MYTHBUSTERS TAX JUSTICE FOCUS VOLUME 8, NUMBER 1 The Mythical 1 Daniel Stedman Jones The newsletter of the tax justice network EDITORIAL Myths and Their Busting 3 Dan Hind

FEATURES The City in Myth and Reality 5 Aeron Davis Enterprise and Rent-Seeking: 7 A Mythical Conflation William Davies Mythical Thinking in the Political Class 9 THE MYTHICAL Robin Ramsay BOOK REVIEW State Building and Tax Regimes in 11 Central America ADAM SMITH Krishen Mehta

NEWS IN BRIEF 12 Few thinkers loom larger in the imagination of policy-makers and economists than Adam Smith. But the figure they venerate is a mythical creature, half man, half useful quotations.

Myths can be used to sustain and encourage Adam Smith and the governing projects. The shift to Chicago neoliberals like Milton Friedman and limited government – ‘’ - in and George Stigler interpreted classical the English-speaking world after the election political economy in general and Adam Smith of in 1979 and Ronald in particular in a very specific way. They Reagan a year later depended partly on the used his idea of an ‘Invisible Hand’ to argue “The disposition to admire, and almost to worship, the rich and the powerful, and to despise, or, at least, to Contributing Editors: John Christensen and Nick Shaxson creation of, and belief in, myths. One example that individuals merely had to pursue their Editor: Dan Hind neglect persons of poor and mean condition is the great of highly effective myth-making can be found individual self-interest and exclude other and most universal cause of the corruption of our moral Design and layout: www.tabd.co.uk in the notion that neoliberals like Thatcher concerns for the market economy to function sentiments.” Email: info(at)taxjustice.net Published by the Tax Justice Network Adam Smith, still Tax Justice Network’s and Reagan were the champions of the ‘free optimally. Like Keynes’s ideas in the 1930s, May 2013 most popular pinup. market’ first celebrated by Adam Smith. this argument gave politicians a simple and © Tax Justice Network 2013 For free circulation, ISSN 1746-7691 SECOND Quarter 2013 Volume 8 Issue 1 TAX JUSTICE FOCUS plausible justification for the policies they Despite the nuance and complexity of Smith worried that “people’s disposition to admire the rich and the wanted to pursue. During the Depression Adam Smith’s actual positions, it suited both great, and to despise or neglect persons of poor and mean condi- Keynes had argued for countercyclical neoliberal thinkers and politicians to see investment to revive the economy. FDR used themselves as part of a venerable lineage tion”, led to the “corruption of our moral sentiments”. The main these arguments to provide intellectual ballast whether or not their ideas actually matched solution he proposed was publicly funded education. for the New Deal programmes, although up with his. In their view, the “free market” Roosevelt himself was no economist and had was supposed to be the result of stripping the German Economic Miracle in the 1950s, would increase wealth that would trickle little time for Keynes. Similarly, in the 1980s, away layers of government ownership and attempted successfully to institute just such down into more jobs and rising incomes Thatcher and Reagan cut taxes, fought unions public expenditure. At the core of the myth an economy with vastly different results for for all. In fact in both Britain and the United and attacked the public sector on the back of was the idea that government was bad the German economy than those achieved States we saw rising inequality, income neoliberal policy proposals. Neoliberal myths and business was good, a central narrative for Britain after the 1980s. stagnation as well as large numbers of about the benefits of unfettered self-interest that helped to determine policy under unemployed among much of the population. The American model of neoliberal thought, in market economies provided cover for both Thatcher and Reagan. When a myth is The second was the myth that deregulation in contrast, partly fostered by the very another political project: the elevation of the successful, as this one proved to be, then would free up important sectors and foster a different conditions of rising prosperity and profit motive as a cardinal virtue. it can help to drive an agenda through by more dynamic economy. Governing parties of the Cold War, advocated a new role for the simplifying a government’s message. all political stripes followed the deregulatory Adam Smith’s account of commercial society in market from that proposed by either Adam policies advocated by Stigler and others. The the Wealth of Nations (1776) does not provide American Neoliberalism Smith or the European neoliberals. They “dynamism” of self-interest led directly to the a blueprint for a free market economy based In the case of the neoliberals, the Chicago wanted to take a market-based approach catastrophic financial crisis of 2008. on the selfish pursuit of profit. In his argument, theorists, along with their close associates in to all kinds of hitherto untouched policy the ‘invisible hand’, by which a market economy the Virginia School of Political Economy, led areas. What became known as “economics Finally the denouement arrived and Fed was sustained according to Smith, is shown by James Buchanan and Gordon Tullock, were imperialism” saw methodological Chairman Alan Greenspan was forced to to work by the actions of the educated and engaged in a radical new set of economic individualism, the focus on the rational actor admit the “flaw” in neoliberal thought. morally cultivated individuals to whom Smith theories. The “free market” was rethought pursuing his self-interest in the marketplace, The “free market” and its ability to adjust refers in his Theory of Moral Sentiments (1759). and repackaged as an idea. The Americans being applied by scholars like Friedman, and correct itself was a myth (and not Smith’s conception of such individuals and differed, not just from Adam Smith, but also Stigler, Buchanan and Gary Becker in the one created by Adam Smith, but rather by their moral sympathy was a world apart from from earlier European neoliberals based realms of education, public administration, neoliberal economic theorists). It is not the sort of selfish greed encouraged by 1980s in Austria, Germany and Britain, who first crime and even the family. at all clear yet, however, that the political Conservative and Republican policymakers. emerged in the interwar years in response to class has lost its appetite for myth. In both The Radicalisation of Neoliberalism Smith worried that “people’s disposition war, depression and totalitarianism. Europe and the United States, politicians are This expansion of free market radicalism to admire the rich and the great, and to currently in thrall to another convenient The earlier European neoliberals had as born in Chicago and Virginia sharpened and despise or neglect persons of poor and mean myth: the idea that austerity can lead their main focus the conditions necessary clarified the neoliberal political message. condition”, led to the “corruption of our moral to economic growth. Until this myth is for effective competition in the marketplace But the idea that it rested on classical sentiments”. The main solution he proposed decisively rejected, the future of the world and they saw no incompatibility, even liberal foundations was a myth. What the was publicly funded education. Government economy looks bleak indeed. Chicagoans and their political followers was also to provide the means for building Friedrich Hayek in his famous The Road were engaged in was an entirely new kind of and sustaining the necessary infrastructure to Serfdom (1944), between free markets Daniel Stedman Jones is a barrister and author. state-sponsored reform of the economy. for the successful functioning of the economy, and the welfare state. The political project Masters of the Universe: Hayek, Friedman and most closely associated with these early something acknowledged by neoliberals like This reform drew on several further myths. the Birth of Neoliberal Politics is published by neoliberals, the Social Market economy of Hayek and Friedman themselves. The first of these was the idea that tax cuts Princeton University Press.

