Following the 2008 global economic crisis, many in the labour movement have been supporting a fundamental reform of taxation systems as an alternative to neo-liberal public spending cuts.

The campaign for ‘tax justice’ has, at its heart, the reform of the tax havens, a phenomena that has grown dramatically in recent decades and attracted the critical attention of many NGOs and academic researchers. Foremost amongst these is the global wide ‘Tax Justice Network’ (TJN), which provides much of the intellectual ammunition contained in Tax Havens – how globalization really works by Ronen Palan, Richard Murphy, Christian Chavagneux (Cornell University Press, 2010).

Richie Leitch reviews the book for us below. You can order a copy here.

This comprehensive treatment of tax havens covers their scale, structure, function and history, along with coverage of the political debates about the havens and  efforts to reform them.

The authors starting point is that we need to seriously rethink the nature of tax havens.  These are complex and multifaceted entities – concerned with avoiding regulation and scrutiny as much as taxation – whose operations crucially rely upon a body of professional agents (corporate lawyers and accountants). They are not ‘rogue territories’ acting in opposition to state authority – many are themselves the result of deliberate state strategies to follow a developmental path centre on housing economic transactions, as their histories make clear.  The havens are also at the very heart of the new global economy, key sites for modern production and financial flows, for which they act as intermediary points. In this role they house ‘incorporeal assets’ rather than actual productive activity (manufacturing, assembly work), acting as booking centres or places of registration for economic activities carried out elsewhere by non-residents.

Analytically it is difficult to specify precisely the nature and scale of tax havens. They clearly overlap wider phenomena such as the world’s many ‘preferential tax regimes’ and ‘offshore financial centres’, they are both offshore and mainland based (including both the Cayman Islands and the City of London) and vary greatly in size. The authors settle for a working definition of the havens as ‘legislative centres’, states or sovereign jurisdictions, who are able to write their own laws on taxation, regulation and disclosure. Though academic research has produced different lists of jurisdictions that act as tax havens there is a common core of fifty plus states that serve as a basis for investigating their operations.

Having said that it is difficult to gather information on their size and weight in the global economy, given their secrecy provisions and lack of regulation. Murphy et al draw on existing research to support their claims on the economic significance of the havens. Specifically, the havens are estimated to have nearly one third of foreign direct investment from US and European corporations passing through their jurisdiction; there are about two million ‘International Business Corporations’ registered here; and growing numbers of hedge funds. The havens are also major sites for international criminal activities (money laundering, embezzlement) and the illicit flight of capital from poor to rich nations. Trying to figure out how much tax is lost through all this evasion and avoidance is another major challenge, with little information disclosed. For wealthy individuals the sums could be around $250 billion, on an estimated value of ‘offshore’ assets in the region of $9 – 12 trillion. Data for companies is even sketchier in the absence of country by country accounting methods that would identify profits flowing from particular economic activities. We do know the multinationals use tax havens for profit reallocation and intra MNC trade across borders (so called ‘transfer pricing’ ) is a major vehicle for corporate tax avoidance.

There is more information to hand on the techniques used by the havens in their daily activities. At root these territories are engaged in a competitive struggle to attract economic activity (or ‘taxable events’ ) to their domain from the actual physical location in which they take place. They do this by crafting a tax regime and supporting legislation that diminishes the legal connection of such activity to a country of origin. The means to do so are numerous.

Rich individuals can opt for a ‘permanent tourist’ status (deemed always to be in transition and hence exempt from tax laws based on actual residence) or move their capital offshore into trusts or funds registered in havens.  Companies are increasingly relocating the jurisdictional base of their activity, using haven based subsidiaries and International Business Corporations to avoid tax, regulation and scrutiny. Supplementary practices of ‘redomicilation’ (shifting company location to obstruct investigations into tax avoidance) and  ‘corporate inversion’ (making offshore subsidiaries the parent company) bolster their position.

The havens are also developing other financial services and vehicles – offshore banks and banking licences, insurance, hedge funds, private equity funds – and moving into new areas like casinos, shipping and internet based activities. None of this would be possible however without the army of corporate professionals (lawyers, accountants, financial advisers) who design, advertise and operate these services for their rich clients. The authors point out the key role that the Big Four international accounting firms play in the offshore world, actively drafting and redrafting avoidance schemes to keep one step ahead of regulatory authorities, and ‘capturing’ offshore centres like Jersey, where they have ensured local laws suit their interests. Any movement to fundamentally reform the havens must reckon with this corporate support network.

The historical development of the tax haven shows just how closely they are linked to state strategies, and in particular the key role of the British Empire in their growth and expansion. Many of the pioneers were actually smaller sovereign jurisdictions within larger federal structures (the US states of New Jersey and Delaware, Swiss cantons like Zug and Zurich) aiming to attract economic activity away from their competitors through a redrafting of tax policy. The British Empire itself encouraged the development of havens within many of its overseas jurisdictions, as one way to provide an economic base for colonial outposts (reducing the costs of empire) and as a ‘natural’ outgrowth of the financial – commercial orientation of its ruling elite – reflected in the success of Bermuda, the Bahamas, British Virgin Islands, the Caymans and the Channel Islands as major havens today.

