July 05, 2011
Will a Tax Repatration Holiday Spur Investment?
If you ask a person prefers to ignore data, the answer might be yes. If you ask a person who looks at the data, the answer is likely no. There are apparently a lot of the former . Anyway, to some analysis. From the abstract of a paper by Dharmapala, Foley and Forbes entitled Watch What I Do, Not What I Say: The Unintended Consequences of the Homeland Investment Act:
This paper analyzes the impact on firm behavior of the Homeland Investment Act of 2004, which provided a one-time tax holiday for the repatriation of foreign earnings by U.S. multinationals. ...
...The analysis controls for endogeneity and omitted variable bias by using instruments that identify the firms likely to receive the largest tax benefits from the holiday. Repatriations did not lead to an increase in domestic investment, employment or R&D—even for the firms that lobbied for the tax holiday stating these intentions and for firms that appeared to be financially constrained. Instead, a $1 increase in repatriations was associated with an increase of almost $1 in payouts to shareholders. These results suggest that the domestic operations of U.S. multinationals were not financially constrained and that these firms were reasonably well-governed. The results have important implications for understanding the impact of U.S. corporate tax policy on multinational firms.
The paper is forthcoming in the Journal of Finance, hardly a left-wing publication. Table 3 in the NBER WP version of the paper shows the impact of repatriations (normalized by lagged assets), and other control variables, on capital investment, employment, and R&D. The table might be a little hard to read, but the critical point to take is the absence of any asterisks in the first row, indicating no statistically significant effects, at conventional levels.
Table 3 from Dharmapala, Foley and Forbes.
Of course, spurring investment is not the only reason to implement tax measures. If the objective of government policy is to provide a boon to stock holders, at the expense of non-stock holding taxpayers (you know which income deciles those folks would be in), then this would appear to be an ideal policy measure.
Posted by Menzie Chinn at July 5, 2011 09:40 PMdigg this | reddit
I am inclined to agree that re-patriations are unlikey to materially spur domestic investment in the current environment. The corporate sector has heathly profits and balances sheets in many cases: they have the means to invest domestically if they want. The issue is demand for goods and services rather than availability of finance.
On the other hand, if repatriation leads to dividends, then that's the equivalent of a stimulus program, and may be worth considering on that front. The 2005 holiday brought in some $312 billion. Assuming we see that amount again, it's quite material; half the size of ARRA.
And finally, as a general matter, any policy that prevents the normal re-patriation of profits is just bad policy, in my view.
Posted by: Steven Kopits at July 6, 2011 03:35 AM
This is a truly pathetic display of first-order thinking. Yes, it's true - if American multinational companies are allowed to repatriate foreign earnings without (or at very low) tax, then they will return the vast majority of it to shareholders. Now let's take the next step! The suddenly cash-richer shareholders will do what? Given all the academic research supporting the notion of a 'home country advantage' (see: Japanese gov't bonds), it seems quite likely that those monies will be invested broadly across the various investment options available in the US (with a portion going overseas, admittedly), increasing the stock of available capital and thereby lowering its cost.
Usually more (and cheaper) capital is a good thing for the US economy, as it aids capital formation. And hey - why don't we ask what good that overseas dough is going to do for US workers as it stands now? N-o-n-e.
Posted by: Hmmmm at July 6, 2011 05:42 AM
I've never understood calls for repatriation. Theoretically, you can imagine some case where it would be worth the loss in revenue, but none of the decisions which corporations make that policy makers look at (employment, R&D) are affected by transitory cash flow sources, unless they have poor access to capital markets.
The article was actually published in the June 2011 of the Journal of Finance. Not sure if there is any difference between the SSRN and the JoF versions. However, those with access can see it here:
Posted by: Lance at July 6, 2011 06:12 AM
The incentive is for corporations to continue to move production overseas. A tax cost is a cost. If it costs a company that extra amount to have operations overseas, that reduces the cost advantage of that location versus the US. Allowing companies to bring in this money without the tax penalty - especially for a 2nd time - signals them that they can continue to move productive resources and investment overseas because they can expect another tax holiday. This means they can discount the tax cost of any overseas moves. It also means that over time they shift the mass of their endeavor more away from the US to other countries. This means more job losses, more state and local revenue losses, more pressure to cut pay and benefits.
