no need to steal or engage in corruption. Their business success demonstrates that they know how to achieve goals and convince skeptics that good deals can be made to the benefit of both sides. Isn't this just what America needs?

And most of these folks aren't political. They won't be afraid to reach across the aisle for bipartisan solutions. And that includes Mr. Trump himself. For many of his years he was a Democrat. Just like Ronald Reagan. Just like me.

I've always loved Winston Churchill's comment that "If you're not a socialist in your twenties, you have no heart. But if you're not a capitalist in your thirties, you have no mind."

In our new book, JFK and the Reagan Revolution, Brian Domitrovic and I explain how the two great pro-growth tax-cutting presidents -- JFK the Democrat, Ronald Reagan the Republican -- used civility and respect to communicate key ideas in a bipartisan effort that yielded terrific results for American prosperity.

Donald Trump speaks during a thank you rally in Ladd-Peebles Stadium on December 17, 2016 in Mobile, Alabama.
Getty Images
Donald Trump speaks during a thank you rally in Ladd-Peebles Stadium on December 17, 2016 in Mobile, Alabama.

So far, this has been the Trump way. Not only has he conducted himself with great civility, beginning with his Oval Office meeting with President Obama, he has sought an inclusive approach wherever possible, irrespective of party.

Yet with less than a month until the inauguration, it is crucial that Mr. Trump embarks on immediate bipartisan efforts to strengthen the economy. It was the number-one election-year issue. And despite strong post-election increases in business and consumer-confidence -- along with the stock rally -- the economy is weakening yet again.

Measured year-to-year, real GDP is rising only 1.7 percent. Business fixed investment continues to decline. Productivity is flat. Consumer spending has barely risen in the last two months, while both auto production and sales are slumping. Non-financial domestic profits have declined year-to-year for the last six quarters.

Of all these factors the slump in business fixed investment is the most harmful. If you go back in history, across the four long post-war recoveries of the '60s, '80s, and '90s, BFI averaged nearly 7 percent. In the Obama recovery, BFI was only 4 percent. Over the past two years, it has been flat.

Using a back-of-the-envelope rule of thumb, if the JFK/Ronald Reagan/Bill Clinton investment performance were in place now, our economy would be growing at 3 rather than 2 percent. A big difference.

That's why pro-growth tax reform is so important. It is reported that Mr. Trump will immediately move to overturn costly Obama regulations, especially on small business. This is good. It will add to growth.

But the big decision will be whether to repeal and rewrite Obamacare or enact tax reform as the first order of legislative business.

Replacing Obamacare is hugely important, both to improve our health-care system and remove the economic drag of its taxing, spending, and regulating. But business tax reform -- with low marginal corporate rates for large and small companies, easy repatriation, and immediate expensing for new investment -- will have an enormously positive impact on the weakest part of our economy, namely business investment.

That's where we'll see 3 or 4 percent growth, higher productivity, more and better paying jobs, and fatter family pocketbooks.

If there were a way to combine a two-year budget resolution with reconciliation instructions (51 Senate votes) to reform health care and taxes in one full sweep, that would be ideal. However, if tax reform (be it business or individual) comes second, and the start dates are postponed until 2018, then businesses and consumers will postpone economic activity. That could make 2017 a much weaker economic story than confidence surveys and the recent stock market suggest.

There's a great transition going on, but the economy needs immediate attention. Tax reform is the key.

Commentary by Larry Kudlow, a senior contributor at CNBC and economics editor of the National Review. Follow him on Twitter @Larry_Kudlow.