Corporate Tax Reform and the Border Tax

 

Most informed observers of the U.S. economy agree that the Corporate Income Tax of 35% is too high and should be lowered to a rate which is more competitive with other developed countries. Republican Congressional leaders and the Trump administration have agreed that a 20% rate is about the right level.
Now the question is how to make up the tax revenue lost to the federal government from a lower tax rate.  One idea is to impose a Border Adjustment Tax on imports into the U.S. but exempting exports from such a tax.  Since the U.S. trade deficit is currently running at about $500 billion per year (see chart), a 20% tax on imports offset by a 20% tax credit for exports would raise the necessary $1 billion per year.


This week’s Barron’s points out several disadvantages of a BAT:

  • Economic theory predicts that a 20% BAT would mean that the dollar would rise in value by 20%, offsetting the higher costs of imports. But if this happens, then other industries, such as U.S. tourism, would take a big hit.
  • Other countries could retaliate in ways that would be unfavorable to us and cause a “Trump slump.”
  • If a BAT leads to an increase in exports and a decrease in imports, the $500 billion trade deficit will shrink and so the BAT will bring in less revenue than the predicted $100 billion per year.

The Barron’s article suggests much better ways to make up the $100 billion in tax revenue (on a static basis) which would be lost to a corporate tax rate cut to 20%. For example:

  • A corporate tax rate cut of this magnitude would be revenue enhancing (on a dynamic basis), easily raising an additional $50 billion in tax revenue.
  • The CATO Institute recently compiled a list of corporate welfare programs in the federal budget totaling $100 billion. Eliminating just half of this would save an additional $50 billion.

Conclusion. Cutting the corporate tax rate to 20% from its current level of 35% will contribute significantly to faster economic growth. It should be quite possible to keep such a tax rate cut revenue neutral by cutting back on crony capitalism.

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