A Primer on Tax Havens

A Primer on Tax Havens

Tax havens are something that should be applauded, not persecuted.

What we’re seeing throughout the world today are international bureaucracies and politicians from high-tax nations launching a very coordinated attack against these jurisdictions.

In effect, what’s happening is that the high-tax nations of the world want to set up something equivalent to OPEC. But instead of a cartel to keep energy prices high on behalf of oil producing countries, it’s an effort by politicians in high-tax nations to create a cartel that will keep taxes high.

Most economists recognize that cartels are a bad idea.

And if it’s a bad idea for there to be cartels in the private sector, it’s a horrible idea to have cartels among governments; and yet that’s what the Organization for Economic Cooperation and Development (OECD), the European Commission, and various politicians from high-tax nations are trying to do.

The problem is, politicians for the most part don’t like low-tax policies. How do politicians win elections, how do they reward contributors, how do they steer money to their supporters? They do it by imposing high tax rates and then using the money to divvy up among those that are on their side.

So why are they trying to attack tax havens? Because tax havens are the most powerful instrument of tax competition.

Imagine you’re back in your Economics 101 class in college, learning about monopolies and oligopolies and cartels and competition.

Say you only had one gas station in a town—that one gas station could charge high prices. It could maintain inconvenient hours. It could offer shoddy service. But if you have five gas stations in a town, all of a sudden those gas stations compete with each other. They have to lower prices. They have to be attentive to the needs of consumers.

We’ve seen the same dynamic with governments around the world.

Today, labor and capital are a lot more mobile, which means that taxpayers around the world have options to move either themselves or their money across borders if governments are trying to impose high tax rates.

Just like if you have one monopoly gas station in a town and all of a sudden new gas stations open up, you can decide, “I’m no longer going to shop at that gas station that’s trying to rip me off. I can shop at the gas station that’s actually giving me a better deal for my money.”

Now, the bad news is that the politicians have figured out what’s going on. This is why we’re seeing all of these international bureaucracies trying to come up with ways of attacking tax havens. Chief among them is the OECD.

The OECD is sort of a multiheaded beast.

The division that’s doing the anti-tax competition campaign is the Committee on Fiscal Affairs. This committee has a representative of the tax police from every member nation. So imagine if you take the IRS from the US, HMRC from the UK, all the various other tax police and put them in a room and say, “You can remake the world according to your fantasies. What would you like it to be?” Well, of course you’re going to get crazy ideas… and that’s exactly what this Committee on Fiscal Affairs came up with.

Now, a little bit of detail: what defines a tax haven?

The number-one thing on the OECD’s list is no or nominal taxes. So if you are a free-market, laissez-faire jurisdiction with a low tax burden, the OECD wants to punish you. There is no blacklist from the OECD of high-tax countries—the countries that are actually punishing growth and impoverishing people with bad policy. No, there’s only a blacklist of jurisdictions that are doing the right thing.

But it’s not just the OECD. The European Commission has all sorts of various anti-tax competition, pro-tax harmonization schemes. The United Nations even has a crazy idea from something called the Committee of Experts on International Tax Matters. Of course, you can imagine the types of experts that are on that committee.

By the way, I can’t resist pointing out the irony of something. If you work for the OECD, you get a very generous salary, and you work in an elaborate chateau over in Paris.

And guess what? By international treaty, you pay no tax.

So we have these well-fed bureaucrats working at the OECD in the nice chateau—with its own private wine cellar—and they fly around the world in business class telling jurisdictions with low taxes that they’re doing something wrong and should be blacklisted, and yet these bureaucrats pay zero tax.

Certainly at the very least, the first thing that should happen is they should learn what it’s like to be a taxpayer before they start interfering with the sovereign right of jurisdictions to set up their own tax policies.

When you listen to the politicians, what do they always say? “We’re trying to stamp out tax evasion.” Well, all the academic evidence out there says one thing: tax evasion is linked to one variable—tax rates.

You can shut down all the low-tax jurisdictions, but it’s not going to affect tax compliance so long as tax rates are high.

So if you really want to have better tax compliance, the key is to have lower tax rates. In other words, we have a totalitarian, oppressive, anti-growth, impoverishing way to try to reduce tax evasion—which won’t even work, according to all the academic evidence. Or you have a pro-growth, pro-freedom way that respects the national sovereignty of other jurisdictions’ ways of dealing with tax evasion—and that’s lowering tax rates. Unfortunately the politicians almost always choose the wrong approach.

The issue of tax havens isn’t entirely economic, however; there’s a moral component as well.

The majority of the world’s population still lives in jurisdictions where fundamental human rights are not respected. You could be a political dissident in some place like Russia, or an ethnic minority like an ethnic Chinese in some place like Indonesia or the Philippines, or you could live in a totalitarian state such Venezuela. Or you could have a family in Mexico and if you file your taxes honestly, corrupt people inside the tax authority might sell that information to kidnapping gangs, and then you get one of your kid’s fingers in the mail one day.

The point is, there are people all over the world who have a fundamental human rights need and interest in protecting their financial privacy.

In other words, tax havens are a refuge for people who need financial privacy to protect themselves. It’s worth noting that the Swiss financial privacy laws were actually strengthened and codified back in the 1930s to help protect the German Jews who were hiding their money from the Gestapo.

In short, the whole assault on tax havens is economically and morally reprehensible. Tax havens are something that should be applauded, not persecuted.

Dan Mitchell is an economist and senior fellow at the Cato Institute. He’s a strong proponent of tax competition, financial privacy, and fiscal sovereignty. You can read his blog here.

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