Tag Archives: Tax havens

Alice in Wonderland Economics

The book that I would recommend to anybody wishing to understand the economy is Lewis Carroll’s ‘Alice in Wonderland’. Not as a book to replace all the books that can be found in the economics section of any library, but as a first text which to give a good grounding in all things economic. What any budding economist needs to know about the economy is that things are not as they appear.  Alice is able to get through a door for which she is to tall by drinking from a bottle labelled ‘drink me’. After drinking that she shrinks in size to such an extent she is now able to walk through the door. She can be both giant and of normal stature in Wonderland. Later in the book she meets the Cheshire cat, who not only can become invisible but is able to become visible in place other than that in which he first appeared.  What the good economist should do is to be prepared to surrender their belief in a world of common sense. Just as for Alice the rabbit hole is a portal to another world, so a public corporation can equally be a portal to a world in which strange behaviours predominate.

One good example of this strange new world of economics is the strange behaviour of Starbucks. I was puzzled when I read that Costa Coffee a British coffee shop chain was more profitable than Starbucks. Starbucks seemed to be everywhere and I could see no evidence from what I observed that the business was doing badly. Then on reading more I realised that is was yet another example of a company not wanting to earn profits. Yet all the textbooks state that all businesses are profit maximisers. Profits earned are subject to corporation tax, so companies will do all they can to minimise their profits and tax bills. This is usually done by having a head office located in a low tax country such as Eire and that head office then imposes such a high level of charges on the business (for services provided) that the profits are reduced to such  a low level that the company is either ceases to be liable for tax or it only has to pay a minimal amount.

However the process becomes stranger and stranger the more it is examined. Usually the ‘charges’ that are paid to the Head Office are through a chain of offshore companies remitted to the multinationals homeland. Yet the profits declared then are only small part of the companies income. Such companies sit on vast cash piles which are located in various tax havens. This cash pile increases the companies wealth and the price of its shares. Shareholders are in many cases happy to have a reduced dividend but a reduction more than balanced by an increase in the value of their shareholding. Banks recognise that the shares held in such as Starbucks, Apple. Google etc. are extremely valuable assets. They will then lend large sums of money to these people against the security offered by there shares. These loans which are rolled over from year to year and which can be increased in line with the increase in the value of these shares. Loans have the advantage of not being income and are therefore exempt from tax. Many shareholders are content to enjoy their income in this way. Although there are a significant number who would still want to enjoy a cash return from their investment.

There is a passage in ‘Alice in Wonderland’ where Alice comes across a group of the Red Queen’s servants painting white rose red. This because the Queen wanted red roses and they mistakenly planted white roses. They hope that the Queen won’t notice the red paint. Similarly there is the many thousands of financial advisers who role in life is to paint earned income as anything but earned income. Anything that is either not liable for tax or which is taxed lightly. Unlike the Red Queens gardeners they are very successful in that the tax authorities never see through the disguise.

Apple is described as the world’s largest business. Although they are  the company with the largest sales revenue are not necessarily the most profitable. Much of the profit earned is changed into something quite different, such as a charge to Head Office at least in all the European countries. What profit Apple declares is largely resting in some offshore tax haven beyond the reach of the US tax inspector.

What any economist needs to realise is that to understand the behaviour of multi-national companies,is that the economics textbook is of little use. The book describes the behaviour of an ideal and imagined company, not a real one.

I could go further and relate other features of the book to the real economy. There are frequent examples in the book of nonsense verse, such as the song of the Walrus and the Carpenter. What the economist needs to know is that in the real world economy there are plenty such similar examples. All too often when a company goes bankrupt it is usually one that has received a successful audit. The auditors seem unable to notice those gaping black holes in the company accounts. This is because they use a set of industry agreed accounting conventions when analysing the companies accounts, conventions that serve to conceal rather than reveal mismanagement and a shortage of funds. While company accounts are not nonsense verse, they are often intended to deceive as often as they are intended to reveal the true state of a company’s affairs.

Politicians come the nearest to uttering nonsense verse on the economy. They are found of uttering what seem to be profound mantras on matters of the economy, but which are in fact meaningless phrases. Phrases such as the country has ‘maxed out its credit card’ a phrase uttered by a politician, when his government was doing all it could to encourage a borrowing binge to kick start the economy back to life.

Why I recommend Lewis Carroll’s book for any budding economist is that it reveals to the reader a strange world that is and is not ours. It prepares for them recognising the unfamiliar and strange amongst the familiar and it is often the strange and unfamiliar that make seemingly inexplicable behaviour explicable. Conventional or bad economists are unable to see beyond the fog that is the received economic wisdom. This is why these economists were unable to see the financial crash of 2008 looming in front of them, when all the danger signals were showing red.

Billionaires and the Scrooge Factor

Dickens’ Scrooge is treated as an agreeable story to be told to children at Christmas, yet this is to misunderstand Dickens intention. This was a book for adults one that was intended to show the destructiveness to the human personality of acquiring money for money’s sake. There was a real life Scrooge, a John Ewles who went so far as to sleep with the horses in the stable as he used the warmth generated by the horses so he would not have to light a fire in his house. There is no doubt that the CEO’s of the largest business corporations have read or at least are familiar with the Scrooge story, but what they fail to realise is that their behaviours mirror that of Scrooge.

A friend told me that the largest business corporations in the world have cash assets totalling three times the world’s GDP. Checking with the internet I find that the cash reserves of Apple and Microsoft combined exceed those of the British Treasury.  Apple has the world’s largest cash reserves of £95 billion. Although I cannot confirm my friends figures, I know him sufficiently well to know that he has not made them up. (The source I think was Oxfam but I could not find the figures I wanted on their website). The usual reason given for these huge holdings of cash being stored in overseas  tax havens to avoid losing their cash to the taxman. Not paying tax is one of the moral imperatives of the new Scroogian morality.