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editorial MYTHS AND THEIR BUSTING Dan Hind

A good deal has happened in 2013 to quicken the pulse of those pushing for tax justice. In April alone we saw publication of a major investigation into offshore by the International Consortium of Investigative Journalists and signs of movement on automatic information exchange in the EU and in the G20. There is no sign that the pace will let up over the summer. In June the OECD publish a new report on BEPS (Base Erosion and Profit Sharing). It presents us with an opportunity to dispense the now discredited arm’s length method for tackling transfer mispricing by shifting to a combined reporting with profits’ apportionment approach.

Meanwhile, the Tax Justice Network has been busy he introduces us to the eccentric reading of Adam on the writing and publishing front. Richard Murphy Smith beloved of neoliberal thinkers. The champion has put out an ebook with Random House UK called of the ‘hidden hand’ so beloved of lobbyists for Over Taxed and Over Here. John Christensen and Nick deregulation and the small state was himself Shaxson are putting the finishing touches to their book convinced of the need for a wide range of state The Finance Curse, which is due for release in May. And action to secure public goods. He also had a lively the Tax Justice Network have teamed up with the fear of the corrupting effects of opulence, and New Economics Foundation in the UK to produce thought universal moral education vital in order to a series of essays – Mythbusters - that explore, and avoid moral corruption. explode, the most persistent and powerful myths in contemporary economics. Introductions to the articles The perimeter of the City of is guarded are being published weekly in and the full- by dragons that the authorities insist on calling length versions can be found on the New Economics griffins. What goes on inside is also the stuff of Foundation website. fairy tales, as Aeron Davis, the Professor of Political Communication at Goldsmiths College, explains. To tie in with the Mythbusters series, this edition of Tax Structural weaknesses in financial journalism, the Justice Focus is looking at some of the ways in which rise of public relations and the narrowing of debate mythical ideas survive and spread. Daniel Stedman about economics have contributed to the current Jones is the author of a recent book on the rise of situation, where the City can promote a largely A well-known Syrian regulator, in discussions with a representative from the financial sector. neoliberalism, Masters of the Universe. In his contribution mythical account of its vital importance to the UK

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political class and their admirers in the that countries with debt in excess of 90% of press would rather keep from us. Starting GDP grew far more slowly than those with a generation ago, most politicians in Britain lower debt burdens. either bought the City line wholesale or stayed away from economics altogether. It is Politicians and commentators around the a tribute to Thatcher that the old scepticism world seized on their work. Only a month about finance had entirely vanished from the after Rogoff and Reinhart announced their Labour party leadership by the time disaster findings, George Osborne, the British struck in 2007. But the continuing weakness Chancellor, told an audience that ‘the latest for myths from the City is much harder to research suggests that once debt reaches explain. more than about 90% of GDP, the risks of a large negative impact on long-term growth Finally, William Davies, Assistant Professor become highly significant’. at the Centre for Interdisciplinary Studies at the University of Warwick, takes a look at But once Thomas Herndon, a graduate that luminous word, ‘enterprise’ and shows student, went through the original how politicians are using it to spin a new calculations, he found that a number of myth about the causes and consequences countries were missing. With all the data of the crisis. Recovery will only happen, fed in the effect described by Rogoff and we are told, if we stop blaming the risk Reinhart became much less pronounced. Ceres, the Roman goddess of plenty – a myth we takers and the entrepreneurs and remove Austerity, it turns out, was justified by little can all believe in. the burdens that are holding them back. It more than a missing line of date on an is a bold gambit, given our recent history. Excel spreadsheet and some questionable As Davies points out, there is a world of assumptions. Even now, years after a crisis economy. Five years after the spell of debt- difference between genuine enterprise and brought about by tall stories and wishful driven growth was broken, the City remains rent-seeking through asset price inflation, thinking, we are still living in a world far too a realm of mystery and magic. financial engineering and tax evasion. It is a hospitable to myths. difference that many politicians still don’t’ But why do so many politicians remain want to see. Still, these myths are finally being challenged. entranced by the stories that the financial sector tells? Robin Ramsay, the renowned As we prepared this edition of the Tax Justice Dan Hind, editor of Lobster, has been a mordant and Focus for publication it was revealed that May, 2013 clear-eyed observer of the British political one of the most influential recent articles scene for more than three decades. In his in economics had serious flaws. When article for the Focus he looks at the distant Carmen Reinhart and Ken Rogoff’s paper, and fraught relationship between politicians ‘Growth in a Time of Debt’, was published and the study of economics. An exchange in January 2010 it provided a ready-made with Bryan Gould, a former MP and Shadow intellectual justification for cuts in public Cabinet Minister, reveals a truth that the sector spending. Their data seemed to show

