Two things the new administration may get right

The GOP’s corporate tax reform proposal. Republicans have proposed replacing the corporate income tax with a destination-based cash flow tax (DBCTF). This is an idea that’s received support across the partisan aisle. Economists generally object to the corporate income tax because corporations ultimately don’t may much of the tax–the real burden of the tax generally falls on workers, consumers, and owners of stock. In addition, the corporate income tax represents a falling share of government revenue and an increasingly inefficient means of revenue generation. The DBCTF proposed by the GOP would significantly reduce the corporate income tax from 35 to 20% and modify several common deductions. These are quite significant: the elimination of depreciation means that companies can write off an investment in a single year rather than pay tax on a depreciated basis every year. This eliminates a tremendous disincentive to capital investments by essentially making them tax free. The elimination of the interest deduction eliminates the distortionary treatment of debt and equity, but some worry the elimination would impose a serious burden on the financial industry given that most of that industry’s cash flow comes from borrowing to lend.

A “destination-based” tax is good because it taxes corporations based on where they spend money, not where they produce goods. This eliminates US companies’ incentive to move profit-making activities off-shore to avoid high US rates. Such a tax may appear to subsidize exporters over importers, since importers will bear taxes on their purchases while exporters will not bear any tax on their overseas sales. While this might have a nominal effect, the real effect would be offset by changes in the exchange rate. A tax on imports and a subsidy to exports both lead to dollar appreciation–there are fewer dollars out there to buy imported goods so they’re worth more, and foreign buyers bid up the price of dollars to buy exported goods. The net appreciation of the dollar would mean no change in the US trade balance. One possibly distortionary effect, however, would be that dollar appreciation would reduce the value of foreign-denominated assets held by US citizens overseas. It’s likely that financial interests will object to this proposal as a result.

The reduction in the statutory tax rates from 35% to 20% would also put the US below the OECD statutory average of 24.7%. However, the effective tax rate faced by companies would depend on the details of the final bill.

Another prospect that excites me is the prospect of FDA reform. If you think that improved health is one of the most, maybe the most important improvement in well-being we’ve had over the last 200 years, reforming the process by which we develop new pharmaceuticals is really important. The new FDA commissioner could do important things like implement reciprocal recognition of drugs and devices with other licensing boards in advanced economies. Another policy change would eliminate the application procedure where companies have to apply to the FDA to start producing a generic drug, which is the regulatory barrier that makes it possible for entrepreneurs to implement monopoly pricing on generic drugs.




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