The Effect of Legislated Tax Changes on the Trade Balance: Empirical Evidence for the United States, Germany, and the United Kingdom

Abstract

Using a narrative account of quarterly discretionary changes in tax liabilities from 1974Q4 to 2018Q2 in a VAR setting, we study whether legislative tax changes affect the trade balance in the United States, Germany, and the United Kingdom. As legislative tax changes we consider (i) all changes, (ii) personal income tax changes, (iii) business tax changes, (iv) indirect tax changes in Germany and the UK, (v) spillovers of US tax changes into Germany and the UK, and (vi) asymmetric reactions after tax hikes and cuts. Generally, we find that after a reduction in aggregated tax liabilities, imports and exports in the US and Germany react quite similarly: imports tend to rise; exports do not change much. Consequently-and fostered by growing output-the net-exports-to-GDP ratio decreases. We find no clear net effect in the UK. Instead, UK imports only increase after cuts to indirect taxes. However, employing normal variations of the tax changes as a yardstick, the economic magnitude of the estimated effects on the trade variables is not particularly large.Thus, there remain doubts as to whether tax policy is an effective instrument for addressing trade imbalances.

State-Dependent Effects of Tax Changes in Germany and the United Kingdom

“…We adopt the broad definition of direct taxation proposed byHayo and Mierzwa (2021). However, narrowing the definition of the disaggregated tax shocks to wage tax (Lohnsteuer), assessed income tax (Einkommenssteuer), corporate income tax (Körperschaftssteuer), and local business tax (Gewerbesteuer) does not noticeably change our results.…”

“…Our narrative tax data are taken from Hayo and Mierzwa (2021), who extend the dataset collected by Cloyne (2012) for the UK and from Hayo and Uhl (2014) for Germany. However, here we also consider temporary tax changes.…”

Spillovers from tax shocks to the Euro area

“…Hence, all macro variables are expressed in seasonally adjusted real 2010 local currency. The narratively identified tax shocks come from Hayo and Mierzwa (2021a), who extend the series of Romer and Romer (2009), Cloyne (2012), and Uhl (2013) to the end of 2017. The last exogenous tax shocks in our narrative account were implemented in 2018Q2.…”

“…The last exogenous tax shocks in our narrative account were implemented in 2018Q2. In contrast to Hayo and Mierzwa (2021a), I consider only tax shocks exogenous to the current state of the business cycle and also consider temporary measures. As is standard in the literature, tax shocks are shifted to the next quarter when they are implemented in the second half of a quarter.…”

“…A German tax cut could cause the common exchange rate to appreciate and, hence, crowd out Eurozone countries' exports. On the other hand, tax cuts raise import demand in the United States and Germany (Hayo & Mierzwa, 2021a), which should raise exports and, hence, GDP in the Eurozone.…”