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feature THE CITY IN MYTH AND REALITY Aeron Davis

The media in Britain still fall for fairy tales about the importance of finance to ‘growth is being strangled by regulation the UK economy. The explanation lies in the structure of business journalism. ... rather than the antics of investment bankers’, and that (28.02.13) new EU regulation will be a ‘boost for Zurich, Singapore and New York at London’s has been consistently repeated by City he official and oft-repeated narrative expense’. Typically, as the Economist declared representatives and successive Chancellors around the City and UK financial (29.10.11), at the height of City unpopularity, of the Exchequer since the early 1980s. Tsector is that it is a vital industry ‘Wholesale finance is one of the few for the UK economy. It brings substantial The story is frequently repeated industries in which Britain has large net employment, taxes and overseas income. By unquestioningly in mainstream news export earnings’, ‘is a source of comparative the early years of this century, the City had coverage. It has justified successive waves advantage’, and is one of the ‘world’s leading recorded an average growth rate of 7% per of financial deregulation. It is why, after the centers’. It concluded that ‘London’s long- year for 25 years, and showed a consistent 2007-08 collapse of the banking industry, term prospects depend on its ability to annual overseas trade surplus in the tens and a series of high profile scandals, from sustain these attractions’. No matter how of billions (Golding, 2004). According to PPI mis-selling to Libor, the City continues badly our financial sector behaves, it must UKTI (Dec 2012), in 2010, the UK financial to do business as usual. It is why attempts to be defended, quite simply because the services industry was responsible for re-regulate the banks (Tobin taxes, retail- UK economy cannot afford to restrict its 10% of UK GDP and 11% of tax income. investment bank separation, greater capital activities. Coverage may admit to City faults It employed a million people with up to reserves) or limit City bonuses are so and unpopularity but then restates the case You want myths? The City of London’s got them! another million employed in associated simply deflected. Hence, that of financial industry indispensability to professions. is happy to feature (27.03.13) the reports the UK. Most importantly, it generated a trade stating ‘banks should be allowed to decide is broadly supportive of the UK financial surplus of £40 billion, higher than any themselves how much capital they need to There are some journalists who regularly centre and usually willing to support the other sector of UK industry. These hold instead of being told by regulators’, question the activities and value of the City-is-indispensable line. There are several figures vary depending on the year and or lending and economic recovery will City at a more fundamental level. However, reasons for this (see Davis, 2002, 2007). accounting bases used. But, they always suffer. The (4.03.13) argues the vast majority of day-to-day coverage Financial news, like most news sections, look impressive, whether appearing in that it is ‘Time to rehabilitate bankers’ government or industry reports (Wigley, bonuses’ and that bank bonus caps will 2008, Bischoff and Darling 2009, Maer and ‘hurt competitiveness’. The London Evening “The national financial press are written for the City Broughton, Aug 2012, IMAS, 2013). The story Standard (26.02.13) declares that economic by the City.”

