Bring It On Home

Executive Summary

Since the election of Donald Trump as president in November, there has been a significant amount of uncertainty around the nature of potential fiscal policy changes under his administration. Corporate tax reform is a policy change that appears to be among the new administration’s top priorities, which raises the probability that it actually will be enacted. Included in the administration’s tax reform proposals is legislation that would allow U.S. multinational enterprises (MNEs) to repatriate their foreign profits at a reduced tax rate. In this report, we aim to assess the likely impact that such legislation may have on the value of the U.S. dollar.

To gauge the likely impact of foreign profit repatriation on the value of the dollar, we first analyze the greenback’s behavior in the aftermath of the Homeland Investment Act (HIA), legislation passed in the early 2000s that provided U.S. MNEs with a temporary tax “holiday” during which they could repatriate foreign profits at a lower tax rate. Using the behavior of U.S. firms under the HIA as a guide, we conclude that the currency impact of a repatriation holiday today could be of similar or perhaps greater significance than the effect of flows under the HIA in 2005. The absolute magnitude of any such support is difficult to quantify. However, to the extent that repatriation would be an overall supportive factor, however modest, for the U.S. dollar, it would only reinforce our core expectation of broad U.S. dollar strength in the coming quarters.

Examining USD Behavior After the Homeland Investment Act

In 2004, Congress passed legislation known as the Homeland Investment Act (HIA), which among other measures included a temporary period during which U.S. MNEs with earnings retained abroad could repatriate those earnings at a tax rate well below the prevailing corporate tax rate during that time. Data on the repatriation of profits held abroad of U.S. MNEs show a sharp increase during 2005, when the HIA first went into effect, suggesting corporations used this period as an opportunity to repatriate a sizeable portion of their profits held abroad. During the few years immediately prior to the passage of the HIA, these repatriation flows were running at a rate of roughly $20 billion per quarter. However, these flows increased sharply in 2005 when the tax holiday went into effect, rising to nearly $150 billion in Q4 2005 before subsiding toward more “normal” levels in subsequent quarters (Figure 1).

As Figure 1 shows, the U.S. dollar strengthened on a trade-weighted basis throughout 2005, interrupting a multi-year downtrend that resumed in subsequent years. At first glance, and taking the relationship at face value, this would suggest the repatriation flows may have played a role in supporting the value of the trade-weighted dollar during this period. However, it is also important to consider other factors that may have been influencing the greenback at that time. In particular, the Federal Reserve was raising interest rates as part of a multi-year tightening cycle, a factor which likely had a more significant impact on currency markets. Indeed, as shown in Figure 2, the yield on the 2-year U.S. government bond was rising relative to yields on comparable bonds in foreign economies during that period, which probably was more of an impetus for dollar strength in 2005.

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