N. Gregory Mankiw

When President George W. Bush's second-term economic team considers further tax reform, the connection between the domestic and foreign operations of multinational corporations and rising foreign direct investment will play an important role in its discussions. N. Gregory Mankiw, chairman of the president's Council of Economic Advisers, joined experts in the global economy to discuss issues of tax policy and global business activity at a December 2 AEI conference.

After giving an overview of positive economic indicators, Mankiw emphasized that continued economic success depends upon reforming the aspects of the current tax code that discourage savings and investment. The Bush administration wants to create a fairer, simpler tax system through reforms that are revenue-neutral and coupled with spending restraints, so as not to exacerbate the budget deficit. Mankiw noted that the simplification of the code could lower compliance costs for businesses and individuals by an estimated $100 billion per year. He argued for shifting the focus of personal taxes from income to consumption in order to encourage greater savings and investment, as opposed to the current federal system that penalizes a person who saves for retirement and is more generous to the person who spends the majority of his income.

Alan Auerbach of the University of California-Berkeley and Lael Brainard of the Brookings Institution examined international taxes and domestic investment. Auerbach argued that capital should be taxed at the same rate regardless of whether it is foreign or domestic. Although Auerbach noted that all corporate taxes tend to discourage investment, he cautioned that no theory thoroughly explains how business activities and taxes interact. Brainard called the U.S. corporate tax system "undesirable" because it "provides an incentive for financial engineering," but she argued that multinational corporations are far more concerned with health care expenses, regulations, and the decline of an American skilled labor force than with corporate taxes.
 
Robert Lipsey of the City University of New York contended that the prospect of coming to the United States to study and to work has not lost its appeal internationally, but that short-term security concerns are currently keeping many of the brightest people in the world from entering. Matthew Slaughter of Dartmouth College, however, found that soon "all net growth in the U.S. labor pool will be from immigrants," as the American labor force at home ages and diversifies.

Mihir A. Desai of Harvard University and AEI's Kevin A. Hassett turned to the effects of overseas activity of U.S. multinational corporations on the scale of their domestic operations. Desai argued that despite the popular perception that whatever multinationals do abroad comes at the expense of domestic activity, econometric analysis he conducted with colleagues shows that growth in foreign operations is not offset by domestic shrinkage, but instead leads to domestic growth. On average, every $10 of growth in a firm's foreign assets is associated with $7 of growth in domestic assets and, moreover, hiring one foreign worker leads to the addition of two domestic workers. Hassett stressed that further analyses are required of the wide spectrum of multinationals to distinguish among those that locate abroad to sell domestically and those that locate abroad to sell globally. AEI's R. Glenn Hubbard added that with multinationals taking 75 percent of their foreign direct investment to OECD countries, their importance "will influence the tax reform debate in potentially radical ways" on both the domestic and international front.