The Corner

The VAT and Exports

Harvard University’s Greg Mankiw points to this recent CNBC interview with Bill Clinton, in which the former president endorses the adoption of VAT, because, among other reasons, he believes a VAT would improve our trade balance; importers would pay it while exporters would get rebates.

As Mankiw notes, while that might sound good, it is incorrect. For a good explanation of why it isn’t true, read this American Magazine  piece by Alan Viard of the American Enterprise Institute. His argument is mainly that it is a mistake to hope that a VAT will have an effect on the trade balance. For one thing, there is no reason (except backward protectionism) to favor exports over imports; also, a VAT is likely to backfire, since it would cause the dollar to appreciate, which would cancel out the pro-export effect.

Some of Viard’s arguments:

Yet, such an argument ignores an essential truth about imports and exports: over the long term, exports and imports must be equal. We can think of a country like a household. Purchases are paid for from the proceeds of sales, and sales are made for the purpose of additional purchases. In the long run, purchases and sales must be equal. A nation’s trade policy works the same way. Over a nation’s history, the value of exports in current dollars must equal the value of imports in present value. Any attempt to permanently increase exports and decrease imports is futile.

His piece is here. Also, Ramesh had a good VAT piece back in December, which can be found here. His conclusion:

Republicans should not react to Democratic rule with a tit-for-tat strategy; but they should drive a smart bargain. If the Democrats want Republicans to support any sort of tax increase, it’s up to them to propose a deal that includes serious spending cuts: an increased retirement age, or a change in Social Security’s benefits formula. With nothing of the sort on the table, for conservatives to talk up a VAT as the least-worst tax increase would be to negotiate with themselves. That’s never a good idea.


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