I didn’t want to jam too much into my piece last week on the interesting Border Adjustment Tax—come on peeps, you know that BAT is a much better acronym than DBCFT (destination-based-cash-flow tax)—that House R’s want to use to replace the current corporate tax. Like I said, it’s a complicated bit of work about which we know little, particularly regarding its impact on consumer prices (and thus, its distributional impact) and on exchange rates.
That said, it’s hard to imagine a scenario in which a tax that clearly favors net exports would not lead to some degree of dollar appreciation. Ed Kleinbard, a guy who thinks deeply about such things, makes the intuitive point that a multi-trillion-dollar side effect of the dollar appreciation is a transfer of wealth from US investors with foreign holdings to foreign investors holding US assets. He explains here using Freedonia to symbolize not-the-US:
It also follows from this that the transition to a destination based profits tax, and with it the appreciation in the U.S. dollar, will work a one-time very large wealth transfer from U.S. investors to foreign investors. Foreign investments held by U.S. investors overnight will be worth less in dollar terms, and U.S. investments held by Freedonian investors overnight will be worth more in Freedonian pfennig terms. Carroll and Viard have estimated that at the end of 2010 the wealth transfer attributable to the introduction of border adjustments without any transition relief would have amounted to a $7.88 trillion loss to American investors and an $8.85 trillion pickup in wealth for foreign investors. As of the time of this writing, I am reasonably confident that policymakers have not weighed the implications of this.
Those are many more trillions than I would have guessed, but note that the analysts Ed’s citing are strong proponents of the tax, so I don’t think their thumb would be on the scale.
I’m not saying this is or should be a deal killer—any transition to a better corporate tax system will create winners and losers. But I share Ed’s “reasonable confidence” that policy makers haven’t thought much about this, and you can add US investors holding foreign assets to the retailers and other producers that depend on imported inputs to the list of those who will fight hard against the BAT.
One more point on this dollar appreciation business. I enjoyed this useful oped in today’s NYT about how Trump will probably have to go through Congress if he wants to increase tariffs (I’ve seen some counter-arguments, but the NYT piece made more sense to me). But this part seemed off (my italics):
A border adjustment tax is a far better option than tariffs. It would eliminate incentives in the current tax system to manufacture abroad, and to shift income abroad. Unlike a tariff, it aims to be trade neutral, with any changes in consumer pricing of imports and exports being offset by a rise in the dollar. And with strong support in the House, it could be enacted in full compliance with the Origination Clause, lending it legitimacy that a unilateral tariff would lack.
If the dollar fully adjusts, then the trade balance, which is measured in dollars, not quantities, is unaffected. Tariffs, of course, are designed to improve the trade balance. I’m not sure they would, and, in fact, I suspect our trading partners would retaliate against either tariffs or a tax scheme that subsidized exports, so the impact on the trade balance of either of these interventions is not clear. But a selling point by BAT proponents is that the balance of trade would be unaffected, which is a very different selling point than the one offered by proponents of tariffs.