What Trump's 20% Border Tax Would Mean
President Donald Trump stunned markets last week when he announced his plan for a 20 percent border-adjustment tax as part of a rewrite of the U.S. corporate tax code. It’s clear he hasn’t weighed the consequences.
Trump estimates the levy will reap $10 billion a year that will be used to finance the construction of his proposed wall on the Mexican border. Though he has said repeatedly Mexico would pay for the wall, this proposal shifts the costs to U.S. consumers and businesses. If enacted, the measure would have dramatic effects for the U.S. and global economies.
The trade-weighted value of the U.S. dollar will appreciate in a range of 15 percent to 25 percent, the consensus among economists. That sharp increase would cause rapid swings in the value of global assets and commodities and make U.S. goods and services less competitive.
A higher dollar would reduce profits for U.S. companies that sell imported goods, such as produce. Mexico is the U.S.’s largest source of agricultural imports. It accounted for $5 billion of vegetables through November, an increase of more than 4 percent compared with all of 2015. The U.S. imports 93 percent of Hass avocados and 71 percent of tomatoes from Mexico. Bell peppers and onions are other favorites.
The restaurant chain Chipotle, for example, buys 97,000 pounds of avocados from Mexico daily. Either it will have to absorb the added cost or pass it on to the customer.
Having a beer with that taco? The U.S. imported almost $2.9 billion of Mexican beer in the first 11 months of 2016, up 3.7 percent from 2015. Corona Extra, of Constellation Brands, is the No. 1 imported beer in America. If the cost is fully passed on, a six-pack will go from a retail price of $13 to $14.60. This is unlikely to help the U.S. get to the 4 percent growth rate that Trump promised.
Products where consumer demand is inelastic and there are few U.S. substitutes will inevitably hurt American U.S. consumers most. Think ceramics, cheap plastic sandals and toys. In addition, imports of crude oil and petroleum products reached 758 thousand barrels per day in 2015.
A stronger dollar would disrupt the current-account balance equilibrium, namely by narrowing the deficit, which is determined by U.S. savings and investment. With the dollar as the primary mechanism and adjustment tool for rebalancing the current account, the equalization challenge is exacerbated, likely wreaking havoc in currency market volatility.
The resultant losses on U.S. holdings of foreign assets and windfall gains of foreign holdings of U.S. assets will create payment shocks for overseas dollar debtors with estimates approaching $8 trillion. A rebalancing of foreign portfolios will lead to U.S. asset sales. These trillions in paper losses as well as a sharp drop in collateral value would severely affect consumer and business confidence, reduce spending, and weaken the U.S. economy.
And in the fixed-income market, maturing assets and investment income from abroad would be susceptible to a major currency translation reduction.
Global commodities are largely priced in U.S. dollars, which explains the inverse ratio between the dollar and commodities. A drop in commodity prices would be particularly bad for U.S. energy markets: As we have seen over the past two years, a hit to the energy sector can be a major drag on the U.S. economy.
The economist Martin Feldstein argues that the stronger dollar will mitigate the impact on consumer prices and that the border tax will allow U.S. producers to deduct spending on labor and capital goods. But there are flaws in this argument. It takes the U.S. dollar appreciation as if everything else remains the same, ignoring such consequences as price cutting for competitiveness, the price response by foreign competitors, and retaliation -- through countervailing duties or other means -- via the World Trade Organization or unilaterally.
Such opposing views are expressed by Adam Posen, president of the Peterson Institute, who claims the tax “is not pro-investment, its pro-reallocation.” Furthermore, Citigroup’s Bill Lee points out that there may be a short term Keynesian-like effect with incentives for profit repatriation, but in the long run the stimulus will fall apart.
Even Trump has called his plan “too complicated,” a clear indication that he doesn’t understand its consequences. If the border tax represents “America First,” then who will be second, third and fourth to impose tariffs?
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
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