Tax-Havens: Also A Force For Good

Far from being solely amoral, piratical facilitators of crime, kleptocracy and evasion, so-called tax-havens in fact also play a valuable role in promoting economic efficiency and curbing State-predation  

Tax havens Panama CitySo-called tax-havens have a bad reputation. In public and political minds, influenced almost wholly by the clamour of either wilfully-ignorant or Leftist-populist media and political hacks, they’re all, without exception, places solely where unsavoury associates of autocrats and plutocrats soak up the sun in between furtively stashing suitcase-loads of ill-gotten gains in anonymous numbered accounts.

As we’ve recently seen all too starkly. Because one of the main features to become glaringly obvious in the Panama Papers leaks, and in the domestic political furore in the UK which has followed it, is a self-evidently widespread inability (or possibly unwillingness) of the politico-media class and commentariat to differentiate the few truly-nefarious tax-havens from the more numerous well-run and properly-regulated offshore financial centres (OFCs) – they are decidedly not the same thing: or to distinguish illegal loot-hiding, money-laundering and tax-evasion, by corrupt despots, criminals and others, from the entirely legal use of OFCs in perfectly legitimate investment and tax-avoidance.

As so often, reality is both more complex, and more nuanced, than media-driven populist perception.

For a start, on the basic issue of definitions. The OECD lists four criteria which a territory or jurisdiction must fulfil in order to qualify as a tax-haven, as opposed to an OFC:

  1. Imposing no, or only nominal, taxes, even domestically
  2. Lack of transparency
  3. Laws and practices that discourage or even prevent automatic exchange of [tax-purposes] information with other governments on the beneficiaries of its tax regime
  4. No stipulation that the activity domiciled in its jurisdiction be substantive

On these criteria, there are relatively few true tax-havens: even the OECD lists only four, and, on its Automatic Exchange Of Information criteria, a mere two.

Tax havens Waterfront Grand CaymanMoreover, and more importantly, the vast majority of the Crown Dependency and British Overseas Territory OFCs, which Labour leader Jeremy Corbyn incorrectly labelled as tax-havens and proposed arbitrarily supplanting their democratically-elected governments to place them under direct rule from Westminster, don’t even fall into the “tax-havens” category at all.

So when no-one seriously opposes measures to prevent, detect and punish both those who undertake criminal tax-evasion, money-laundering and loot-concealment and the few residual disreputable genuine tax-havens which do facilitate them, the real objections by governments, commentators and so-called social-justice campaigners to the legitimate use of OFCs or any low-tax jurisdictions must originate from elsewhere.

Those objections arise from two principal, and unsurprising, sources. Firstly, the misunderstanding, derived from popular fallacies, of the economic good that low-tax jurisdictions promote: and secondly, the competitive threat they represent to the otherwise-unconstrained power of high-taxing, high-spending states to extract taxes from their economies and populations almost ad infinitum.

To address one of the most popular fallacies – that money deposited in OFCs or low-tax jurisdictions is somehow irretrievably “lost” to the global economy. This is just arrant nonsense.

First, it wrongly assumes there is a fixed amount of global capital whose geographical distribution creates a zero-sum game, where any partial deployment of it to Location A must automatically reduce that available in Locations B-Z. In fact global capital is both dynamic, and fungible, and continues being created in those parts of the so-called “losing” mainstream onshore economies that aren’t sensitive to geographically-differing tax rates.

Tax Havens BermudaSecond, it assumes that all capital deployed to low-tax jurisdictions stays there, static. This isn’t necessarily the case – small islands generally don’t have much potential for domestic infrastructure investment or large-scale economic activity – and it’s especially not the case in a period of low or even negative real interest rates. Although the total of assets located in an OFC may change only slowly, that ignores the stock-vs-flow issue, where many of its components parts may be being directed into other forms of investment in other locations, and subsequently repatriated, on a regular basis.

Inasmuch, too, as the location of capital and/or assets in the low-tax jurisdiction encourages their investment to generate a return not achievable if based in a higher-tax jurisdiction, the OFC is actually promoting more FDI in the investment location. In this way, the availability of low-tax OFCs makes them conducive to an increase in overall international investment and in global capital, not its depletion. They are not “poaching more than their fair share” of international capital, but acting as a conduit for its more productive and optimal investment back into mainstream onshore economies.

Third, international systems of taxation don’t always cope well with avoiding the dangers of double-taxation. If you’re an investor (and remember, you may well be, even via an ISA or your employer’s pension scheme) in a fund set up in a country that levies a withholding tax on redemption payouts, but those redemption payouts aren’t taxable domestically in your own country, then recovering the tax that’s been wrongly withheld from you is going to be difficult. By providing a tax-neutral environment, low-tax OFCs perform a valuable role in making sure that your investment, even an indirect one, isn’t taxed twice. That benefits you.

Tax havens Mossack Fonseca PanamaFourth, the fallacy assumes the “losing” country is automatically forced to raise its own domestic tax-rates to replace the tax-revenue “lost” when assets are relocated to a low-tax OFC. Countries, however, don’t operate in isolation from their international environment: lower tax-rates in other jurisdictions act as a restraint on mainstream onshore governments’ own tax-rate policies. Both firms and workers in those economies therefore benefit in purely micro-economic terms from overseas low-tax OFCs, in the form of lower taxes domestically than might be levied otherwise.

Next, low-tax OFCs also fulfil a vital function in providing a safe harbour for wealth legitimately created and held, against the tendency of inherently corrupt, dictatorial  & kleptocratic regimes to predate on it.

Depending on the definitions chosen, there are approximately 170-190 countries in the world: but only a minority are full democracies where the government is subject to the rule of law and scrutiny by a free Press. The Economist Intelligence Unit’s Democracy Index 2014 in fact lists a mere 24 as full democracies and a further 52 as flawed, out of a total of the 167 rated, leaving over 90 regimes described as either hybrid or (the majority) authoritarian. Perhaps not surprisingly, there’s a correlation between the latter categories and the Transparency International Corruptions Index 2015’s assessment of the most corrupt countries.

Most & Least Corrupt Countries 2014

These are countries where even if, against all the odds, an honest entrepreneur, investor or businessman manages legitimately to amass capital and assets, they are liable to be arbitrarily seized at any time by the regime, either unashamedly or via a quasi-criminal or complicit judiciary, and confiscated. By existing at all, low-tax OFCs furnish a safe refuge for such assets. In this role, rather than encouraging or facilitating corruption, they are in fact operating so as to thwart it.

Benefits of Tax CompetitionLastly, low-tax OFCs form a valuable macro-economic brake on the overall ability of excess-spending, excess-taxing governments to otherwise levy punitively-high taxes without restraint. In the absence of the tax-rate competition provided by lower-taxing jurisdictions, it’s unlikely that governments, viscerally-disinclined on both ideological and electoral grounds to curtail State intervention and largesse, would not take the opportunity to impose economically-damaging higher taxes generally. 

It’s primarily for this reason that the member-states of supranational political unions like the EU are so enthused by the prospect of cross-border harmonisation of taxes, or centralised democracy-proof pan-European fiscal control, as the corollary to curbing the legitimate activities of low-tax offshore financial centres. 

The vocal but unthinking critics of low-tax OFCs, in their haste to condemn what they see as the obvious, miss a point – that they are also a force for good. The existence, and legitimate activities, of low-tax OFCs both promote greater economic, capital-allocation and investment efficiency, and indirectly benefit employers, employees and consumers in the mainstream onshore economies by protecting them from excess State predation.     

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