As an example, Merck says they took tax holiday money and created new jobs in the US but employment fell here, meaning they created some jobs while eliminating more than that. This may be good for shareholders but it is not good for the US or for most places where Merck is located. As to that last, Apple (and now some HP products) say "Designed in California" though they are assembled in China out of parts sourced from all over Asia. Cupertino benefits because Apple is - at least for now - doing this value added hardware and software work there. Other places lose because Cupertino has the head of the dog but the body is now in Asia. Same has been happening at HP and other technology companies.
Posted by: jonathan at July 6, 2011 07:00 AM
I agree with Hmmmm. Looking only at firms' hiring decisions, investment, and R&D spending on repatriated profits ignores the social benefits of returning profits to shareholders. Paying dividends or engaging in stock buybacks frees up capital that can then be put to other uses. The shareholders could either increase consumption spending or else reinvest the money in other assets that may have higher returns. It's just a bit naive to think that money that is returned to shareholders somehow disappears into a black hole never to benefit society again.
Posted by: Brian at July 6, 2011 07:26 AM
This kind of holiday is more a temporary subsidy than an actual change in tax policy. Corporations are not much different from individuals in that if they get a temporary benefit they will simply spend it quickly in a way that will bring them the greatest pleasure.
In his first "tax cut" George Bush provided a tax rebate in an effort to jump start the economy. This was dumb. It did nothing to change behavior is simply provided taxpayers with short term sweetness and everything went right back to the way it was.
This kind of tax holiday will have the same effect. The whole theory is based on the Keynesian theory of jump-starting the economy.
Posted by: Ricardo at July 6, 2011 07:48 AM
What we need is a form of Obamacare in which the government passes a law forcing corporations to bring this money home and NOT pay it out in dividends to wealthy shareholders. Better yet, Obama should simply confiscate it given that some of these execs fly corporate jets.
Give it all to Washington and let the Dems dole it out to their union buddies and to lazy college professors who do not teach undergraduates because they are too busy churning out ever-increasing quantities of mediocre research. (I'm sure Menzie would accept some)
Posted by: Unionman at July 6, 2011 08:05 AM
@Brian, 7:26 AM: "It's just a bit naive to think that money that is returned to shareholders somehow disappears into a black hole never to benefit society again."
Why *not* assume that? The people lobbying for the tax holiday almost universally assume that money spent by the government via transfer payments and/or goods purchases "disappears". Second-order effects are certainly real, but I see no reason to let the people who consistently *deny* their existence suddenly invoke them to justify policy...
Posted by: Matt at July 6, 2011 09:08 AM
@Lance: "The incentive is for corporations to continue to move production overseas. A tax cost is a cost. If it costs a company that extra amount to have operations overseas, that reduces the cost advantage of that location versus the US. Allowing companies to bring in this money without the tax penalty - especially for a 2nd time - signals them that they can continue to move productive resources and investment overseas because they can expect another tax holiday. This means they can discount the tax cost of any overseas moves. It also means that over time they shift the mass of their endeavor more away from the US to other countries. This means more job losses, more state and local revenue losses, more pressure to cut pay and benefits."
I imagine that it is precisely this logic that brought us our current tax policy re: repatriation of foreign earnings. I will admit that considered as narrowly as you have presented it, the analysis is reasonable; broaden it a bit, however, and I think the 'reasonableness' is destroyed.
To use a different "M" example, would you have McDonalds not sell hamburgers in foreign markets? Would you have Dell use US workers to manufacture and ship completed PCs to India, China, Brazil, etc? I think there's almost no question that the United States has benefited enormously from the success enjoyed by US-domiciled multi-national corporations. (Put differently: would you rather Merck were a French company? Or Intel Taiwanese? HP Czech? Apple Brazilian?) Most of these businesses will continue to operate and compete internationally regardless of US tax policy - to cede international markets to their competitors would be to risk falling behind in terms of scale and overall competitiveness. Should tax policy remain unaccomodating, I imagine we'll see more US multinationals change their country of incorporation/domicile. (Transocean, anyone?)
