High income economies have tended to follow irresponsible fiscal policies over an extended period of time. While we might quibble over whether the better approach to deficits is to spend less or tax more, or indeed some combination of the two, governments have been trying to access new sources of revenue.
At the November 2014 G20 meeting the Australian Treasurer Joe Hockey had plenty to say about taxation:
“At the beginning of the year we set out to restore integrity and resilience to our tax bases, and give our citizens the confidence that everyone is paying their fair share of tax. Now I can say that we will bring international tax rules into the 21st century and ensure the rules keep pace with changing business models.
We have reached consensus on all of the 2014 OECD’s Base Erosion and Profit Shifting Action Plan deliverables, and this keeps the action plan on track for completion in 2015.
Our effort has continued right up to this Summit, and I welcome the recent proposal to amend certain intellectual property regimes or ‘patent boxes’ to ensure that they are not inappropriately used for tax avoidance. This proposal continues our work on harmful tax practices and I commend it to other G20 and OECD members for their consideration.”
Let’s ignore, for argument sake, the failure to distinguish between tax avoidance and tax evasion. Rather I want to focus on the notion of so-called “harmful tax practices”’.
The OECD has been campaigning on “harmful tax practices” since the late 1990s. The OECD had been commissioned by member states to “develop measures to counter the distorting effects of harmful tax competition on investment and financing decisions and the consequences for national tax bases”. The report itself was a somewhat wordy affair that actually failed to define what ‘harmful tax practices’ constitute. Instead there was a vague reference to spillovers: “If the spillover effects of particular tax practices are so substantial that they are concluded to be poaching other countries tax bases, such practices would be doubtlessly labelled ‘harmful tax competition’.”
The harm of such practices is defined by its consequences – apparently tax competition affects business location decisions, erodes tax bases, undermines tax neutrality, and social acceptance of taxation. Most damning of all, however, is that the OECD was unable to produce any actual evidence of these dire consequences, arguing instead: “A regime can be harmful even where it is difficult to quantify the adverse economic impact it poses”.
The dog had eaten their homework. As I have written elsewhere in the case of the UK and US and in the case of Australia, there is no evidence to support the notion that those nations’ tax bases are being eroded.
Let us rewrite the OECD complaint as follows: If the spillover effects of particular business practices are so substantial that they are concluded to be poaching other businesses customer bases, such practices would be doubtlessly labelled harmful business competition. It now becomes apparent what the game is. Few economists would be concerned at all by that complaint. We all understand that the effects of competition can be harsh on weaker competitors. It turns out that governments and politicians, like business, don’t always appreciate having to work at improving themselves and offering a more attractive mix of services and taxation in order to attract business.
The international tax regime has evolved over time to minimise double taxation so as to enhance the scope for international trade. In essence that has meant the establishment of an international tax cartel where governments have divided up the tax base and apportioned “market share” to each other. It is perfectly understandable why governments would want to establish a tax cartel. Every government has to make a choice as to the public services-tax mix that it is going to offer and a tax cartel with reduced competition makes that choice easier.
Of course, we know that cartels are unstable and members have incentive to cheat. At some point members realise that by lowering their prices – in this case taxes – they can gain market share. So too with the international tax cartel – some countries have chosen to lower their taxes and work harder to attract economic activity to their shores. Other countries, rather than respond to such competition by competing themselves, have chosen instead to engage in fiscal imperialism – bullying and cajoling sovereign nations to change their domestic policies. Or worse – threatening and intimidating companies that take advantage of the tax incentives governments establish to attract their business. Another private sector analogy suggests itself – we all know and understand the distinction between profit-seeking and rent-seeking.
It is important to point out that the famed double Irish-Dutch sandwich, for example, does not rely on bank secrecy, but rather is a function of national laws specifically designed to promote economic activity. There is nothing stopping any of the countries that regularly complain about that strategy from adopting similar policies. Contrary to what politicians would like us to believe there is an important distinction between tax avoidance and tax evasion. It can never be “unfair”, or immoral for that matter, for any person of company to be fully compliant with their legal obligations under tax legislation.
The OECD’s work on harmful tax practices/competition and base erosion and the like has given intellectual respectability to an otherwise grubby political squabble over tax shares. To be sure, the OECD itself is a political organisation that has to respond to member concerns. Yet it should not expect to avoid criticism in what is ultimately a political dispute within a tax cartel.
Sinclair Davidson discusses tax reform
Multinational corporations, stateless income and tax havens by Sinclair Davidson, published by the ACCA (Association of Chartered Certified Accountants) the global body for professional accountants.