It was however the establishment of the Euromarket in the 1960s – a new form of financial transaction involving non residents in non UK currencies – that powered the City of London and its offshore satellites into premier position amongst the world’s tax havens.  Leading banks began ‘moving’ their operations to these havens, for the usual reasons, turning a small territory like the Caymans into the world’s fourth largest financial centre, although it only employs around 5000 people. Today the City of London and its satellites hold one third of all international banking assets and liabilities. Other major capitalist powers followed this strategy, helping the tax haven become a truly global entity; new entrants in the Middle East, the Pacific and the transitional economies have since joined the fray.

What has been the economic impact of all this? The authors distinguish here between the role of havens in developed and developing societies. In the developed world, tax competition and financial instability are major issues. As capital has become increasingly mobile and international in outlook, so individual states and sovereign territories have been drawn into a competitive struggle to attract economic activity, offering ever more generous tax concessions and contributing to falling corporate tax levels.

Whilst neo-liberals claim this is all beneficial, promoting economic efficiency and growth, the critics counter that tax competition only acts as a redistributive mechanism, benefiting rich elites and sucking resources out of higher tax jurisdictions.

The role of the havens in recent global financial crises is a more pressing concern at the moment.

We are increasingly coming to recognise their function as centres of a gigantic parallel offshore shadow economy, whose secrecy and opacity lie at the heart of the financial upheavals that afflicted East Asia and the West in the last decade. Arcane financial instruments and mechanisms that dominated discussions on the 2007/08 global crisis – structured investment vehicles, hedge funds, securitisation of sub-prime mortgages, futures and derivatives –  are all closely tied to the offshore world, relying on this location to cover the tracks of their operations. One example the authors quote is the role of offshore trusts in the 2008 financial meltdown, acting as fund-raisers for mainland banks (like Northern Rock) through complex debt repackaging practices, but, in the process, so masking ownership and liability that the onset of the sub-prime crisis threw up unknown amounts of debt that only governments could ultimately secure.

At the other end of the economic scale, tax havens also have serious effects upon developing societies, acting as conduits for illicit capital flight  and distorting sustainable economic growth.  The capital flight phenomenon covers money transfers linked to corruption, the laundering of criminal gains, as well as the more ‘respectable’ pricing of intra – firm MNC trade. Estimates of the volumes suggest up to $1.6 trillion dollars may be flowing cross-border each year, primarily from developing and transitional economies to the West, a sum dwarfing the amount of overseas aid travelling the other way. There are however some tax havens that have seen significant economic growth in their financial sectors, becoming major offshore players. Explanations for this vary – but as the authors note, for many small territories there are few alternatives to secure survival in the global economy. The cost is high however. Tax havens have few links to their surrounding economies, and little by way of agricultural or manufacturing activity to fall back on, if they encounter any reversals in the external economic environment.

The history of efforts to reform and regulate tax havens forms the final part of the book.  Many initiatives launched ‘from above’ have proved too limited in scope and ambition, proving easy prey for counter measures used by the havens themselves to obstruct reforms. This applies both to bilateral approaches – agreements signed between individual havens and mainland authorities –  and the multilateral efforts of OECD and G7 fora. More recent EU projects to tackle preferential treatment of non-residents and diverging rates of business taxation, may offer more bite.

The authors believe the future for tax haven reform is brighter. Firstly there is the emergence of a grassroots opposition movement, originating in development NGOs (Oxfam, Christian Aid) and taking more definite form with the creation of the Tax Justice Network in 2002. This movement has shone a forensic light on the havens and their operations and produced a number of innovative reform proposals. One especially significant idea is for a country-by-country reporting of MNC activity, identifying where their subsidiaries are based, the profits made by each unit and the prices charged in intra firm trading, all of which would help clamp down on tax avoidance routed through the havens under the guise of current ‘consolidated’ accounting practice.

A second advance relates to the impact of the events of 2008/09, the global credit crunch and a more localised crisis centred around a breach of banking secrecy laws in Liechtenstein, which have fundamentally changed the debate around tax haven reform. The latter showed just how much the havens rely on secrecy  for their operations. Current efforts to share tax information with mainland authorities (TIEAs) are insufficient according to the authors, more of a PR stunt than of substance, underused or undermined by havens themselves introducing extra measures to preserve secrecy arrangements and frustrate reforms like the EU Savings Tax Directive.  As for the global economic crisis this revealed the key role of the havens as sites for the destabilising financial practices, massive debt creation and opacity lying at the heart of the turmoil  – “what is structured offshore has a significant impact onshore” (p244).

Murphy and co believe breaking the secrecy arrangements of the havens holds the key to any effective reform, a move that will have to be imposed from outside given their unwillingness for self-regulation. Two especially powerful options here are the country-by-country accounting practices already noted; and a proposed extension of the EU Savings Tax Directive, requiring disclosure of the identity of offshore bank customers and of tax information to their country of residence. This could, they argue, undercut much of the offshore ‘tax planning’ currently going on. How this will be brought to bear, and pressure exerted on authorities to enact desired changes, is something the book says too little on. Then again, perhaps that is a chapter the trade union movement itself can help write through its own campaigning for tax justice…