5 SECOND Quarter 2013 Volume 8 Issue 1 TAX JUSTICE FOCUS has suffered from a long-term decline of However, the foundations of this narrative Cable, 2009). Many studies (Hutton, 1996, References reporting resources as its business model are themselves very questionable. Myners, 2001, Chang, 2010, Engelen et al, Bischoff, W and Darling, A (2009) UK International has become increasingly untenable. Unlike 2011) argue that the City itself has been Financial Services – the Future: A Report from UK Based other areas of news reporting, such as The first issue is that estimates of the size of damaging to British industry as it is driven Financial Service Leaders to the Government, London, HM Treasury politics or celebrity, financial journalists the sector treat the entire financial services more by short-term returns than long- have little leverage. City leaders do not industry as one entity. Those figures on term investment. In the 1980s investment Cable, V (2009) The Storm: The World Economic Crisis and What it Means, London, Atlantic Books have to talk to them if they do not want taxation and jobs combine the insurance in manufacturing rose 2% per annum, but to and can make access very hard. Added industry, ordinary high street banking, and profits by 6% and dividends by 12% per year Chang, H (2010) 23 Things They Didn’t Tell You About Capitalism, London, Penguin/Allen Lane to this, the world of finance is a highly the activities of investment bankers and (Hutton, 1996). ‘Productive investment’, in others in the City. Those working in high CRESC (2009) An Alternative Report on UK Banking technical and information dense subject business itself, declined from 1996-2008, Reform: A Public Interest Report from CRESC, Manchester, area. It is very hard for financiers to digest finance, a world of high risks, bonuses and from 30% to 12% (CRESC, 2009). From Centre for Research on Socio-Cultural Change scandals, are a minority in the industry and and comprehend even part of the material 1979 to 2011, employment in manufacturing Davis, A (2002) Public Relations Democracy: Public in circulation; harder still for journalists number in the tens of thousands. dropped from 6 to 2.5 million (Engelen et Relations, Politics and the Mass Media in Britain, having to cover larger territories and with al, 2011). As these and other studies argue, Manchester, Manchester University Press tight deadlines. Lastly, financial news is Second, the overall accounting picture is the UK’s financial sector is more about Davis, A (2007) The Mediation of Power: A Critical very low down on the list of things that extremely distorted. By 2009, the cost of extracting capital away from wider industry Introduction, London, Routledge ordinary citizens consume news for. That the bank bailout was £289 billion and rising and external investors than it is about Engelen et al (2011) After the Great Complacence: it has expanded and maintained a place in (CRESC, 2009). Further government loans putting it into the economy. Financial Crisis and the Politics of Reform, Oxford, Oxford University Press news is down to high levels of advertising and guarantees to banks are worth hundreds and public relations support coming directly of billions more. Such figures more than Ultimately, the financial sector has Golding, T (2004) The City: Inside the Great Expectations Machine, 2 nd edn. London, FT/Prentice Hall from City sources. All of which makes wipe out the tax receipts of the industry contributed much to the UK in various ways. financial journalists extremely dependent accumulated since the turn of the century. But it has also racked up large debts, been Hutton, W (1996) The State We’re In, London, Vintage on the City itself, both for information and From 2007 to 2009 the UK’s external debt a cause of instability, and undermined other IMAS (January 2013) UK Financial Services Industry Annual interpretation of that information, as well as leapt from 22.5% to 66.5% of GDP and had parts of the British economy. A real balance Review 2012, London, UKTI for advertising and general access. Thus, as continued to climb since (Turner, 2008). In sheet is virtually impossible to construct as Krugman, P (2008) The Return of Depression Economics, one financial executive confidently explained sum total, whatever the City has contributed the sector remains opaque and amazingly London, Penguin to me ‘The national financial press are to Treasury balance sheets over recent well-spun to financial media, politicians Maer, L and Broughton (August 2012) ‘Financial decades, it’s clear that it has taken more and the public. Either way it is time more Services Contribution to the Economy’, House of written for the City by the City.’ Commons Standard Note SN/EP/06193, London, House than it has put in over the last decade. journalists stood back and asked what of Commons This dependence on financial sources exactly the real value of Britain’s oversized Myners, P (2001) Institutional Investment in the United for coverage of the City itself has grown Third, quite apart from the financial figures financial sector is. Kingdom: A Review, London: HMSO all the stronger since the early 1980s. there are wider questions about whether Aeron Davis is Professor of Political Turner, G (2008) The Credit Crunch: Housing Bubbles, City influence at Westminster, financial the UK’s financial sector has contributed Globalisation and the Worldwide Economic Crisis, London: deregulation, the closing down of pluralist positively to the larger UK economy. Communications at Goldsmiths, University of Pluto Press London. debate around finance and the economy, and Financial engineering and speculative UK Trade and Investment Website (Dec 2012): the rise of financial public relations, have all activity have since caused huge bubbles http://www.ukti.gov.uk/investintheuk/ gone hand in hand. So, media reports will and price volatility in internet stocks, sectoropportunities/financialprofessionalservices.html often cover scandals and ire over banker property, commodities and derivatives Wigley, B (2008) London: Winning in a Changing World, bonuses but will rarely question the basic markets, putting great pressure on personal London, Merrill Lynch Europe Ltd narrative around City indispensability. and national finances (see Krugman, 2008,

6 SECOND Quarter 2013 Volume 8 Issue 1 TAX JUSTICE FOCUS Enterprise and Rent-Seeking: feature A Mythical Conflation William Davies

In the years since the crisis, much has been made of the need to encourage the threat and reach of socialism. But the enterprise. But its champions are using entrepreneurial endeavour a cover for tenacity of those such as Fox, in still seeing reds under the beds in this age of spiralling policies that favour the extraction of risk-free rents. inequality and the near disappearance of private sector unionism, is quite remarkable. Either due to chronic failure of imagination, neoliberalism? Why are we still so stuck with or sheer nostalgia, the assumption of this here was a 19-year period, between it? And is there a different capitalism, or even revitalised New Right seems to be that the fall of the Berlin Wall and the an alternative to it? One small consolation fall of Lehman Brothers, when Britain is currently experiencing the 1970s T of a protracted economic crisis is that such all over again, and de-regulation will ride to ‘neoliberalism’ became virtually invisible to questions are put on the table, with often the rescue. everybody, save for its critics in what was enlightening public results. called the ‘anti-globalisation movement’. One curiosity of this baroque policy revival There was no longer a distinct political Inevitably, this hubbub has drawn some of is that, in its inevitable anti-tax rhetoric, its movement or philosophy that could be the original ‘neoliberals’ out from their caves. target has shifted slightly. Perhaps in view referred to as ‘neoliberal’, and nor were British think tanks such as the Institute of the political disaster which was George there any obvious ideologues selling the of Economic Affairs (IEA) and The Adam Osborne’s cutting of the highest rate of virtues of free markets or enterprise. Rather, are returning to some income tax in last year’s budget, the main the backdrop of unregulated, finance-led, of their favourite 1970s tunes, blaming target of the anti-tax movement has shifted global capitalism was just the reality against government for everything, arguing that from income tax to capital gains tax (CGT). A horse, as designed by a neoliberal . which politics and policy seemingly had to only entrepreneurs can save us. In one of happen. the more outlandish examples of this, a Osborne himself had raised CGT from 18% The global financial crisis has changed that. former Conservative Defence Secretary in to 28% in his emergency 2010 budget. But The intellectual and policy roots of our the British Government, Liam Fox, argued it was only as low as 18% because Alasdair expended, in exchange for relatively small present economic malaises are now thrown in March of this year that a ‘great socialist Darling had abandoned the tapering system increases in tax revenue. CGT, on the other into question, and the practices of elites coup’ was responsible for the depression in 2007, which saw CGT vary between 10% hand, is a far more fluid area of policy, (especially in the finance sector) are being of the UK economy, and that only smaller and 40%, depending on how long the asset which allows the Right to become more raked over publicly. The term ‘capitalism’ is government could rescue us. was held for. Income tax is such a politically ideologically exercised and vocal. common currency in mainstream political charged area of fiscal policy, that politicians debate, in a way that was not true a decade The early neoliberal thinkers of the 1930s are fearful to make very significant changes. The Adam Smith Institute put out a report ago. How can we throw off the strictures of and 40s were notoriously paranoid about Large amounts of political capital can be attacking the level of CGT in February.

