Mar 09, 2017

Border Adjustment: Myth Vs. Fact

Post by Freedom Partners

There are many components of pro-growth tax reform on which fiscal conservatives and free-market advocates can agree. Lowering rates across the board, broadening the base, and a simpler and flatter tax code will allow hardworking Americans to keep more money in their pocket, help grow the economy, and bolster employment and opportunity for all Americans. But the current proposal from Congress represents not only bad politics, but even worse policy.

It pairs some of those good reforms with a massive new tax increase. Yes, some in Congress are asking Americans to shoulder a $1.2 trillion tax hike on imports – shifting the burden from corporations to middle-class consumers, who would have to pay higher prices for most any item they need to purchase. Despite their claims, that’s not the kind of tax “reform” we need.

MYTH: American manufacturers are at a disadvantage in the current system, we need border adjustments to create a level playing field with companies in other countries.

FACT: The biggest reason that American manufacturers (and every other American business) are at a disadvantage is the high tax rate currently imposed. The United States has the third highest general top marginal corporate income tax rate in the world, at nearly 39 percent. Lowering the tax rate as much as possible is the easiest and most effective way of eliminating this disadvantage and promoting domestic growth.

Increasing the cost of doing business for American companies that import with the inclusion of a border adjustments tax won’t “level the playing field.” Instead, it will drive up the cost of doing business, leading to lower wages, and will punish American consumers who will inevitably pay higher costs for goods and products. The fact that other countries impose these costs on their consumers shouldn’t be a reason for us to do the same.

MYTH: Border adjustments will help America’s economy because it will prevent companies from moving overseas – often referred to as “base erosion.”

FACT: Coercing businesses to stay in the United States through government regulations (current system) or tax incentives (the proposed system) is bad economic policy and hurts American consumers. A better approach is to beat out the international competition by having the lowest corporate tax rates and instituting a pro-growth regulatory framework that incentivize business to locate and thrive in the United States. Unfortunately, the United States, with one of the world’s highest corporate tax rates, is losing out to other countries that offer lower, more competitive rates. Instead, the United States should be racing to lower our tax rates to encourage investment and growth in the United States, making America open for business.

MYTH: American consumers won’t be hit with higher prices, since the U.S. dollar will increase in value immediately and completely to offset any increase in price from the new tax.

FACT: The actual amount and rate of currency adjustment is impossible to predict. Any suggestion that the dollar will appreciate perfectly in a way that would offset harm to consumers is based on textbook economic theory and fails to take into account a number of important factors that could limit the impact of currency adjustment. These factors include: the different tax rates between corporations and pass- through businesses, the fact that some of our trading partners don’t float their currencies, and whether or not the export credit will be refundable.

With the border adjustment provision, supporters make a big bet that this will be a textbook transition. In reality, consumers will likely take a big hit when the dollar appreciation doesn’t perfectly offset their price increases. In fact, Federal Reserve Chairwoman Janet Yellen recently said, in response to suggestions that the border adjustment tax’s impact on the dollar would offset the tax increases:

“The problem is there’s great uncertainty about how in reality markets would really respond to these changes … A strong set of assumptions is needed to believe that markets would fully offset those changes. … It’s very difficult to know just what would happen.” (Joseph Lawler, “Yellen Not Sure GOP Tax Plan Would Boost The Dollar,” The Washington Examiner, 2/15/17)

MYTH: Without the revenue from border adjustment, we can’t afford the rest of the good reforms in the House Blueprint plan.

FACT: If, due to procedural or political constraints, Congress ties itself to “pay-fors” to offset good tax reform, there are many options that would not impose a new $1 trillion tax on consumers. Arguing that there is simply “no other option” for offsetting the cost of tax reform shows a lack of willingness to actually rein in the cost and scope of the federal government. Spending reforms, elimination of distortions that remain in the proposed tax reform plans, and regulatory reform all provide opportunity to offset the revenue lost from lower rates—without a tax hike on consumers.