Tax Foundation Discussion on the Harms of Retaliatory Tax and Trade Policies

The TaxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities.
Foundation recently hosted a discussion on retaliatory tax and trade policy with Senator Marsha Blackburn (R-TN) focused on the negative impact of retaliatory tax and trade actions on the U.S.’s economic competitiveness. Tax Foundation President and CEO Daniel Bunn moderated a discussion with panelists Erica York, Senior Economist and Research Director with Tax Foundation’s Center for Federal Tax Policy; Jason Fichtner, Chief Economist at the Bipartisan Policy Center; and Bryan Riley, Director of the National Taxpayer’s Union Free Trade Initiative.

The discussion emphasized the harms U.S. businesses and consumers experienced in the 2018-2019 trade war and illustrated how similar concerns have now arisen in the context of foreign digital services tax proposals and the global minimum tax’s enforcement mechanisms.

Summary

On the topic of tax, in her opening remarks, Senator Blackburn stressed the success of the Tax Cuts and Jobs Act (TCJA) in spurring economic growth in the United States. She praised the inclusion of certain provisions in the bipartisan tax bill on the House floor (e.g., bonus depreciationBonus depreciation allows firms to deduct a larger portion of certain “short-lived” investments in new or improved technology, equipment, or buildings in the first year. Allowing businesses to write off more investments partially alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs.
and research and development expensing). She highlighted her concerns over the changes to the child tax creditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly.
. She also stressed that the Organisation for Economic Co-operation and Development’s (OECD) Pillar Two undermines the U.S. base and disproportionately targets U.S. multinationals.

Concerning trade policy, Senator Blackburn focused on the impact of trade disputes on Tennessee businesses. She stressed the need for differentiation in the treatment of allies, like the European Union, versus others, like China. She stressed the need for designing tools that are not counterproductive and don’t undermine the economic activities of businesses. She mentioned how, for instance, the steel and aluminum tariffs have hurt U.S. manufacturers, leading to higher prices for consumers and less competitive U.S. producers in the global markets. On retaliatory tariffs, Senator Blackburn highlighted the impact tariffs have had on the economy of her state, like Tennessee’s whiskey products. She stressed that the executive branch has not consulted with Congress on many of the implications of its conducted trade policy. She gave an overview of the state of U.S. trade relations, highlighting the lack of a free trade agreement (FTA) with the United Kingdom, as well as a failed Indo-Pacific Economic Framework for Prosperity (IPEF). Senator Blackburn concluded her remarks with a brief discussion of China’s economic system and the implications it carries for U.S. interests.

Mr. Bunn, in his opening remarks for the panel discussion, recounted tax and trade policy developments of the last decade, ranging from the ongoing discussions at the OECD on taxing the digital economy and creating a global minimum tax to the 2018-2019 trade war that affected trade with China, the EU, the U.K., Japan, and many other trading partners. He emphasized the harms to U.S. businesses and consumers from the trade war as well as the potential harms to the U.S. tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates.
and U.S. multinationals as other countries move forward with discriminatory taxes.

Mr. Riley opened his remarks with a sports analogy, stressing that teams need to play and abide by the same rules, with independent arbiters to enforce the rules. He stressed that the U.S. led the international efforts to build a rules-based trading system and that U.S. policymakers should use that system. His remarks also explained that both tariffs and retaliatory tariffs carry negative consequences, affecting manufacturers as well as consumers.

Ms. York, in her opening remarks, focused on the importance of taking a step back to learn lessons from the 2018-2019 trade war on the effects of retaliatory policies on the U.S. economy. She stressed the economic impact and incidence of the tariffs, highlighting that the U.S. economy bore most of the economic consequences of both its own tariffs and the retaliatory tariffs. For instance, retaliatory tariffs on agriculture placed U.S. producers at a global disadvantage, causing them to lose market share. Additionally, beyond the economic burden of tariffs and retaliation, the U.S. also experienced taxpayer costs for the direct payments made to agricultural producers. Furthermore, she stressed the highly politicized nature of tariffs and tariffTariffs are taxes imposed by one country on goods or services imported from another country. Tariffs are trade barriers that raise prices and reduce available quantities of goods and services for U.S. businesses and consumers.
exemptions, both of which may place smaller producers and manufacturers at a disadvantage.

Mr. Fichtner, in his opening remarks, focused on the negative consequences of tariffs and myths about trade. He stressed that tariffs are based on politics rather than economics. Acknowledging that the benefits of free trade are hard to measure, and hard for the population to observe, tariffs have become a flashy way to appeal to an electorate. He mentioned that free trade also encourages and promotes fair trade, innovation, and competition. On trade wars and retaliatory tariffs, he mentioned that the best response to another country placing tariffs on a product is to avoid placing retaliatory tariffs in turn, as hard as that may be politically.

During the discussion, the speakers focused on the intricacies of retaliating, the role of the World Trade Organization (WTO) in the global trading system, and other means of negotiating tax and trade disputes beyond tariffs and other retaliatory manners. It may be politically difficult to avoid responding to a unilateral measure with a unilateral countermeasure, but the panelists noted that engaging in tit-for-tat tax or trade measures is economically counterproductive. The discussion also revealed more creative ways for the U.S. Congress to play a larger role in trade policies.

Additionally, the panelists discussed the impact of the OECD’s Pillar Two and the implications of U.S. states enacting digital services taxes. The panelists answered questions on the distinctions between the OECD rules, such as the undertaxed profits rule (UTPR), and U.S. policies, such as the global intangible low-taxed income (GILTI); the benefits to cross-border investment for domestic and foreign economies; national security implications for trade policy; and the benefits of competition.

Conclusion

Historical evidence and recent studies have shown that retaliatory tax and trade proposals raise prices and reduce the quantity of goods and services available to U.S. businesses and consumers, resulting in lower incomes, reduced employment, and lower economic output. In the context of the ongoing trade war, the rise of digital services taxes, and the global minimum tax, U.S. policymakers should seek to build consensus through multilateral negotiations and the rules-based trade system rather than pursue harmful, tit-for-tat retaliation that threatens to compound the harms to U.S. businesses and consumers.

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