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“Neoliberals were always curiously blind to the economic freedom, just as much as socialism. The power of corporations, incumbents, potential for private economic power to constrain financiers and other entrenched interests liberty.” can seize control of the capitalist system, sapping its energy for their own private gain. But neoliberals were always curiously blind Philip Booth of the IEA wrote a piece The argument levelled by the Right is that to the potential for private economic power for Prospect in the same month attacking a tax such as CGT is holding back an army to constrain liberty. CGT, inheritance tax and stamp duty, as of potential new businesses, all of whom The challenge is to distinguish between what impediments to growth. Then, in a speech are afraid to invest for fear that their assets Labour leader, Ed Miliband, referred to as to the IEA, Fox demanded that CGT be will increase in value and they’ll be robbed the ‘producers’ and the ‘predators’, in his abolished altogether, in order to get the by the taxman when they come to sell 2011 conference speech. There is venture them. The reality, of course, is that Britain economy moving again. While Conservatives capital, that employs qualitative insight into has already suffered from a vast asset price of a neoliberal persuasion like to talk up the technology and science, to support highly bubble, fuelled by cheap credit, in which benefits of hard work, they are looking to uncertain start-ups; then there is private ownership of properties and firms became treat the proceeds of speculation, rent- equity, which employs financial economics governed by a logic that owed everything seeking and asset price inflation more to take ownership of a company so as to to their market value, and nothing to the favourably. extract value before returning it to the creation of new value. The mentality of the market. The tax system will never be able financier infects not only business, but also a While it seems highly implausible that even to make a clean distinction between the a Conservative Chancellor will adopt any of generation of buy-to-let investors, for whom two. But it is a characteristic sleight of these proposals, what is being showcased the promise of home ownership is to be hand on the part of the Right to claim that able to live off rent and equity withdrawal, here is a fundamental oversight in neoliberal CGT punishes ‘enterprise’, when this term rather than anything productive. A society thinking, that was present throughout the has more often been a veiled reference to which valorises capital gain to this extent genesis of the New Right on both sides of financial asset players. may be even more socially dysfunctional the Atlantic. What Fox et al strategically – than one which valorises income inequality. William Davies is Assistant Professor at the or blindly – elide, in their attacks on CGT, Centre for Interdisciplinary Methodologies, is the distinction between constructive The Austrian economists who gave birth to University of Warwick – www.potlatch.org.uk entrepreneurship and a form of rentier neoliberal thought during the 1920s believed capitalism dominated by asset speculation. that the West faced a straightforward choice, The rhetorical trick of neoliberalism, both between socialist bureaucracy on the one in its long period of exile as a critique of hand, and dynamic entrepreneurialism on Keynesianism and socialism, and in its applied the other. Either there must be the state, phase of the 1980s and 90s, is to or there must be free enterprise. What this use the language of ‘enterprise’ to defend simplistic worldview ignored (but which the freedoms of speculators and asset- their compatriot, Joseph Schumpeter, was strippers. cognisant of) was that capitalism can stifle

