Thursday, April 17, 2008

Murphy vs. Mitchell

The Center for Freedom and Prosperity is an enormously wealthy think tank on the fringes of the ideological right in the United States. The CF&P recently issued a news release stating:

The Coalition for Tax Competition is sending a strong message to the World Bank explaining why tax competition is important and why the Bank should reject the anti-free market agenda advocated by ideological groups like the Tax Justice Network and statist bureaucracies such as the OECD.

TJN is happy to be the subject of their attention. They give us an opportunity to bring our arguments to a whole new constituency. They simply have no answer to the agenda we are setting. Theirs is a crude strategy: saying things that are manifestly false (for example, arguing that TJN espouses an anti- free market agenda) to win the argument. This is the Straw Man strategy (set up a straw man, then knock it down, and hope that it makes you look good). It is a gambit typically used by those who know they have lost the argument and consequently need to change or twist the facts. If you don't believe we are right, simply read their points, then see Richard Murphy's answer on these points here - then judge for yourself.

More dramatically, CFP has also recently been advertising a showdown between its Senior Fellow Dan Mitchell and TJN's Richard Murphy in Fort Lauderdale, Florida. The debate was entitled: Offshore Financial Centers – Are They Healthy for the Global Economy? As one of the CF&P pre-debate flyers said:

It may not be at the same level as the Lincoln-Douglas debates (though Richard Murphy and Jack Blum want taxpayers to be slaves of government). It may not get the ratings of the Ali-Frazier "Thrilla-in-Manilla" (though we are expecting a knock-out). But when Dan Mitchell (Senior Fellow, Cato Institute, USA), and Richard Hay (International Tax Principal, Stikeman Elliott, UK) square off against Richard Murphy (Research Director, Tax Justice Network, UK) and Jack Blum (Co-Author, Financial Havens, Banking Secrecy & Money Laundering, USA), sparks are sure to fly.

The debate has now happened. Richard Murphy has been blogging the event. Dan Mitchell, apparently, now "looks like he has his tail between his legs." As Richard said:

Many people at the conference told me Jack Blum and I won the debate - and that I beat Dan hands down on economics, even if they did not like what we said. It was good to have that said publicly in the concluding session of the conference by Lorna Smith, Director of the BVI International Affairs Secretariat - not an obvious ally of ours.

We think it is worth reproducing Richard's speech in full. Here it is:

Good morning. It’s great to be here. Many thanks to David for organising this debate.

It’s just such a shame it has started so badly. It’s hard to believe that Dan and I are debating the same motion. I’d remind you what we’re talking about. The motion says “OFCs (or tax havens as I’d rather call them) - are they healthy for the global economy?”

Dan has completely failed to address that issue. He’s only talked about micro issues and not the global economy. So if you’ll let me I’ll address that economic issue, and I do so not just as a chartered accountant and tax expert, but as a trained economist.

And as an economist I’ll tell you that the real problem with what Dan has said is that it makes no sense in economic theory, and it does not accord with economic reality.

But let’s get some basics on the table. Markets are good things. They’re the best mechanism we’ve got for supplying the majority of the needs and at least some of the wants of most people.
It’s also a fact that government is good thing. The evidence is unambiguous. We seem quite unable to live without it, anywhere and at any time. That means we need a mechanism to pay for it. That’s called tax.

Of course, how much government involvement and how much market participation is needed to create a good economy is open to debate. This is not that debate. The point that is indisputable is that we need both government and effective markets to create a well functioning economy.

But government and markets are very different. Market theory does not apply to governments. The reason is obvious. Market theory and practice requires that participants can and do fail, and go out of existence. But we know that when government fails in this way the consequences are painfully apparent, and catastrophic for the state and people involved.

That’s why we tolerate the existence of what is the perpetual monopoly of government. It’s the best option we have, and we all recognise it. But let’s be clear: monopolies pose problems and have to be controlled. That’s why we have created a system to do that in the case of government. That process is called democracy. It is not called competition. It’s very definitely not called tax competition.

Despite which let’s also be realistic: it’s obvious that governments do compete to attract capital. I know that. But to pretend that the major economies compete in this way because of the existence of pin-prick states called tax havens is to live in a world of make believe. It’s like saying that KPMG and Pricewaterhouse compete because of the existence of small town accountants, and what’s more that it’s the small town accountants who set the Big 4’s prices. That’s just not true.

