Kerry, the Good Protectionist

Actually—psst—his plan would enhance free trade.

It’s gratifying to see the Treasury Department catch hell for performing (at the behest of House Majority Leader Tom DeLay) a computer analysis of presidential candidate John Kerry’s proposal to trim the Bush tax cuts. This, along with a harebrained scheme to insert a fairly overt Bush campaign slogan at the bottom of some routine Treasury press releases—to see examples, click here and here—probably violated the Hatch Act, which prohibits civil servants from using “their official authority or influence to interfere with an election.” While it’s common to see political propaganda shoehorned into government press releases, the accepted method is for the press secretary to invent a partisan quote that he can attribute to the cabinet secretary, who, as a political appointee, can say whatever he wants. This is morally dubious, but legal.

Chatterbox now asks you, dear reader, to try something you may not find easy. Set aside your indignation. Just let it go. Take a deep breath, go outside, and walk around the block. Or try yoga. Ommm.

Feel better? Then let’s proceed.

Rather than ponder instances of obvious partisan abuse by Treasury, Chatterbox invites you to consider an instance where Treasury refrained from partisan abuse. Treasury did not analyze—and, presumably, was not asked to analyze—candidate Kerry’s plan to eliminate the tax advantage enjoyed by corporations when they outsource jobs to other countries. To do so would have been awkward, because much of the logic behind the reform is derived from previous reports by Treasury and the Congressional Research Service, and is supported by research and public comment from conservative economists. There is a conservative argument to be made against Kerry’s plan, but it’s too complicated and unpersuasive for any Treasury official to risk prosecution by writing it up in a press release. Consequently, this dog didn’t bark.

The most attractive aspect of Kerry’s plan is that it harnesses some crowd-pleasing protectionist rhetoric that Kerry has indulged in—initially to counter Howard Dean—to an unexpectedly reasonable reform. “From cars to computer software to call centers, millions of Americans have seen their jobs shipped overseas,” Kerry likes to say. But Kerry doesn’t propose that tariffs be hiked, import quotas be imposed, or anything like that. He simply says that the government should stop giving corporations an incentive to ship jobs overseas. Rather than tamper with market imperatives, he wants to restore them.

When an American company shifts production or services overseas, it’s mainly so it can pay its workers less. But the company also, gallingly, pays lower taxes. There are two reasons for this:

1) Foreign corporate income is not subject to the United States corporate income tax until the money is brought back into the United States. If the tax-deferred income is “repatriated,” the company may reduce its domestic tax bill by whatever amount it has already paid in taxes overseas.2) The foreign tax is almost never as high as the domestic tax. On average, it’s one-third as large. These are countries, after all, that are desperate for American jobs. Since it’s fairly easy for American corporations to set up their bookkeeping in a way that keeps foreign profits abroad—at least on paper—the practical result is that, in outsourcing jobs to another country, the company enjoys a substantial tax cut.

Everybody agrees that this makes no sense. Here’s how the Treasury Department put it in December 2000 (yes, this was the Clinton administration, but the Bush Treasury would find it hard to argue any differently):

[W]hen the goal is to maximize global economic welfare, capital export neutrality is probably the best policy. The basic conclusions of the standard analysis, that the best policy is to impose equal taxes on domestic and foreign investment income, appear to provide the best guide for determining appropriate tax policy. … [Similarly, when the goal is to maximize national economic welfare] a country should tax income from outward foreign investment at a rate that is at least as high as the tax imposed on income from domestic investment.

Conservatives like to pretend that there’s only one way to level this playing field: Reduce drastically or eliminate the domestic tax on either repatriated corporate earnings or on corporate earnings in general. (That’s what three out of four congressional reforms introduced last year proposed.) But of course, there is another way. You can make all corporations based in the United States pay the same tax on their overseas earnings as they pay on their domestic earnings. That’s what Kerry wants to do. His plan maintains the exemption for taxes paid overseas, because to do otherwise would require companies to pay higher taxes on their overseas operations, which would be too punitive. Kerry also exempts earnings on goods and services sold inside the country where the foreign subsidiary is located. To keep the plan “revenue neutral,” Kerry offsets the increased revenues from abroad with a 5 percent cut in the overall corporate tax rate.