8 SECOND Quarter 2013 Volume 8 Issue 1 TAX JUSTICE FOCUS MYTHICAL THINKING IN feature THE POLITICAL CLASS Robin Ramsay

Why do myths about the economy survive so long? In part it is I remember [Gordon] Brown addressing the Parliamentary Labour Party on the great because the politicians lack the knowledge and confidence to advantages of joining the ERM [Exchange challenge them. Rate Mechanism], using arguments I knew to be erroneous. He suggested that by fix- ing the parity within the ERM, we would be s we contemplate Britain’s recent uncompetitive. (From Mrs Thatcher’s applying socialist planning to the economy, history with its succession of eco- point of view, this had the added appeal of rather than leaving an important issue to Anomic crises and scandals, a question punishing the non-metropolitan working market forces. The party responded warmly suggests itself: do the country’s politicians class for having the temerity to vote Labour to the notion that speculators would be understand how its economy works? Of in the previous twenty years.) disarmed. They all seemed unaware that course, on the Conservative side there have the only thing which gave speculators their always been MPs who come into politics Until 1987 the Labour Party as an chance was a government foolish enough to defend a parity seen to be out of line with after working in the City and so are familiar institution understood that industry and a currency’s real value … John Smith and with the City’s version of the story. But the manufacturing had different interests from Gordon Brown truly believed that the ERM finance and Labour governments sought City’s perspective provides, to put it mildly, a was a new, magical device which would to limit the power of the City to shape partial view. insulate their decisions about the currency economic policy. After the election defeat against reality.’2 In the UK economic policies which of 1987 the Party’s leadership abandoned benefit the international money men may this approach and Labour began the long, British politician, , the only man in the I e-mailed Mr Gould: was he suggesting that not – generally don’t – benefit that rest excruciating process of wooing the City. current government who understands the City- his colleagues didn’t understand economics? of the economy. Long before the current This reached its climax when Chancellor industry clash? He replied thus: crisis this was demonstrated by the 1980 of the Exchequer Gordon Brown delivered a Conservative budget which began the great speech to a City audience in 2006 in Even before Labour adopted the City I found that most of my colleagues had ‘liberalisation’ of the economy: it abolished which he boasted about the benefits perspective outright, its misunderstanding no knowledge of economics and either exchange controls, raised interest rates Labour policies had brought to the of key aspects of economics were leading steered well clear of economic policy – pre- (officially to reduce inflation but in reality financial sector.1 it to adopt policies that favoured finance ferring to concentrate on more general top- to make holding sterling assets attractive) over industry. The former Shadow Cabinet ics such as foreign or social policy – or else and thus pushed up the sterling exchange 1 http://webarchive.nationalarchives.gov.uk/+/http:// member Bryan Gould wrote in 1994 this they swallowed whole the current orthodoxy www.hm-treasury.gov.uk/ speech_chex_210606. since they had no capacity to take an inde- rate with other currencies, making a large htm about the debate over exchange rate policy slice of British exporting manufacturing in the mid 1980s: 2 The Guardian, 19 August 1995

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“I found that most of my colleagues had no knowledge of economic history suggests that at a minimum such a ‘rebalancing’ will require economics and either steered well clear of economic policy significant intervention by the state in – preferring to concentrate on more general topics such the economy, including in the direction as foreign or social policy – or else they swallowed whole of investment – both of which are deeply unfashionable ideas that the City will the current orthodoxy since they had no capacity to take an oppose. For even though the financial sector independent view.” now contributes only around 6% of UK 5 Bryan Gould, former Labour MP and Shadow Cabinet Minister GDP (of which the international sector is about half) as yet none of the major political parties are willing to contemplate policies opposed by the City. pendent view. Gordon Brown fell into this But he has no power and his resistance latter category – the former. John to the City’s agenda represented by the Smith had only a rudimentary knowledge of Conservative members of the Cabinet is economics, but was a little more confident confined to the occasional comment and Robin Ramsay is the editor of Lobster, on the nuts and bolts of tax and account- 3 described by Paul Foot as ‘one of the most ing. I don’t think these failings are unique to article. In the current Labour Shadow the Labour Party. I think one of the reasons Cabinet no one seems to understand important magazines to be launched in the post for all of this is that economists have made Britain’s political economy – though it may Second World War period in Britain’. His books economics such an arcane science that be that there are individuals who do but include The Rise of New Labour, Smear: most people are frightened off it. feel unable to speak or feel paralysed by the Harold Wilson and the Secret State and, errors of the Party’s years in office. most recently, Well, How Did We Get Here? This is very striking. If you’ve been a A Brief History of the British Economy, literate, intelligent human and you have The leaders of both the Coalition and Minus the Wishful Thinking. been interested in politics for years (if Labour have spoken since the crash of not decades) how do you avoid acquiring 2008/9 of the need to ‘rebalance’ the some economic understanding? And if you economy away from the City towards want to be a member of a government – manufacturing; but no one has suggested the ambition of most MPs – how can you 4 consider doing so without understanding policies that could do this. And no wonder: the British economy? Even if you aspire 3 See for example www.newstatesman.com/politics/ no higher than representing the interests politics/2013/03/when-facts-change-should-i-change- of a constituency (to put an MP’s role at my-mind its simplest) if you don’t understand the 4 For example Chuka Umunna MP, Labour’s Shadow economy, how can you do this? Secretary of State for Business, had a piece in the Telegraph, ‘If we want the UK to grow, we should take lessons from Germany’ (23 February 2012). The In the present coalition government the German lessons for Umunna are: more medium- City-versus-industry clash is apparently sized firms, better education and a state bank – and an ‘active government approach for business and 5 That 6% figure is from the Bank of England. See the understood only by Vince Cable, Secretary industry’, though quite what this last would look like first table in www.bankofengland.co.uk/publications/ of State for Business, Innovation and Skills. was not spelled out. Documents/quarterlybulletin/ qb110304.pdf