Nor is it true that tax rates have fallen over the last twenty or thirty years except for the very rich. They have benefited from cuts, but ask absolutely any middle class person anywhere about tax right now and they’ll tell you they’re paying disproportionately more, and they’re right. That’s because the scale of government activity has not reduced. Far from it. Partly because of the demand from business for better quality public services, in the OECD as a whole in the last decade the tax to GDP ratio went up in a significant majority of countries and overall by 1.3%. That was the democratic choice people made. So, if tax havens are meant to reduce tax rates for all, and limit the scope of government universally then there’s just one thing to say based on this evidence. They’re dismal failures. And if this is the criteria for their successful contribution to a healthy global economy that Dan is using I could stop now and my case would be proven.

But the issue is more complex than that. The reality is that economic theory provides the clearest evidence that tax havens must harm the health of the global economy. You see even the most basic understanding of neo-classical market economics says that three things are needed to ensure an optimal outcome results from the operation of a market. Those things are equal access to capital, equal access to markets and the availability of perfect information to ensure the optimal allocation of economic resources to efficient activity.

And the fact is that tax havens deliberately set out to subvert all three of these requirements. They do this by exploiting the one, so called, competitive advantage they have. That advantage is not low tax rates. Indeed, the tax rates for many ordinary people who live in tax havens are not that low when compared to middle classes elsewhere and some tax havens, such as Jersey, have very robust laws to make sure that their residents cannot take advantage of the tax haven services they provide, or that are supplied by their near neighbours such as Guernsey. Jersey’s general anti-avoidance provision designed to tackle what they see as such abuse is, I’d suggest, a model of its type.

So low tax rates are not the thing that provides tax havens with their supposed competitive advantage. It’s the secrecy that they provide that gives that advantage. It’s secrecy and the fact that only some, highly selected groups of people are legally allowed to hide behind that secrecy veil to claim that they locate their activities in tax havens that gives them their advantage.

Note I say that people claim to locate their activities in tax havens. They don’t actually, of course. An absence of any economic substance is the reality of these places. I’m always amused by a friend of mine who advises a Cayman registered hedge fund. The rule is, he says simple. The advice he provides goes to London, where it’s used. It’s just the bill that goes to Cayman. That’s the tax haven world, in a nutshell.

So how is the secrecy that characterises this world used?

Well, first of all it’s used to ensure that those who can use these places, legally or illegally, have access to capital at lower rates than those who do not have that access. This lower cost of capital results from the fact that those who can hide behind the veil of tax haven secrecy accumulate their capital faster because it’s in a tax free environment.

Second this limited access to tax haven secrecy is used to deny access to markets on an equal footing. Of course this happens in the tax havens themselves: in most such places tax haven operations are ring fenced from the local economy for fear they will undermine local markets and tax revenues. The irony should not be lost on you.

More importantly though, given the inevitable and appropriate nationally based measures to tackle tax avoidance and evasion that countries must implement if they are to fulfil their democratic mandate, most ordinary people and almost all small and medium sized businesses in the world cannot use the offshore structures to access the markets that the wealthy, law breakers and multinational businesses can access at lower cost using tax haven facilities. This does put the ordinary person, the law abiding person and small business at a deliberately constructed competitive disadvantage.

Third, the secrecy that allows this to happen also undermines all the principles of open access to information that are essential to ensure that the effective decision making resulting in optimal allocation of resources in market economies takes place.

The result is obvious. Tax havens set out to undermine effective markets, and that’s the goal they succeed in achieving. In saying that I make clear that tax havens don’t extend liberty, as some would claim, they’re actually designed to grant monopoly rights to a privileged few, and that is exactly what they do.

Those few are the wealthiest of the world, the largest businesses of the world and the lawbreakers of the world. Those groups exploit that monopoly advantage as all monopolists do, to close down effective competition. The result is simple. The richest get wealthier at the expense of the middle class and the poor who have to pay the taxes to provide the services multinational business demands. Multinational business meanwhile squeeze out medium and small nationally based business that have an unfair higher cost structure than their larger rivals. The poorest nations of the world that do not have the resources to challenge the hemorrhage of illegal and mispriced money from their shores subsidise the tax take of the richest nations of the world. Throughout all this democracy is undermined, as is the rule of law.

And you might also note that tax havens were used to create most of the securitised debt that has resulted in our current global credit crunch. That’s some contribution to a healthy economy.

The economics of this then are simple, and unambiguous. Tax havens must, and do, harm economic well being for all but the minority who can use them because they do wrongly allocate economic resources and inappropriately allocate the reward of economic activity.

But it’s more than economics. If you believe monopoly is harmful and law breaking is wrong, if you believe in small enterprise and the need to foster it, if you believe in national pride and the state you live in, if you believe in democracy, and if you believe that markets can best meet our needs then you can’t believe that tax havens deliver a benefit for the world economy as a whole.

That’s the motion we were asked to discuss. I think the answer is unambiguous, tax havens harm the world economy and as such I oppose the motion.


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