Monday, February 22, 2010

Tax havens cause poverty: IMF endorses capital controls

Growth rates around the world in the so-called Golden Age of Capitalism, roughly from the late 1940s to 1973, were very substantially greater than in the period that followed them, from the 1970s to today. Countries suffered few financial crises. That earlier high-growth period was a time of strong international capital controls and high taxes; it was followed by a period involving financial liberalisation and explosion of tax havenry. Growth fell sharply, and countries stumbled from crisis to crisis.

Now correlation ain't causation, but that period did show clearly that at least high taxes and capital controls are compatible with high, crisis-free growth. Pah, said the IMF! Just liberalise, slash taxes, and a new golden era beckons. Well, it didn't, and it's a shame that it took the world's major institutions so long to wake up to what researchers have been demonstrating for some time. Still, the IMF has finally signaled a sea change.

Recently we blogged an IMF working paper arguing that capital account liberalisation may not be that helpful. Now, we are pleased to see that The Economist, long a cheerleader for liberalisation in all its forms (though it, too, had been getting nervous about capital account liberalisation), has picked up on a separate IMF Staff Position Paper entitled Capital Inflows: the Role of Controls.

The Economist summarises:

"It (the IMF) concludes that controls are sometimes “justified as part of the policy toolkit” for an economy seeking to deal with surging inflows."

and it reminds readers that the IMF in 1997 even tried to amend its Articles of Agreement to allow it explicitly to promote capital- account liberalisation. The Economist adds that

"Its authors find that GDP fell less sharply during the financial crisis in countries that already had such policies in place. Prior research has shown that the maturity structure of a country’s external liabilities gets longer as a result of capital controls."

And the IMF paper itself notes that:

"Empirically, there does appear to be a negative association between capital controls that were in place prior to the global financial crisis and the output declines suffered during the crisis . . . The use of capital controls was associated with avoiding some of the worst growth outcomes.

Moreover, consistent with the discussion above, it is controls on debt flows that are significantly associated with avoiding crises.
. . .
Such controls, moreover, can retain potency even if investors devise strategies to bypass them."

Tax havens/secrecy jurisdictions take note. This belated recognition - for many researchers have already known this for some time - is nevertheless welcome. This is a massive sea change.

A sentence like this, lifted straight from the IMF report, would have been quite unthinkable, just three years ago:

"(capital controls) could contribute to reducing global imbalances and thus enhance systemic stability. A multilateral framework governing the reimposition of controls, balancing the various considerations, could be helpful in managing possible cross-country spillovers."

But while we agree with some of what is said in IMF working papers; we will agree more when they are translated into official policy.

And can we suggest one further sentence to add to the report. The sentence is this:

Tax havens cause poverty.


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