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State Building and Tax Regimes in Central the country concerned. Aaron more than the entire tax revenue • By staying on the territorial America explains how El Salvador endured collected. basis of taxation, as is the case Aaron Schneider authoritarian regimes for decades, in Central America, there is in which the military had free rein Aaron rightly argues that the considerable income shifting to Cambridge University Press, 2012 to govern the country in exchange evidence that incentives alter offshore activities. This results for its willingness to use violence investment decisions or expand in a significant loss of tax against the enemies of the country’s economic activity is weak. “Mostly, revenue in each of the countries small but powerful economic elite. these policies erode revenue, create concerned. The situation in Guatemala and special regimes already operating Nicaragua was similar in many in privileged sectors and increase • Other than El Salvador, there In a well-researched and insightful in each country, there was a clear has been a complete absence of respects inequality in public finances”. He book, Aaron Schneider explains trend of the elite intervening believes that incentives weaken transfer pricing laws. Guatemala how the tax regime of a country successfully in the policy making In Guatemala, tax revenues as a tax administration by making the has just adopted such laws as of offers a window into the process process. They thereby hindered percentage of GDP were 7.6% in fiscal system more complicated, and January, 2013. Costa Rica has no of state building and the politics each country’s ability to fund 1990, and are now at 11.9%. In El they create opportunities for tax specific legislation on transfer of economic development. In various public policy initiatives. And Salvador, they were 9.1% of GDP avoidance and evasion as producers pricing, and the concept of analyzing tax reform in each of by allowing the wealthy sectors to related companies is not even in 1990 and now at 13.2%. Costa shift their activity into exempted the Central American countries successfully evade and avoid taxes, part of the legislation in either Rica is currently at 14%. All these sectors. he shows how the states in the the state had little choice but to Nicaragua or Honduras. This countries are well below the region have mobilized few tax draw on the middle sectors, using In Central America, dynamic also needs to be addressed. average of Latin America at 19.4% resources, and have been unable to consumption taxes and levies on economic actors have not only and that of the OECD countries tap with success the most wealthy wages. As a result, tax justice was inserted themselves into leading • Perhaps the countries could of 33.8%. Further complicating the and privileged sectors. As a result, largely subverted. roles in their own countries but benefit from adopting a best inequality remains widespread and issue is the willingness of some of also used them to leverage into practice similar to Dictaman the challenge of state building even Taxes collected are a useful the Central American governments the global markets. If we assume Fiscal in Mexico, that require more elusive. indicator of the legitimate capacity to offer tax incentives, tax holidays, that such engagement is not in the the company executive and the of the state. Finding a way to and free-trade zones, which often public interest, what options do we company’s auditors to certify Aaron takes us on a tax journey of engage dynamic sectors to pay their benefit the elite as they expand into have for addressing the issue? that there are no transfer El Salvador, Honduras, Guatemala, fair share is especially important a globalized economy. In Guatemala mispricing activities that have Nicaragua, and Costa Rica, and for governments in highly unequal for example, the revenue that the A few answers emerge from taken place. explains how the elite engaged societies. There is also a close State failed to collect as a result Aaron’s analysis, and a few are in the tax policy-making process connection between the failure to of the special concessions was apparent from recent developments while carefully protecting their own tax the wealth of powerful elites between 14.6% and 16.3% of GDP around the world. These are as interests. While the process differed and the fragility of democracy in between 2000 and 2005. That is follows: Continued on p12 …

11 SECOND Quarter 2013 Volume 8 Issue 1 TAX JUSTICE FOCUS reviews (contd) news in brief…

State Building and prevent its adoption in individual Automatic Information - and now automatic information Tax Regimes in countries, in light of their strength Exchange: the dam finally exchange, which we’ve long been Central America in the policy making process, it breaks pushing hard for, is making rapid, Aaron Schneider may be possible to implement it as unprecedented progress, globally. part of a broader regional initiative In 2005 the Tax Justice Network In April 2013 the G20 Finance Maybe the time is right for the that could benefit all countries, proposed that ‘all banks and other Ministers’ Communiqué said that Central American countries to and not unduly penalize any one in financial institutions should be it expected ‘automatic exchange of look at some of the success stories particular. There may also be merit required to disclose as a matter information’ between jurisdictions elsewhere. Could they harness to considering rules similar to of legal duty all interest, dividends, to be ‘the standard’. Most notably, the power of the region rather the European Union’s Savings Tax royalties, licence fees and other pressure from the United States than be held back by the historic Directive, so as to access (untaxed) income (including that from on countries to adopt its model of legacy of each country and the income residing outside the employment) that they pay to automatic information exchange via military economic elite that have borders of each country. These are citizens of another country each its Foreign Account Tax Compliance dominated them. Instead of offering some possibilities to address the year, with sufficient information Act (FATCA), which forces financial concessions and competing with current dilemma that the countries being provided to ensure that the institutions to provide worldwide Hermes, god of thieves and bankers, each other, maybe they could look face. recipient can be identified ... This account details for their clients, has seen here contemplating his response at the model of the European information should be automatically been the crowbar for breaking the to automatic information exchange. Union and adopt rules similar In summary, as Aaron argues exchanged between countries dam. to the Common Consolidated eloquently in the book, taxes so that each country has access international architecture of Meanwhile, a separate and different Corporate Tax Base (CCCTB) formalize our obligation to each to data on the income paid to transparency for financial accounts. European scheme to promote being considered now. This will other. They define the inequalities its citizens in other countries to On April 9 the governments of financial transparency is at last eventually lead to a unitary taxation we accept and those that we ensure that it is properly taxed.’ the UK, France, Germany, Italy seeing a logjam broken with model with profit apportionment collectively seek to redress. In and Spain said they had reached Luxembourg, which had served as to each country. With such the modern world, taxation is the We were laughed at. Until recently, agreement on a project to a the most implacable block on adoption, the tax revenue base of social contract that defines what the OECD, which has been develop and pilot multilateral progress inside Europe, accepting all the countries could rise. governments can and cannot do. In the global standard-setter for tax information exchange,’ via that it will have to get rid of that sense, Aaron has rendered an information exchange, had been somewhat FATCA-like processes. banking secrecy. The last internal Under a region-based tax system important service to all countries in insisting that its almost-useless Exchequer Secretary to the UK holdout, Austria, is expected to fold that transcends boundaries, it may presenting the study of the Central ‘on request’ system of information Treasury, David Gauke, called soon, ushering in rapid progress on also be easier to consider other American region as a microcosm exchange was the internationally this ‘an important further step strengthening the project. reforms such as the Financial of the fiscal challenges that exist, accepted standard. A few months in the fight against tax evasion Transaction Tax that was recently and the opportunities available to ago, it made a volte-face – accepting and represents the next stage We are now in the early stages adopted in certain countries in address them. the gold standard of automatic in promoting a new standard in of the emergence of a new Europe. While the elite could Review by Krishen Mehta information exchange to be the goal the automatic exchange of tax

