Tax changes proposed by the Congressional House Republican leadership could deal a blow to the Hawaiian economy.
The tax code is needlessly complicated and fixing it is a laudable goal. A plan proposed by House Speaker Paul Ryan (R-WI) and Ways and Means Committee Chair Kevin Brady (R-TX) would cut tax rates and simplify rules, but to make up for lost revenue, the Republican leadership would impose a 20 percent “border adjustment tax” (BAT). As President Donald Trump remarked about the BAT, “it’s really complicated.”
In simple terms here is what it would entail: Exports would now be exempted from corporate income taxes, but unlike the present system, companies could not deduct expenditures on imports when computing their corporate tax liability. The price of imported goods would rise by 20 percent, but the proponents of the plan argue that the value of the US dollar in the foreign exchange market would also rise by 20 percent, rendering the tax change imperceptible to American consumers.
Why does this matter to Hawaii? There are myriad reasons to doubt that everything would even out cleanly in reality. The value of the dollar in the foreign exchange market is affected by many factors and not just trade flows. In other countries where similar tax systems have been introduced, local prices have risen sharply. Industries that use a lot of imported components in production, such as automobiles and electronics, could be particularly hard hit and forced to raise prices to consumers. For these reasons the proposal is opposed by major retailers and numerous industry groups. Some economists argue that these effects would be regressive, disproportionately hitting the poor who rely on cheap imported products. Others believe that the plan would run afoul of US commitments to the World Trade Organization and could even lead to trade retaliation against the United States. There are many grounds for skepticism.
The corporate tax exemption only applies to the export of goods. In Hawaii, services exports, which account for roughly 10 percent of the state economy, dwarf the export of physical goods.
But setting aside these concerns, suppose the proposal worked exactly as its proponents claim. Even in this best case scenario, the Hawaiian economy would be particularly disadvantaged. The reason is that the corporate tax exemption only applies to the export of goods—physical products—consumed outside the United States. Hawaii specializes in services exports, such as tourism, the education of foreign students, architectural services, and health care, that are consumed by foreigners while visiting the islands. These activities would not receive the tax benefit.
From the standpoint of prospective foreign tourists, the cost of visiting Hawaii would rise roughly 20 percent relative to other destinations outside the United States. From the perspective of a foreign student, the cost of tuition at a Hawaiian institution would rise 20 percent relative to a comparable program in, say, Australia. For an Asian property developer, the cost of retaining a Hawaiian architect would rise 20 percent compared to hiring a Canadian.
For most states, services exports are an afterthought. But in Hawaii, services exports, which account for roughly 10 percent of the state economy, dwarf the export of physical goods. And the adverse shock to those service sectors would propagate through the economy, affecting retail, construction, and other sectors not usually associated with international trade. The state would be uniquely impacted by the Ryan-Brady plan.
Tax simplification and rate cutting are commendable objectives. But however well-meaning, the House Republican plan would hurt the Hawaiian economy. The Trump administration has yet to formulate its stance. Let’s hope that it reaches a position more consistent with the interests of Hawaii—and that the state’s congressional delegation helps it do so.