Facts and Logic v. Senator McCain's Gut

November 10th, 2011

John McCain


This entire blog post is devoted to three sentences that came out of Senator John McCain’s mouth on Tuesday. “A whole blog post for three sentences?” You might ask. Well, yes. Those sentences were just that shocking. But before I get down to exactly what Mr. McCain said here’s a little background.

In 2004 Congress passed the Homeland Investment Act, which provided a one-time tax holiday for the U.S. multinationals to repatriate foreign earnings. Normally, when companies bring back profits that are earned abroad, they are taxed at the standard 35% corporate tax rate. The Act allowed those companies to bring back their profits—one time only—at a 5% rate. The legislation even specified that the funds should be “earmarked for activities like hiring workers or conducting research” to prevent the companies from using the money for executive compensation or buying back stock.” Proponents argued the funds would generate jobs and other economic activity as companies took advantage of the tax break and brought dollars back to American soil.

It didn’t work.

The Act had exactly the effect lawmakers sought to prevent—the additional assets went to shareholders and stocks, not jobs and research. What proponents of the bill forgot is that money is fungible (or substitutable). To satisfy the requirements of the bill, companies used the money they were bringing back for investments or jobs that they would have created anyway. They then used their other funds to increase shareholder wealth. According to a paper  published by the National Bureau of Economic Research “a $1 increase in repatriations” from the Homeland Investment Act “was associated with an increase of almost $1 in payouts to shareholders.” Moreover according to a recently released survey “the 15 companies that repatriated the most after the 2004 tax break…cut a net 20,931 jobs between 2004 and 2007 and slightly decreased the pace of their spending on research and development.”

Second, in the long run, the Act pushed even more money overseas. The Act set an expectation among corporations that another such repatriation holiday would happen again in the future. Rather than discouraging firms from holding profits overseas, it pushed firms to stockpile yet more reserves, in anticipation of another holiday. According to the aforementioned survey, “the 10 companies that repatriated the most money after the 2004 tax break have stashed increasing funds offshore every year since the 2004 tax break.” Research by Thomas J. Brennan, a professor at Northwestern University School of Law, shows that companies rationally concluded that “if they were granted one special one-time tax break, they might very well be granted another. That gave them the incentive to attribute even more of their profits to foreign operations, like a shopper waiting for an end-of-season sale.”

Which brings me to McCain. The Senator from Arizona has decided to give those companies just the sale they’ve been waiting for. Along with Democratic Senator Kay Hagan, McCain introduced yet another repatriation bill last month. This time, major corporations would be allowed to bring foreign profits home at a tax rate of 5.25 percent, if they boost hiring. Sound familiar?

In defense of this scheme at the Reuters Washington Summit McCain said: “If you brought $1.5 trillion back to the United States of America, it’s bound to have some positive effect somewhere. I don’t see how it would not. Even if they buy more yachts and … corporate jets and all that, it’s bound to have some effect.”

Leaving the “corporate jets and all that” aside (it’s difficult for me, yes, but I’m trying not to take any easy shots here), my favorite gem from McCain’s little rant is the tax holiday is “bound to have some effect.” Bound. Well, Mr. McCain. We could go with your gut, which tells us what the Act is “bound” to do. Or we could go with the facts. And while I’m sure Stephan Colbert would be on your side, I’d like to stick with the data.

Here they are. One, Congressional tax researchers have found this policy will eventually cost taxpayers $78.7 billion over a decade in lost revenues. Two, by granting corporations yet another tax holiday we set a pattern, which will push even more revenues overseas. Three, U.S. firms are already sitting on close to $2 trillion in cash; the problem is a lack of demand, not a lack of liquidity. Four, the tax break would create an unfair advantage for a narrow slice of U.S. corporations, many of whom have broken the rules in the first place.

But how can facts like those possibly compete when you’ve got yachts, jets, and a big dose of intuition on your side? After all it’s bound to have some positive effect somewhere. How could it not?

Image license: Some rights reserved by Travlr

Written by Ann Hollingshead

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