There is no question that there has been a shift of manufacturing resources to overseas locales. Tax policy isn't going to change that; it is a consequence of our open economy. You may be furious at Dell for ocean-shipping computers from China when those same machines used to be manufactured in North Carolina only 2 or 3 years ago, but so long as Acer, Lenovo, et al, can export to the US market, what choice does Dell have? If Dell were to reincorporate in India and relocate most of their administrative staff to Bangalore, would the United States stop importing Dell PCs? Nope. But I'm pretty sure the consequences for a few thousand folks in Austin, Texas would be devastating.
You're no doubt shaking your head right now saying "Straw man! That couldn't happen!"... Couldn't it? Is there a shortage of skilled accountants over in India? Or technologists? No doubt some jobs would remain here - sales, some R&D, etc... But don't assume that it is our God-given right to have these amazing companies be and remain American.
Posted by: Hmmmm at July 6, 2011 10:10 AM
Sounds like an interesting way to sneak in some more stimulus (assuming the shareholders are in the U.S.) with some money that would otherwise be left outside the U.S.
Posted by: CJS at July 6, 2011 11:13 AM
Regarding corporate income taxes, I would like to see some comment from the expert economists explaining whether corporations are tax collectors or "tax payers". To me it seems that corporations are tax collectors from my experience as a budget analyst in the distant past. My cohorts and I tried to price our products and services to produce targeted after tax profits. In addition, just as a business collects sales tax and customers pay the sales tax, it seems to me that in general a business tries to pass-on the cost of income taxes to consumers. Although professor Chinn is concerned about the loss of brain cells from reading Economics in One Lesson by Hazlitt, Hazlitt seems to provide some interesting data (for me as a non-economist) related to corporate profits as a percent of national income (p. 159). Corporate profits after tax have remained fairly consistent according to Hazlitt even though corporate income tax rates have changed over time. For example, after tax corporate profits averaged less than 5% of national income from 1929 to 1943, 1956 to 1960 less than 6%, 1971-1975 less than 6%. If my calculations are correct, I compute after tax profits at about 6.4% of national income for the period 1991-1998 and 8.1% from 1999-2009. As a non-economist, I welcome edification on the about comments.
Posted by: AS at July 6, 2011 11:26 AM
I am not sure if anyone is arguing that the affect of repatriation is neutralized completely. Rather, the argument is that the benefits are largely ancillary (increases the wealth of equity holders through dividends or buybacks) and not related to increased R&D spending or employment.
Posted by: Lance at July 6, 2011 11:27 AM
It is time to repatriot the Multi-nationals themselves. The globalization party is over boys and girls.
The nature of this brand of free market intellectualism always fascinates me. It is a gift not a right.
Posted by: The Rage at July 6, 2011 01:17 PM
I think this operates pretty much like any other tax cut. As far as investment incentive goes, the companies can simply borrow against the foreign cash to finance investment in the U.S. if that is what they wanted to do. The shareholders know the money held offshore is theirs, and they can get it by selling some shares in lieu of waiting for a dividend. That is basically why dividends have dried up - why pay regular income tax on dividends when the money can be kept in the company and shareholders can sell a part of their holdings to get cash if they want it, paying only the capital gians rate. The only question is what is the value of the money held abroad to the shareholders, i.e., whether they will have to pay taxes on it.
As far as stimulus goes, if you believe the permanent income hypothesis, the reduction in tax liability on the shareholder's wealth is the only (miniscule) effect to expect. As far as the effect of the repatriation of money, unless the capital inflow somehow spurs an offsetting capital outflow (more foreign investment in anticipation of a like tax break in future?) it will have a detrimental effect on the trade balance, which will reduce U.S. GDP in exactly the same way as foreign currency intervention (which is also a capital inflow). Foreign investment in the U.S. right now is bad for the economy, because we are suffering from an excess of desired domestic saving and a new foreign inflow only serves to exacerbate this excess.
Posted by: don at July 6, 2011 02:17 PM
Hmmmm's answers are quite persuasive.
These were realized profits after all. If management had seen superior profit opportunities in spite of the many costs of ever-expanding US regulation, permitting, etc., I'm sure they would have decided differently. Still, it brought resources back home, where in some manner they were deployed by the dividend recipients.
Posted by: Bryce at July 6, 2011 09:21 PM
How about creating some incentive to profit share with employs rather than pay to share holders?
Posted by: aaron at July 7, 2011 09:36 AM