U.S. President Donald Trump and House Speaker Paul Ryan (R, Wis.) are proposing a 20 percent border tax. Their goal is to level the playing field between American manufactured goods and foreign goods. And the promise is that a border tax will return manufacturing jobs to America.
But here is what you must also know. A border tax is a consumer tax. Buying back-to-school clothes will be a more painful experience. Avocados, shrimp and bananas will cost a lot more. Get ready for sticker shock at Starbuck’s and your auto dealership.
Beyond higher prices, some wonder whether the border tax plan will be leveraged to lower corporate America’s taxes or whether it will actually create manufacturing jobs.
Trying to solve a 1980s problem with your pocketbook
In the early 1980s, a tax on imported goods would have protected American manufacturing jobs. But today that cat is out of the bag. We live in a global supply chain. Today’s intense competition within the global supply chain is keeping prices from rising. It is why we have not seen higher prices for what we buy from multinational companies like Apple, Ford or Walmart. The global supply chain is saving you money.
American manufacturing has learned how to compete within the global supply chain. Our factories are producing twice as much as they produced in 1984. America’s smart factories win competitive advantage because sweat shops cannot compete against their ability to ship price-competitive, mass-customized products into a just-in-time global inventory system. That is partially why we are now seeing on-shoring of manufacturing back into the U.S.
A border tax funds a corporate tax cut
The stated logic for a border tax is that it can be used to cut corporate taxes, and this will create new manufacturing jobs.
But here is what corporate America has actually been doing with their after-tax cash flows:
- Buying back stock to support higher stock prices
- Paying dividends to support higher stock prices
- Investing in smart technologies that use fewer resources, including workers
Sales are what drive businesses to hire. Businesses hire more people when sales go up. They cut jobs when sales go down. There is not a direct link between cutting business costs (including taxes) and businesses hiring more people.
With this in mind, it’s easy to imagine a scenario in which a border tax actually reduced sales and employment:
- Consumers may very well cut their purchases from sticker shock created by a 20 percent border tax
- And businesses will then cut employment due to sales decline.
How the rich will get richer from a border tax
Income and wealth inequality is a drag on our economy. Seventy-six percent of America’s wealth is held by just 10 percent of the wealthiest Americans. Ninety percent of us have limited spendable income. Since consumer spending accounts for 75 percent of our economy, this restricts business sales growth.
This problem will only be made worse if a border tax takes money out of the pockets of the 90 percent. And worse still if corporate America uses the tax cuts generated by a border tax to buy back stock and raise dividends — money that, again, goes mostly into the pockets of the 10 percent.
Could the border tax lower individual tax rates?
The border tax could be used to lower individual taxes. That could mitigate the pain of higher consumer prices. In economics this is called an income effect. If incomes go up as much as prices go up, there is an income effect where the higher prices do not create a net reduction in satisfaction.
Now, ask yourself: When was the last time the government got this right? Remember President Ronald Reagan’s supply-side economics? Taxes were massively cut on the assumption that they would generate sustained job growth. It did create a short-term economic boom. It also started us down the path of massive annual government deficits. Then the tax-generated economic boom went bust, and stock prices collapsed in 1987.
The last American border tax accelerated the Great Depression
America has been here before. In 1930 the U.S. adopted a border tax through the Smoot-Hawley Tariff Act. The American Economic Association issued a letter opposed to this border tax that was signed by 1,028 economists. Their arguments reflect this article’s analysis. Smoot-Hawley sought to protect farmers but failed to do so because they were part of a global market. The tariff dramatically raised consumer prices and cut business sales. Businesses responded by cutting jobs.
The Republican Congress and president ignored the economists (sound familiar?). This tax turned a recession into the Great Depression. National incomes dropped 36 percent. The Great Depression then drove global extremism, culminating in Adolf Hitler’s rise to power and the second world war.
Free markets are America’s competitive advantage
America’s economy would greatly benefit from tax reform that reduces the amount of time and resources spent on calculating and paying taxes. Our economy would benefit from removing special interest tax breaks that benefit the few at the expense of the many.
But tax reform should not be confused with creating the foundation for sustainable economic growth. Economic growth is won through productivity and innovation. Protectionism in any form, including a border tax, undercuts the ability of our free market system to reward those who are more productive and innovative.
A border tax sounds great because there is real human pain tied to lost manufacturing jobs. But protectionism does not grow jobs, and it will not reduce this pain. Protectionism is proven to create economic recession and depression, job loss, and even war.
America must go lightly into this night.
Image credit: Flickr/Gage Skidmore