(The following text only makes sense with an economists understanding of money. Money has no intrinsic value, it is only a claim on wealth and its value is determined by how large a share of wealth can be claimed by each unit of money. If the total sum of money to spent is greater than the monetary value of the goods and services produced in an economy, then when that  money is spent those who have the greatest sums of money will outbid those who have least for the available goods and services and so push up prices. This is in essence is inflation, if the price inflation is modest people will retain their faith in money and will continue to treat it as a store of value. If as in Germany in 1926 if price increases are high and of ever greater frequency, people lose faith in the currency and a hyper inflation develops as money becomes increasingly worthless.)

However what I want to suggest is that such holding such vast sums of cash is an act of stupidity.  The first thing to realise is that these companies can’t use this money in any productive way. The sums held are so vast that if these companies decided to spend that money, it would significantly increase the rate of inflation and reduce the cash value of their holdings. The London property market until recently demonstrated this effect, it was a market where billionaires and multinationals seeing it as a safe haven for their money have successively bid up the price of London properties to astronomical levels. If they started to spend their cash piles other sectors of the world economy would experience similar levels of inflation.These businesses are trapped by their piles of cash, they cannot do anything that would reduce their value. If Apple for instance spent £10 billion from its vast cash pile on investing in a new business venture, the shareholders would be up in arms, as that reduction in the cash reserves would be matched by a reduction in the value of their shares. Apple, Microsoft and the other cash rich multi-nationals are held prisoner by their money, they can do nothing which might diminish their cash stock piles as in doing so they would risk the wrath of their shareholders. Rather than these CEO’s being the giants of the world of business, they are reduced to rather pathetic figures do all they can to protect their cash hoards. They are held captive by their money.

I do wonder if this practice of hoarding and nurturing their cash piles does not make the owners more risk adverse. I own an Apple Iphone but instead of planning to upgrade to a newer model at the end of the contract, I might just instead keep my current model. It does seem that the innovative flair that made Iphone a ‘must buy’ is now lacking in the company. Has the desire to hoard cash diminished the funds for innovation?

When this cash is spent it not only devalues the currency but also the politics of a country. One example is the Koch brothers, millionaire oil traders who have spent billions backing those candidates who do their bidding or who have an agenda similar to theirs. In consequence in the Koch influenced US Congress the majority of the Congressmen oppose any action that would effective ameliorate the effects of climate change and reduce oil sales. It is possible to say that the melting of the Arctic ice is a consequence of the action of the Koch brothers. What happens when this occurs is a narrowing of the political agenda to such an extent that Congress and other political institutions come to represent the views of their financial backers rather than the people.

One consequence of this is that these companies spend some of their cash pile on ‘economic toys’. Such toys have very little productive value but whose ownership brings status and prestige to their owner, they do little for the companies bottom line. However the sums spent on such toys are but a minuscule proportion of their cash piles. Nobody ever made money from owning a Formula 1 racing team, but the money squandered on such an enterprise is merely the small change from these huge cash piles.

The problem for the owners of these vast money mountains is that they dare not risk moving them out of their havens for fear of devaluing the value of these cash reserves. The Bill Gates foundation that does so much good in the developing world, is a ring fenced fund, quite separate from the Microsoft business, which has its own huge cash pile.  The Dicken’s solution to the Scrooge complex is for the rich man to give his money away. While such a move would be welcomed because their cash holdings are so vast, any such spending would risk destabilising the world economy. They just have too much money for their own and the world’s good.

Unfortunately just as with Scrooge their desire to protect their money forces them into many anti-social acts. The British press barons have campaigned relentlessly to leave the EU. One of their main motives for doing so was to prevent any future European wide body from organising a more effective system of tax collection. It was said by the IMF that Britain is the largest tax haven in the world and these group of anti social men will do anything to prevent any action that would lead to them paying more tax. The fact that leaving the EU would do tremendous damage to the British economy is of no consequence to them. Even the threat to their wealth from a fall in property prices  consequent of Brexit is a price worth paying to protect their tax exemptions. Just like Scrooge these men care only for their money and little for their fellow men. Aristotle said a nation governed by the rich was a plutocracy, however that term does not do justice to spirit of meanness that prevails in contemporary Britain, a better word to describe the country is a Scroogocracy.

There is a solution to this problem. When I first studied economics in the 1960s the top rate of income tax was 79%. Now it a wealth tax of a similar rate was applied to these cash piles they would be reduced to an amount that was insufficient to destabilise the world economy. It would also reduce the attractiveness of acquiring these cash piles. One curious fact that would result is that the governments of the world would face restrictions on how they used this cash. They could spend some to alleviate their budget problems, but if they spent all this windfall at once, hyper inflation would result and there would be a major destabilisation of the world economy.  Most of that money would have to sit untouched in the treasuries of the world’s central banks.

One objection to my proposal is that all this money is hidden in tax havens beyond the reach of the world’s governments. However these tax havens are little more than the foreign branches of the major banks. The money might appear on the balance sheet of a Bahama’s bank, but in reality it is banked in London. If the banks and the owners of these cash piles wanted to keep up the pretence that this money was really in the Bahamas, capital controls could be imposed preventing this money being transferred to London or New York. There is little that the vast sums that are banked in these tax havens could be spent on locally. They would just harmlessly rot way.  What I am recommending is the destruction of these cash piles, as they do little for the world economy and they create a risk adverse culture among the super rich, which means economic growth rates are much lower than would be otherwise. I would recommend a policy in which either the holders of these vast cash piles adopted a voluntary ‘potlatch’ in which they destroyed their useless cash piles or they surrendered them to government where they could stored as part of the national reserves, where they could do little harm.