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information’. He’s probably right, up detail how, along with mercenaries, their accountants contort them, TJN now sees opportunities to and, ultimately, a healthy one.’ It to a point, and these are welcome spies and criminals, some of the but according to the genuine create a powerful synergy between quoted TJN’s John Christensen developments. world’s biggest banks are heavily economic substance of what they its unitary tax and its CBC once, then dismissed his words with involved in the offshore sector. do and where they do it. This has campaign. One key component of a wave of the hand. Fast forward six But there is no cause for gained significant attention, with unitary tax is to create a holistic years, and the picture has changed celebration yet: the risk is that rich Gerard Ryle, one of the lead coverage in the Financial Times combined report outlining the total completely, exploring TJN’s position countries will move to protect investigators at the ICIJ, said in and many other publications. As a global operations of a multinational on tax havens in great detail, and themselves from offshore erosion, an interview that ‘the biggest result of this, Transfer Pricing Week in overview. producing a survey with which we leaving the world’s poorer and most surprise’ is that ‘it’s not just the has nominated TJN as one of the would substantially (though not vulnerable countries wide open to super-wealthy… it’s the moderately leading forces in global transfer If a multinational’s combined entirely) agree. abuse. Professor Itai Grinberg of wealthy and it pervades right down pricing. (http://taxjustice.blogspot. report can be broken down on Georgetown University Law School through society to doctors, dentists, ch/2013/04/vote-tjn.html) a country-by-country basis, then As they say, tax havens ‘remain explores these complex and fast- small time developers, they’ve all tax authorities around the world beleaguered as an increasingly changing issues in a comprehensive discovered this world and they are Separately, a long-running TJN will have a massively powerful confident band of “tax justice” May 2013 paper. all using it’. campaign for country by country transparency tool to assess the campaigners pushes for more (CBC) reporting has continued economic substance of what those concerted action on tax evasion http://papers.ssrn.com/sol3/papers. http://www.icij.org/offshore to advance. An April 2013 paper multinationals are doing and where and avoidance, money-laundering cfm?abstract_id=2256587 from the Bank for International they do it, and to tackle that either and the proceeds of corruption.’ In Settlements, ‘The Great Financial by unitary tax or by various other TJN makes waves with uni- a moment of characteristic self- Crisis: Setting Priorities for New means. This will be a big, lengthy Offshore leaks: More Revela- tary tax; Country-By-Country deprecation, the magazine floated tions on Offshore Reporting gains momentum. Statistics’ has called for ‘above all, fight. But we are in this for the long the idea that ‘perhaps the surprise comprehensive financial information hall, and we mean to win it. is that action has taken so long’. from banks on a consolidated and The International Consortium In December 2012 TJN published global basis, covering their balance The Economist shouldn’t be so of Investigative Journalists (ICIJ) a seminal paper by Professor sheets but also their income The Economist and Offshore modest. The long wait for action on has shown how the wealthy have Sol Picciotto entitled ‘Towards statements’. offshore is in no small part down Unitary Taxation’, which examines been making extensive use of The Economist magazine, to its skilful rearguard action. We’re the current transfer pricing rules the offshore sector to ‘gain tax If the public interest requires the leading cheerleader for delighted to see it finally embracing that are effectively falling apart advantage and anonymity not country-by-country reporting, globalisation, has made a dramatic the new agenda that we’ve helped and allowing giant multinational available to ordinary people’. in order to head off financial volte-face on tax havens. Six set. corporations to escape tax, and instability, it also requires it to years ago it ran a special report The ICIJ has gone through more proposes a radical alternative: prevent rampant tax avoidance by and cover story, whose leader than two million files from the unitary tax, where corporations large companies. http://www.bis. was subtitled ‘Tax Havens are an British Virgin Islands and other are not taxed according to the org/publ/work408.htm unavoidable part of globalisation jurisdictions. Its reports set out in complex legal forms into which

13 SECOND Quarter 2013 Volume 8 Issue 1 TAX JUSTICE FOCUS news in brief (contd)

Russia, Offshore and the International Investment Bank

Strange signals emerged from Russia, one of the great victims of the global offshore system. In April, President Vladimir Putin decreed that officials have until July 1 to divest themselves of offshore financial assets, in a bid to stem François Hollande has called for the corruption and capital flight and to eradication of tax havens. “de-offshore” the Russian economy.

But on April 19th Russia’s vice- François Hollande And The Prime Minster, Igor Shulalov ‘Eradication’ of Offshore reportedly proposed creating an ‘internal offshore zone’ based in the The President of France, François International Investment Bank (IIB), Hollande, told reporters on April a Soviet-era institution. The bank, 10 that he intended to ‘eradicate which is independent of its member tax havens in Europe and the countries, enjoys diplomatic status world’. Hollande admitted that a and is ‘protected from court scandal involving a government and administrative interference’, minister, Jérôme Cahuzac, had according to an Interfax report. left him ‘wounded, shocked and bruised’. http://english.pravda.ru/business/ finance/19-04-2013/124343-russia_ Cahuzac, a budget minister in offshore-0 Hollande’s government, admitted on April 2 that he had €600,000 in a Swiss bank account. He has now resigned from the government and is under investigation for tax fraud.

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