Hutchins Roundup: Tax incentives for investment, local energy costs, and more

Sage Belz and
Sage Belz Former Research Analyst - Hutchins Center on Fiscal & Monetary Policy, The Brookings Institution
Louise Sheiner

February 28, 2019

Studies in this week’s Hutchins Roundup find that foreign firms are responding to the 2017 tax law, consumers consider local energy costs when shopping for appliances, and more.

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Foreign firms plan to invest more in the United States following the 2017 tax law

The 2017 Tax Cut and Jobs Act lowered the corporate tax rate and removed tax penalties for bringing corporate profits earned abroad back into the United States. While there is much debate about how the law will affect the behavior of U.S. multinationals, little is known about how it will affect foreign firms that do business in the U.S. In a survey of German firms, Dorine Boumans and coauthors of the Ifo Institute find that 17 percent of German firms with large U.S. operations say they will have smaller tax burdens because of the new law; among these, about 15 percent plan to increase U.S. based investment. In addition, about one-third of all German firms expecting a lower tax bill  plan to increase investment in the U.S.  In many cases, firms say the additional investment represents moving investment from Germany to the U.S., but in some it reflects business expansion. The findings imply that the tax law creates strong incentives to increase activity in the U.S., particularly for large firms and manufacturers.

Consumers respond to local electricity prices when shopping for appliances

Many economists and policymakers believe firms will not provide consumers with the information they need to choose energy-efficient products, and that national energy standards like the Energy Star Label are needed. Using transaction level data from a major appliance retailer, Sébastien Houde of ETH Zurich and Erica Myers and University of Illinois at Urbana-Champaign challenge this notion. They show that demand for more energy-efficient refrigerators increases when local electricity prices go up, implying that the consumers do take energy costs into account when deciding among appliances. The authors find that consumers are indifferent between saving $1 on future electricity costs and spending 82 cents more on the purchase price of the refrigerator, meaning they do a good job incorporating future energy costs into their product decision, regardless of whether the product meets a national energy standard.

Collapse of AIG’s securities lending damaged corporate bond markets

In the securities lending market, financial institutions with large portfolios of securities (like insurance companies or pension funds) can lend them to hedge funds and other investors who want to short-sell them. Because securities lending helps broker-dealers connect buyers and sellers in bond markets, it may make bond markets more liquid and ultimately reduce borrowing costs for corporations. Nathan Foley-Fisher, Stefan Gissler, and Stéphane Verani of the Federal Reserve Board use the 2008 collapse of American International Group Inc. (AIG), one of the largest securities lenders, to study the relationship between securities lending and efficiency. They find that the end of AIG’s securities lending program forced broker-dealers to reduce trading in the markets for the kinds of bonds held by AIG and raised the costs of trading those bonds by 20 percent. AIG’s collapse alone caused a significant reduction in liquidity in some corporate bond markets, they say, but the findings also suggest that disruptions in securities lending more generally can hurt the economy.

Chart of the week: Yields on long-term government bonds are at historically low levels across advanced economies

Yields on 10-year government bonds in advanced economies

Quote of the week:

“The idea that deficits don’t matter for countries that can borrow in their own currency I think is just wrong. I think U.S. debt is fairly high at a level of GDP and much more importantly than that it’s growing faster than GDP, fairly significantly faster. We are not even close to primary balance—which means that the deficit before interest payments—so we’re going to have to either spend less or raise more revenue. To the extent people are talking about using the Fed […] our role is not provide support for particular policies. It is to […] to try to achieve maximum employment and stable prices. […] I think decisions about spending and controlling spending and paying for it are really for you,” says Jerome Powell, chairman of the Federal Reserve.

Are you a researcher in finance, economics, or fiscal policy? We are seeking proposals to present at our annual Municipal Finance Conference on July 15-16, 2019, which aims to bring together academics, practitioners, and state and local government officials to discuss recent research on municipal finance and economic and fiscal issues affecting state and local governments.