A U.S. bor­der tax won’t fix trade deficit, but could clob­ber Canada

The Globe and Mail (Prairie Edition) - - REPORT ON BUSINESS - BAR­RIE McKENNA bm­ckenna@globe­and­mail.com

It seemed like good news when Don­ald Trump didn’t men­tion Canada once dur­ing his ram­bling and com­bat­ive news con­fer­ence this week. He picked on Mex­ico and China. But just be­cause Canada isn’t the main tar­get of the U.S. pres­i­dent-elect’s wrath as he pre­pares to move into the White House doesn’t mean there won’t be heavy col­lat­eral dam­age here.

Mr. Trump’s vow to repa­tri­ate U.S. jobs and slap a “big bor­der tax” on com­pa­nies that shift work off­shore is send­ing shud­ders through Canada’s busi­ness com­mu­nity – par­tic­u­larly the auto sec­tor.

Trump spokesman Sean Spicer con­firmed Fri­day that Canada would not be immune if a com­pany move harms U.S. work­ers.

No other coun­try is more ex­posed to U.S. trade than Canada. And no coun­try – with the pos­si­ble ex­cep­tion of Mex­ico – would suf­fer more if Mr. Trump and the U.S. Congress go ahead with this mis­guided and likely il­le­gal bor­der-tax scheme.

Just ex­actly what the United States will do is un­clear at this point. Mr. Trump ap­pears to be talk­ing about se­lec­tively pun­ish­ing U.S. com­pa­nies that move pro­duc­tion out of the coun­try (heads up, Gen­eral Mo­tors, Ap­ple and oth­ers).

Repub­li­cans in the House of Rep­re­sen­ta­tives are propos­ing some­thing much broader: the cre­ation of a “bor­der-ad­justed” cor­po­rate tax regime that would tax all im­ports – while ex­empt­ing ex­ports. Un­der the Repub­li­can plan, the U.S. tax rate would be cut to 20 per cent from 35 per cent. U.S. com­pa­nies would pay no tax on rev­enues they gen­er­ate from ex­ports but would face the full 20-per-cent levy on all im­ports.

It is a se­duc­tive idea in a coun­try that cur­rently has one of the high­est cor­po­rate tax rates in the world. The cur­rent sys­tem gives U.S.-based multi­na­tion­als a per­verse in­cen­tive to lower their tax bills by shift­ing prof­its and op­er­a­tions off­shore.

But this idea isn’t be­ing sold to Amer­i­cans as a way to cre­ate a more ra­tio­nal tax sys­tem. In­stead, the rhetoric is all about boost­ing the econ­omy, wip­ing out the chronic U.S. trade deficit and bring­ing man­u­fac­tur­ing jobs back to the Rust Belt.

“The word is now out that when you want to move your plant to Mex­ico or some other place and you want to fire all of your work­ers from Michi­gan and Ohio and all these places that I won, [it’s] not go­ing to hap­pen that way any more,” Mr. Trump told re­porters.

“There will be a ma­jor bor­der tax on these com­pa­nies that are leav­ing and get­ting away with mur­der.”

The no­tion that tax­ing im­ports will su­per­charge the U.S. econ­omy is pure fan­tasy. It won’t sig­nif­i­cantly re­duce the trade deficit or spur GDP growth, largely be­cause a tax would push up the value of the U.S. dol­lar and con­versely de­press other cur­ren­cies, in­clud­ing the Cana­dian dol­lar. Amer­i­cans would buy fewer im­ported goods, re­duc­ing the sup­ply of U.S. dol­lars. In turn, a bor­der-ad­justed tax would sub­si­dize ex­ports, in­creas­ing de­mand for cheaper U.S. goods and the dol­lars needed to buy them.

So it ends up a wash. And the bur­den will fall heav­ily on U.S. con­sumers and ser­vice-sec­tor work­ers.

The pro­posed tax would also likely run afoul of the World Trade Or­ga­ni­za­tion, which has ruled pre­vi­ously that tax ex­emp­tions on ex­ports are il­le­gal un­less they are struc­tured as val­ueadded con­sump­tion taxes (like Canada’s GST or Europe’s VAT). Canada, Europe and much of the rest of the world would chal­lenge it, trig­ger­ing a po­ten­tially de­struc­tive trade war.

But just be­cause a U.S. bor­der tax is non­sen­si­cal and prob­a­bly il­le­gal doesn’t mean Congress and the Trump ad­min­is­tra­tion won’t give it a whirl any­way.

The U.S. has been down this road be­fore. In 1971, Pres­i­dent Richard Nixon im­posed a 10-per­cent sur­charge on most im­ports and in­tro­duced ex­port tax breaks – a re­sponse to a per­sis­tent cur­rent ac­count deficit. The United States opted to ex­empt raw ma­te­ri­als, in­clud­ing crude oil, and cars from Canada, but the levy was still highly dam­ag­ing.

A new bor­der tax would be un­am­bigu­ously bad for Canada. Na­tional Bank of Canada says in a re­search note that a 10-per-cent tax would send non-oil ex­ports plung­ing 11 per cent. Econ­o­mists Dan Ci­uriak and Jingliang Xiao sim­i­larly ar­gue in an up­com­ing C.D. Howe In­sti­tute study that Canada would take a “sig­nif­i­cant hit” from such a tar­iff, wreak­ing havoc on cross-bor­der sup­ply chains in in­dus­tries such as au­tos.

And for­get about get­ting even. Mr. Ci­uriak and Mr. Xiao con­clude that tar­iff re­tal­i­a­tion would only mag­nify the dam­age to Canada’s econ­omy while in­flict­ing only mod­est pain on the United States.

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