Foreign Relations of the United States, 1961–1963, Volume IX, Foreign Economic Policy

79. Circular Telegram From the Department of State to Certain Diplomatic Missions⁰

Washington, July 26, 1963, 10:08 p.m.

176. Paris for Embassy and USRO; Brussels for Embassy and BUSEC. Following letter handed Takeuchi by Secretary Dillon this afternoon.¹ Begin verbatim text:

Dear Mr. Minister:

I have been deeply concerned by your letter of July 24, 1963,² indicating that the proposed U.S. interest equalization tax is expected to deal a severe blow to the Japanese economy and requesting consideration of an exemption for Japan.

May I say, first of all, that I regret having been unable to consult with you about this measure before the public announcement was made but I am sure you will appreciate that an action of this type, like a budgetary proposal, which will have major impact on securities markets, cannot be discussed in advance even with the closest of friends. In acting to raise the cost to foreigners of long-term borrowing in the U.S. we were following the advice of our colleagues in the OECD—which will soon include Japan—but the specific technique was of our own development. This particular proposal was not discussed in advance of its announcement with any other government and indeed, the knowledge of the proposal was limited to a very few individuals within my own government. It could not have been otherwise.

I am pleased that it has been possible for your representatives to discuss in detail with Under Secretary Roosa this week the probable effect of the proposed tax on Japan. It has been most helpful to have these consulations before we complete the drafting of the actual legislation which will be proposed to the Congress. In this way we are able to give full consideration to the views of the Government of Japan.

The President would not have proposed the introduction of an interest equalization tax had it not become clear that the need for action to reduce the outflow of long-term capital from the U.S. was urgent. The initiation of direct capital controls would be contrary to our basic precept of free markets and we could not take this route. A substantial increase in our whole long-term interest rate structure, if such an increase could practicably have been effected, would have thrown our economy into reverse and damaged the economy of every free nation as well.

In moving to reduce the outflow of capital we fully realized that our action would have a significant impact on our friends abroad, but the U.S. cannot eliminate its balance-of-payments deficit unless some of the surpluses of our friends are also affected. I trust and am confident that the leading industrial nations of the world including Japan will understand the necessity for the action taken. I have already received assurances from the leading Western European powers that the steps taken last week including the tax proposal to strengthen the position of the dollar are both understood and supported. They are prepared to make adjustments just as we are having to make adjustments.

In recent years the general pattern of U.S.-Japanese economic relationships has been such that Japan has had large net dollar earnings from its trade and service transactions with the U.S., taken together, and has used these dollars as well as the very large volume of dollars borrowed from the U.S., short-term and long-term, to meet its deficits with other areas of the world and to build its foreign exchange reserves. This proc-ess, so necessary to Japan’s progress and development, has now helped to establish Japan in a position of strength. This new situation warrants, as I am sure you will agree, increasing reliance of Japan on other sources of capital as well.

We do not expect that our interest equalization tax will prevent Japanese borrowing in our markets. Because of the wide difference between the Japanese interest rate structure and the interest rates which Japan pays on its borrowings in the United States, some part of the borrowings previously contemplated by Japanese firms or the Japanese government should still be practicable. Our markets remain completely open and free. The only difference is an additional element of borrowing cost that will deter some borrowers, but not all. This is why we feel certain that any urgent Japanese needs can continue to be met.

The unusual exemption being considered for Canada should be understood in these same terms. In effect, the Canadians, agreeing with us that the volume of their borrowing here must be restrained, have undertaken to bring about any changes in their own interest rate structure needed to reduce the differentials between interest rates in their markets and ours, and thereby deter Canadian borrowing here. The exemption we are recommending for Canada relates only to new issues of Canadian securities, not to the purchase by Americans of outstanding securities—the latter will in any event remain subject to tax. This unusual exemption is practicable only because of the unusually close interrelationships between the Canadian capital markets and our own. The significant result is that Canadian borrowing here will be substantially reduced to the approximate levels characteristic of earlier years.

I am sure you will agree with me, regrettably, that the United States must curtail the overall amounts borrowed in the long-term capital markets here, at least for a time, if we are to restore equilibrium in our payments position. It is because that restoration is essential for the stability of the international monetary system that we have been forced to introduce the proposed tax. Its effect will also be to discourage as well many of the European borrowers who, at the time of the President’s announcement, were planning a substantial volume of additional financing in the United States. But we will not be required to choose among countries nor among borrowers. The tax method will assert its effects through the market process, with an increase in the comparative cost of borrowing here acting to reduce the amount that will be borrowed.

My feeling, Mr. Minister, is that we must now keep a close watch on developments. We will look forward to further discussions with your representatives here on a continuing basis. I am particularly looking forward to an opportunity of reviewing the entire situation with you when you come to Washington at the time of the annual meeting of the International Bank and Fund in September. No doubt we will have further occasion to consult on the special economic problems in our own balance of payments relationships at the time of the Joint Japan-United States Cabinet Committee meeting in Tokyo in November. I suggest we plan on that basis.

Sincerely yours, Douglas Dillon.

Rusk

0. Source: Department of State, Central Files,FN 12 US. Limited Official Use. Drafted by Widman (Treasury/OIN), cleared in substance by Goldstein, and approved by Monti. Sent to Tokyo; repeated to Bern, Bonn, Brussels, Canberra, The Hague, London, Ottawa, Paris, Rome, and Zurich; and pouched to Copenhagen, Luxembourg, Madrid, Oslo, Stockholm, and Vienna.
1. Circular telegram 179, July 27, reported that when Ambassador Takeuchi called on Secretary Dillon on July 26 to receive this letter, Dillon also showed him a press release that the United States intended to issue over the weekend that would make clear that it would grant no exemption from the interest equalization tax to Japan. Takeuchi became “quite disturbed” and “objected to specific mention of Japan in press statement and indicated GOJ would continue to press for exemption.” Dillon agreed not to issue this statement but sought to make clear to him that “some action would be required prior to reopening of markets to halt damaging rumors that exemption would be extended to Japan.” (Ibid.)
2. Not found.