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GHEI: Scaring away investors

New IRS regulation will reduce capital available for job creation

- The Washington Times - Friday, May 4, 2012

A lot of money is about to leave the United States. Because of a few rogue bureau crats at the Internal Revenue Service (IRS) acting without congressional authority, American financial institutions can expect to see a massive outflow of foreign capital next year.

Effective Jan. 1, the new regulation will force U.S. banks to report to the IRS any interest payments made to nonresident aliens who happen to be citizens on a list of 80 countries. Until now, Canada was the only nation with which the United States had an agreement requiring this sort of reporting. What this means is that bank-deposit information is now going to be made available to a wide range of regimes - though the Treasury Department assures us Venezuelan dictator Hugo Chavez isn't on a list of recipients for such reports. For now.

The bureaucracy loves this idea and has proposed it several times, including under President Clinton and again, with a very narrow list of participating countries, under President George W. Bush. The rule died in both instances. That it has passed now is bad news for anyone who wants to see America's economy come back to life.

Foreigners inject around $10 trillion into the U.S. economy, as economist Richard Rahn estimated for The Washington Times. This huge pool of capital funds, investment and jobs didn't land in this country by accident. We developed a comparative advantage in financial services over many decades because we did certain things right. We respected the rule of law, enforcing contracts so that stable and deep financial markets could develop. We had adequate regulatory oversight and economic freedom. We crafted laws that created strong financial institutions. A conscious legislative decision was made not to tax the interest income of foreign citizens - that is, nonresident aliens - and to maintain confidentiality.

The Obama administration is now uprooting this carefully crafted system. Hard on the heels of 2010's Dodd-Frank financial-regulation law comes this regulation and the Foreign Act Tax Compliance Act (FACTA), which has turned American citizens trying to open bank accounts overseas into virtual pariahs.

Forcing U.S. banks to report deposits held by foreigners will have an impact far beyond the banking sector. The obvious first result will be that foreign citizens will pull their millions and billions in deposits off our shores, seeking more hospitable venues, including Switzerland, Hong Kong and the Caymans. These billions could have been used to invest in the U.S. economy. Without capital, business cannot expand and jobs cannot be created.

It takes a lot of time to craft a financial sector that is the envy of the world. The trust earned over the course of several decades can be lost in a flash with a foolish regulatory power grab. America's comparative advantage, like any edge based on regulatory regime, is fragile. Even a "natural" comparative advantage, based on resources, cannot be exploited without an institutional framework that respects property rights. That is why so many resource-rich African countries remain poor. Congress must act to prevent this harmful rule from further diminishing America's economic future.

Nita Ghei is a contributing Opinion writer for The Washington Times and author of the paper, "Institutional Arrangements, Property Rights, and the Endogenity of Comparative Advantage" (Univ. of Iowa, 2009).

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