Investment as Scapegoat

December 23, 1963

It was a sad day when the House Ways and Means Committee approved the Administration’s proposed penalty tax on purchases by Americans of foreign securities. Such a tax is shortsighted and ill-conceived in every way. In the long run it will not help, but hurt, our balance of payments. In the long run it will reduce our own foreign-asset holdings. It will seriously damage our international capital market, and the foreign economies dependent on it. It will not increase, but further undermine, international faith in the integrity of the dollar.

Last week I pointed out here a glaring inconsistency in the Treasury’s argument. It holds that foreign-aid handouts have only a negligible adverse effect on our balance of payments, but that private American foreign investments are a serious threat to our balance of payments. The truth is, if anything, the exact opposite. As President Kennedy, in his message to Congress of July 18 last, pointed out: “Our payments deficits . . . have consistently been equaled or exceeded by the growth of our long-term high-yielding foreign assets-assets which have been and will continue to be an increasing source of strength to our balance of payments.”

The immediate adverse effect of foreign investments on our balance of payments is minor. They provide the funds with which foreigners buy our goods. They thereby increase our exports. And future receipts from these investments (in the form of interest, dividends, and return of capital) must benefit the balance of payments in future years.

PROMOTE WORLD GROWTH

But in addition to increasing the asset-strength of the United States, private foreign investment (as contrasted with government giveaway) does most to promote the fastest economic growth in the rest of the world. For private foreign investment goes to the places that promise the safest and biggest returns. This means that such investment goes to the places where property is respected and least liable to seizure, nationalization, prohibitive taxation, or other forms of harassment. It means that such investment goes where it seems likely to earn the highest returns—which means where it will be most productive—which means where it will do most to raise living standards.

The proposed penalty tax on purchases of foreign securities violates basic legal as well as basic economic principles. In its retroactivity it ignores the constitutional prohibition of ex post facto laws. It is discriminatory. Not only does it select for penalty only one form of private expenditure or investment abroad, while exempting others, but it discriminates by name against 22 countries—which happen to be the countries that manage their affairs best and where investment is safest—in the hope of deflecting investment into countries that have so mismanaged their affairs as to frighten off investment (as in South America) or to get themselves a chronic balance-of-payments deficit (as in India).

WHO IS TO BLAME?

What the tax proposal does, in effect, is to say: “You, you private investors, are causing our balance-of-payments deficit.” But the cause of that deficit is clearly the government’s own policies—not merely foreign aid, not merely huge and chronic budget deficits, but arbitrarily holding down interest rates, both short-term and long-term. When the government holds down long-term rates, it drives more American investment abroad and discourages foreign investment here. If the Federal Reserve stopped inflating, and allowed domestic interest rates to be determined by market forces, there would automatically be less American investment abroad and more foreign investment here. But the government prefers to keep this market interference and try to offset its evil results with still another market interference—and so carry us still deeper into a centrally mismanaged economy.

As the late President Kennedy wrote in his letter to David Rockefeller of July 6, 1962: “Private foreign investment . . . should not be subject to restrictions. . . . Government must confine its restrictive influences to its own expenditures.”