I often hear that pharmaceuticals are one of America’s biggest exports. But that isn’t what is in the actual trade data (see exhibits 7 & 8). American firms (or formerly American firms, if there has been an inversion) may own the intellectual property behind many successful drugs, but the active ingredients themselves are often manufactured abroad. In fact, the (goods) trade deficit in pharmaceuticals now exceeds the surplus in civil aircraft. This trade isn’t obviously driven by differences in labor costs. The biggest sources of pharmaceutical imports, Ireland and Switzerland, aren’t exactly low wage countries. Trade here seems motivated in large part by the ability to use transfer pricing to shift profits to low tax jurisdictions. And the new Tax Cuts and Jobs Act if anything looks to have made those games more not less attractive. The incentive to offshore intellectual property generally remains—the “GILTI” rate on profits shifted to no tax jurisdictions is the lowest rate in the tax code. And the lower tax on intangibles than on tangibles has created an incentive to offshore actual production and jobs as well—the more tangible assets abroad, the higher your deemed tangible income and the lower your tax on your intangible income (the same is true for firms that retain their intellectual property in the United States, as there is a lower tax rate on the export of intangibles than the export of tangibles). To be concrete, a firm with its intellectual property in the Caribbean believes it can reduce its effective tax rate to under 10 percent (a rate somewhat below the global “minimum”). It is too early to say definitively that these incentives drove the increase in the pharmaceutical deficit in 2018. But it doesn’t seem too early to say that there is no evidence that these kind of tax games have gone away after the tax reform.
Brad’s thesis is certainly going to be controversial. As I read what he is saying is that it is not just the GILTI provisions of the 2017 tax cut that led to the increase in the life science trade deficit over the years. Rather it was the weak enforcement of basic transfer pricing rules that allowed Big Pharma to massively evade U.S. corporate taxes and created these perverse incentives. While we were told that the 2017 Republican tax cut for the rich would close the transfer pricing loopholes and perverse incentives they clearly did not. I’m all for scrapping GILTI and FDII for a lot of reasons but these steps alone will not fundamentally change what Brad is suggesting unless we start actually enforcing good old fashion transfer pricing rules. Let’s hope Biden has this in mind.
Kanopy’s blurb:
Capital in the Twenty-First Century
Based on the international bestseller by rock-star economist Thomas Piketty (which sold over three million copies worldwide and landed Piketty on Time’s list of most influential people), this captivating documentary is an eye-opening journey through wealth and power, a film that breaks the popular assumption that the accumulation of capital runs hand in hand with social progress, and shines a new light on today’s growing inequalities. Traveling through time, the film assembles accessible pop-culture references coupled with interviews of some of the world’s most influential experts delivering an insightful and empowering journey through the past and into our future.
The stage for the decrease in drug production in the United States was set during the Clinton presidency, in 1993, when it was decided to end the tax exemption for Puerto Rico in 2006. From 1972 through 2006, drug production in the US increased smoothly and rapidly, especially after 1980. With the end of the Puerto Rican tax exemption in 2006 there was an immediate, sharp decrease in US drug production lasting to 2014 and leveling off after.
From 2006 to 2014, drug production in the US decreased by nearly 30%. The issue was the ending of the Puerto Rican production tax exemption in 2006.
anne:
Puerto Rico was always a poor island. In some places, the people were hostile to Americans. The one person who took us to lunch in his car had the air let loose from one tire causing him to have to change it. Noot Strap did bring jobs to PR and Baxter employed many people in Puerto Rico.
https://fred.stlouisfed.org/graph/?g=t7oM
January 30, 2018
Pharmaceutical and Medicine production, 1972-2018
(Indexed to 1972)
https://fred.stlouisfed.org/graph/?g=t7qS
January 30, 2018
Pharmaceutical and Medicine production, 1980-2018
(Indexed to 1980)
https://fred.stlouisfed.org/graph/?g=t7w8
January 30, 2018
Pharmaceutical and Medicine production, 1992-2018
(Indexed to 1992)
https://fred.stlouisfed.org/graph/?g=t7Cf
January 30, 2018
Pharmaceutical and Medicine production, 2000-2018
(Indexed to 2000)
The Puerto Rican economy was severely harmed by the ending of the drug production tax exemption, even as the prospect of harm was discussed early in the Clinton presidency, but there was no planning for a compensation to the loss of manufacturing activity.
https://fred.stlouisfed.org/graph/?g=tcBc
August 4, 2014
Real per capita Gross Domestic Product for United States, Puerto Rico,
Canada and Mexico, 1970-2019
(Percent change)
https://fred.stlouisfed.org/graph/?g=tcAy
August 4, 2014
Real per capita Gross Domestic Product for United States, Puerto Rico,
Canada and Mexico, 1970-2019
(Indexed to 1970)
https://fred.stlouisfed.org/graph/?g=tcCB
January 30, 2018
Population for Puerto Rico, 2005-2019
(Indexed to 2005)
Between 1970 and 2005, per capita GDP for Puerto Rico increased faster than for the United States, Canada or Mexico. From 2005 through 2019, per capita GDP for Puerto Rico failed to grow even though Puerto Rican population decreased by more than 16%.
Drug companies were only part of the losses. My husband’s employer had a production facility there, but closed it when the tax breaks went away. Just another nail in the coffin of the American supply chain.
From the article:
The tax strategies of American (and other) multinationals increasingly drive all aspects of the data on America’s foreign direct investment.
As the IMF has reported—and a quick glance at the U.S. data confirms (see table 1)—the bulk of foreign direct investment these days touches a tax haven. The correct mental image of U.S. FDI abroad these days is less a GM factory in China and more Apple’s ownership stake in its Irish subsidiary (whose main asset is intellectual property that Apple has shifted to Ireland, not any tangible asset). And the bulk of the profits that U.S. firms report earning abroad these days are technically earned in low tax jurisdiction (check out the data from the IRS for 2016).
—–
It is everything in global trade, mostly driven by tax avoidance, mostly from the USA. Companies move to different states to avoid state taxes, move to different cities to avoid sales taxes. There is no way to stop this under the current circumstances.
I mean, we just discovered this? Or maybe each generation has to rediscover the obvious? What happened to learning this in school?
Then tell the companies no, kill their boards and “replace” them. Adolph Hitler nods. Get it yet Young??? Those people are overrated anti-american scum.