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Border Tax: What You Need to Know

Caroline Freund explains the logic, benefits, costs, and politics of separate proposals advanced by President Trump and Republicans in Congress.
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Unedited transcript

Steve Weisman: Hello, this is Steve Weisman at the Peterson Institute for International Economics. I'm here with Caroline Freund of the Institute and we're going to talk about the border tax that President Trump is talking about. But, there's also a measure for a border tax in Congress that’s more fleshed out.

So, Caroline tell me what is a border tax.

Caroline Freund: A border tax is any tax that you face when goods come into the country. So, what Trump seems to be talking about is a high tax on goods specifically from Mexico or China.

What's in Congress is a little bit different. It's a tax on imports that come in and they’ve actually given a number to that of about 20% and rebate on exports that go out. There will be no tax charged on exports, but imports would face a 20% tax.

What's unclear is whether Trump and Paul Ryan are talking about the same tax.

Steve Weisman: Because Trump said the one in Congress is complicated, why did he say that?

Caroline Freund: Well, it is complicated. The one in Congress is complicated because it hits on both sides. So as I said, it's a tax on imports and it doesn’t apply to exports. Many other countries do this and they do this because they have value added taxes and this is a way to ensure that the tax system is destination base.

So basically, anything you consume in a country is only taxed in that country. If you consume it out, if it's exported, you don’t pay the tax.

Steve Weisman: Let me ask it this way, if there's a product that a consumer buys whether it's a car or an iPhone or a football and it has parts in it that have been imported, is this border tax going to raise the cost for consumers?

Caroline Freund: Yes, it is. So actually, we have a football here it being football season and if you think about this football, if it was produced completely in the US then this is a cash flow tax, it's not a sales tax. So, it would only apply to the revenues, the producer received from making the football less its wages and anything it’s spent on leather and such.

But, if the leather was imported to make the football, it would no longer be able to deduct that. So, depending on how the football was made, companies would face different tax rates. Companies that made entirely domestically would face a lower tax rate. Completely imported footballs would face the full 20%. And footballs that were produced with some intermediate inputs would face a tax somewhere between those two.

Steve Weisman: So, the purpose of this is to lower the trade deficit by discouraging imports.

Caroline Freund: Well, that’s not how the House Republicans see it. They argue that the exchange rate will fully adjust and offset it. So, the tax serves their purposes because with the $500 billion trade deficit will raise a lot of money, will raise about $100 billion a year with this tax and they need that for the tax cut.

Steve Weisman: Why do they need it?

Caroline Freund: Because otherwise the tax cut bringing the tax rate all the way down from 35% to 20%, the corporate tax rate effectively, will reduce revenues quite substantially. This helps to fill that gap.

Steve Weisman: Are there any other advantages that the Republican sponsors see in this border tax?

Caroline Freund: Yes, the other one that is important is it would prevent companies from wanting to shift profits overseas because the tax rate here would be low and there would be no incentive to put profits in a lower tax place. And the border adjustment is a big part of that because of the fact that exports are untaxed.

Steve Weisman: If I hear you right, have a sort of a protectionist effect that the consumers might feel. My question is does this comply with international trade rules overseen by the World Trade Organization?

Caroline Freund: No, it doesn’t. So, with VAT which is what the countries have as I mentioned, domestic producers, foreign producers, everyone faces the same tax in that country. With this tax, because it hits different firms differently depending on whether the product was imported or the intermediates were imported, it would affect different firms and different sectors differently.

So, it would not comply with international rules which only allow this kind of border adjustments on indirect taxes, on sales taxes and VATs.

Steve Weisman: Caroline, thank you very much.

Caroline Freund: Thank you, Steve.