Among the conservatives quoted in Kerry’s issue paper on eliminating tax deferral is Kevin Hassett, a scholar at the American Enterprise Institute best known to the general public as co-author (with James K. Glassman) of Dow 36,000: A New Strategy For Profiting From the Coming Rise in the Stock Market, published seconds before Internet stock bubble burst. “The U.S. tax code definitely provides a strong incentive for sending jobs overseas,” the Kerry paper quotes Hassett saying. Unlike the Treasury Department, Hassett is not inclined to take this co-option lying down. His payback is an op-ed posted April 15 on Tech Central Station (a sort of combination Web magazine and corporate public relations shop). The title is “Kerry and Me.”

In the essay, Hassett rather nastily suggests that Kerry exempted earnings on anything sold by a foreign subsidiary to consumers in that country in order to enrich his wife, Teresa Heinz Kerry. (Apparently Heinz has 57 plants outside the United States that supply local markets.) That’s doubtful. Gene Sperling, former chief of President Clinton’s National Economic Council and now a senior economic adviser to the Kerry campaign, told Chatterbox the actual motive behind the exemption is to avoid punishing United States companies that are “trying to penetrate the emerging markets in the world.” There’s also the question of simple fairness; you can’t reasonably argue that overseas workers serving a host country displace workers in the United States. There’s no way, for instance, that American-based workers can help an American hotel chain penetrate the market in Tahiti unless they pack up and move to Tahiti. Arguably, workers in an American manufacturing plant lose a segment of the world export market to workers in an overseas subsidiary serving the host country market, but it’s a pretty small slice. The Third World countries where American manufacturers relocate operations are not known for robust consumerism.

Hassett’s core argument against the Kerry plan is that it will harm the competitiveness of American companies:

If a multinational makes money abroad, it must pay U.S. taxes immediately. This will make the negative impact of high U.S. taxes impossible to avoid and force U.S. firms to significantly increase prices. That should lead to sharp reductions in market share and employment both at home and abroad, and a likely wave of foreign acquisitions of U.S. companies.

Though Hassett exaggerates the likely magnitude, his reasoning is correct. American Company A, operating in Mexico, will pay United States taxes that its next-door neighbor, German Company B, will not. That will diminish somewhat Company A’s ability to whup Company B. But so what? Any revenue-neutral change in the tax system creates winners and losers. If somebody’s got to lose—indirectly, in this case—it might as well be those companies that rely most heavily on cheap labor. “Obviously,” says Sperling,

this takes away U.S. tax incentives for companies that want to locate in tax havens to sell back to the U.S. or to other markets. But the right question is, “Does this proposal on the whole increase the competitiveness of U.S. companies who are increasing jobs and incomes and standards of living in the United States?” And the answer is yes.

Chatterbox would take Sperling’s argument several steps further. Even if Hassett is right that Kerry’s plan will sharply reduce market share for those American companies that rely heavily on overseas labor, it’s far from obvious that Americans should care. Think about it. Why do we want American corporations to dominate world markets in the first place? Because they create American jobs. To whatever extent American companies don’t create American jobs, there’s less reason to care about their market share. Of course, companies don’t consist solely of labor. There’s capital, too. But assuming these companies are publicly held, that capital isn’t specifically American; it’s the property of stockholders around the globe. Granted, the rare privately held company in America that’s large enough to outsource a significant number of jobs would lose American capital (assuming the owners haven’t decamped to Antibes). But there’s little reason to tailor our tax system to the needs of cartoon plutocrats.

And anyway, argues Robert McIntyre, director of the nonprofit Citizens for Tax Justice, a huge proportion of the revenue raised under the Kerry plan would come from corporations whose foreign subsidiaries don’t even create jobs in foreign countries. That’s because they’re legal fictions. “Most of what’s going on with offshore activity is just paper,” McIntryre told Chatterbox. “Companies using intricate devices shift profits that are earned in the United States to, eventually, tax savings. … Without deferral, those schemes wouldn’t work.” Who bleeds for American corporations that conduct make-believe business in Andorra? Chatterbox doesn’t. You probably don’t. Nobody does. Well, almost nobody. In 2001, the Bush administration halted a joint effort with Europe to crack down on the most egregious tax havens. The villain of that tale, oddly, was Treasury Secretary Paul O’Neill, now revered by liberals for his bracing and persuasive critique of the Bush presidency. Ah, well. Nobody’s perfect.