In April 1961, President Kennedy presented to Congress a message relative to our federal tax system proposing, among other things, the taxing of income earned on American investments in certain foreign countries before such income is brought into the United States. It was further proposed to tax earnings on foreign investments to assure that the tax paid to foreign countries plus the U. S. tax would bring the total up to the 52 per cent corporate tax rate applicable to earnings of companies operating within the United States. "These proposals," it was argued, "along with more detailed and technical changes needed to improve the taxation of foreign income, are expected to reduce substantially our balance-of-payments deficit and to increase revenues by at least $250 million per year."
The "problem" for which the President’s message proposes a "solution," is that at least some foreign countries have less burdensome taxes on industrial earnings than has the government of the United States. To the extent that this might attract investment capital out of the United States, the tax gatherers in Washington are inclined to look upon it as "unfair competition," about which something ought to be done.
The United States government, of course, is not authorized to establish and enforce the tax rates of other countries in order to raise them up to the U. S. level. But the new proposals would tend to produce that result.
If another government had offered low tax rates to afford opportunity for profitable investment, that government would scarcely welcome a move by the United States to siphon off up to 52 per cent of any profits produced by such investment—an act of interference in the internal affairs of their country. Such action, to nullify foreign tax incentives, undoubtedly would dampen the enthusiasm of many American enterprisers who might otherwise look abroad for opportunities. And certainly, few foreign tax gatherers would be so foolish as to let the U. S. government skim off taxes they might just as well levy and retain themselves; so their tax rates on earnings by American investors would almost surely and automatically be raised to match the 52 per cent rate proposed by the United States.
Obviously, there is no foundation for any hope that these foreign tax proposals of the President would bring additional revenue to Washington. They would simply shut out certain opportunities for the development of the economies of foreign countries through free enterprise, without opening up to private investors any new possibilities for profit either at home or abroad. This, in turn, would afford new excuses for taxing United States industries and citizens to support the government-to-government programs of foreign aid that have done so much to stimulate government ownership and socialism instead of private enterprise in other countries.
Investment for Profit
Consider next the effect the President’s tax proposals might have on the U. S. balance-of-payments deficit. It is doubtless true that heavier taxation of earnings of American investors in foreign countries would tend to discourage an outflow of capital. But private investors rarely invest abroad, or anywhere else, without the expectation of ultimately getting back more than they put out. And the history of foreign investments affords abundant proof of the favorable effect of such action on the American balance-of-payments.
As Professor Sennholz explained in his "Monetary Crossroads" in the December 1960 issue of THE FREEMAN, the build-up of foreign balances and the drain on U. S. gold stocks in recent years is the inevitable consequence of deficit spending and credit expansion by the American welfare state. Inflationary practices in the United States have finally outrun the inflationary practices of many other countries, until this country no longer affords the one best market in which to buy goods or services. This is why foreigners prefer our gold to our goods and why American savers turn increasingly to investment opportunities outside their own country. It is precisely the same reason why East Germans and others try to escape the welfare state beyond the Iron Curtain to comparative freedom in the West.
What must the world think, then, if the government of the United States has to erect a barrier to keep American capitalists and investors from free enterprise opportunities abroad? Is any further proof needed of the bankruptcy of the New Deal-New Frontier philosophy of taxing individuals in order that the government may spend more?
The road to the welfare state is paved with the best of intentions. If prices of farm products seem depressed and farm incomes decline so that other employment opportunities appear more attractive than farming, grant price supports and other subsidies to the farmers! If American manufacturers and processors are faced with stiff competition from more efficient foreign operators, grant higher tariff protection, erect more stringent import quotas, and place other barriers against foreign goods and services! If labor organizers have priced the services of their members higher than a free market can bear, grant unemployment benefits and other relief measures to the hapless victims! If changing circumstances threaten to make a ghost town of a formerly prosperous community, try to build it back and maintain the status quo through urban renewal subsidies! If individuals fail to make provision for rainy days and later years of reduced productivity, give them social security and old age assistance and "free" medical care! If unwed mothers and roving fathers leave dependent children, subsidize them! If parents fail to provide the education their children ought to have, give state and federal aid to build schools and to hire administrators and teachers! If housing costs rise, impose rent controls and provide public housing!
The Price We Pay
The often neglected aspect of the good intentions of the welfare state is the cost of all this subsidy and so-called security. Someone has to pay, and it requires an ever-expanding police force just to collect the taxes. The creative and productive members of society are the ones from whom the revenues of government have to be drawn; there is no other source of goods and services. But to recklessly tax the fruits of a person’s labor is a disservice to that person. To take away the earnings from a business is to leave it unprofitable and unattractive and to set it up for another of the failures that the government will be importuned to bail out. The higher the rate of taxation upon the most productive, the less their incentive to keep on producing at an extraordinary pace. This is why growth becomes such an aggravating problem in the welfare state, and why it appears that government spending is the only way to achieve future growth and productivity. And this is why a welfare government can’t stand to see any potential source of revenue leave the country for more attractive opportunities abroad.
A few domestic examples might help explain how tax burdens affect the movement of capital. Rent control, for instance, amounts to a form of taxation against owners of rental housing. The force of government is used to withhold from landlords rental income they might otherwise expect. It is fairly well understood (except perhaps in
Or, consider the crowded and high-tax areas "downtown" in some of the larger cities. Capital rebels—heads for the suburbs and open spaces—not for space so much as for tax relief. Then comes the anguished cry to stop that flight of capital and divert it to urban renewal—via further taxation.
Sometimes a state government, in its generosity with taxpayers’ money, offers extra welfare benefits and other attractions and runs the tax rate up until businesses pull out and capital flees to other states for investment opportunity. This leaves a "depressed area" which then appeals for federal aid.
So it goes, whether domestically or internationally: tax business earnings severely, and capital will try to escape. Interfere with production and exchange, disrupt a market sufficiently, and the result will be balance-of-payments problems. Condone a closed shop, or a closed society in any other respect, and each successive step leads on to some further restraint of trade and regulation of people and their lives. The more "advanced" the welfare state, the less freedom can it tolerate among its own citizens, and finally among outsiders. This is why our federal government wants to foreclose on more attractive profit opportunities in foreign countries. It’s also why Mr. Khrushchev would like to bury freedom wherever he finds it in the world.
If the people of the United States want to correct international exchange problems and balance-of-payments problems, why not try freedom? It attracts capital. And it begins at home.