This Top 5 comes from interest.co.nz’s Gareth Vaughan.
See all previous Top 5s here.
We hear a lot about profit shifting by multi-national corporations. Often this enables companies to effectively book revenue earned in one country in another, much lower tax jurisdiction. An example of this that I’ve written about features Visa and Mastercard, who are able to book their New Zealand revenues in Singapore, where they pay very low tax rates.
Now, a new paper, The missing profits of nations, estimates that 36% of multinational profits globally are shifted to tax havens.
The paper’s by Thomas Tørsløv of Danmarks Nationalbank, Ludvig Wier of the Danish Ministry of Finance, and Gabriel Zucman of UC Berkeley and the National Bureau of Economic Research.
Since the beginning of the 2010s, the statistical institutes of most developed countries—including the major tax havens—have started releasing macroeconomic data known as foreign affiliates statistics. Following international guidelines, these data record the wages and profits of foreign firms, defined as firms more than 50%-owned by foreign shareholders (i.e., typically subsidiaries of foreign multinationals). These statistics greatly improve our ability to observe where multinational companies operate and book profits, in particular the amounts they book in tax havens.
Using these data, we propose a simple method to infer profit shifting by multinationals to low-tax countries. By combining foreign affiliates statistics with national accounts data (which cover all firms—foreign plus local—incorporated in a given country) we estimate the profitability of foreign vs. local firms within each tax haven. This exercise reveals that foreign firms are much more profitable than local firms in tax havens. Leveraging this differential profitability, we provide bounds for the amount of profits shifted by multinationals in each haven. Using new bilateral balance of payments data, we then re-allocate these shifted profits to the countries where the profits have been made, or where the multinationals’ parents are headquartered.
The specificity of our approach—its global and bilateral nature—sheds light on key aspects of globalization.
Our main findings can be summarized as follows. In our preferred estimate we find that 36% of multinational profits—defined as profits made by multinationals outside of the country where their parent is located—were shifted to tax havens globally in 2015. We establish that U.S. multinationals shift comparatively more profits: in 2015, U.S. firms shifted more than half of their multinational profits, as opposed to about a quarter for other multinationals. The governments of high-tax European Union countries appear to be the prime losers of global profit shifting, with a reduction in domestic profit of about 20%, as opposed to 10% in the United States and 5% in developing countries.
The raw numbers are not insignificant.
Starting with absolute numbers, in our preferred estimates $143 billion in profit was shifted out of the United States in 2015 (23% of the global total), $216 billion was shifted out of the European Union (36% of the global total), $76 billion out of other OECD countries (12% of the total) and the rest (29%) from non-OECD countries. More than 70% of profit losses originate from high-income countries.
But never fear. Shareholders in the multinationals, surprise, surprise, are not losing out.
By our estimates, about half of the globally shifted profits accrue to the shareholders of U.S. multinationals (many of which, but not all, are Americans). Because equity ownership is concentrated (see e.g., Saez and Zucman, 2016), profit shifting reduces the effective tax rate of the wealthy, which may contribute to increasing inequality. A quantitative analysis of these redistributive effects across income and wealth groups would make it possible to make progress towards a full-fledged macro-distributional analysis of globalization. This raises major conceptual and empirical challenges for future research.
Australia’s new government has launched a wide-ranging review of the Reserve Bank of Australia. It comes at a time when the stimulatory actions of central banks during the Covid-19 pandemic are under scrutiny against the backdrop of soaring inflation.
ABC business reporter Gareth Hutchens suggests “one of the last taboos in central banking,” their ability to create money, should be discussed in the review.
I have to say, based on the confusion, ignorance and misleading information around on this topic, including from our politicians, ex-politicians, media and pundits, this would be a useful discussion on this side of the Tasman too.
In New Zealand we’ve got the Reserve Bank’s Funding for Lending Programme rumbling on, which has conjured up $12.66 billion for banks to date, and we also had the Large Scale Asset Purchase (LSAP) Programme. Through this LSAP, or quantitative easing (QE), the Reserve Bank bought $53.5 billion worth of NZ government and local government bonds on the secondary market from banks during 2020 and 2021.
Putting a bright official spotlight on these actions, explaining how they work, why they were undertaken, what they mean, and thoroughly questioning them, would be a useful public service.
Here’s Hutchens (who goes on to delve into direct monetary financing):
In 2020, a younger generation of Australians saw for the first time how the federal government could conjure vast sums of money out of thin air.
Suddenly, in the first year of the pandemic, the government came up with hundreds of billions of dollars to subsidise the incomes of millions of households in the lockdowns.
Where did it come from?
The government “raised” the money by asking the Australian Office of Financial Management (AOFM) to sell bonds on its behalf, which led to an explosion in government debt.
But could the government have raised money a different way?
Why would a government that issues its own currency, and so has the power to create money to pay for things, want to fund its deficit spending with borrowed money?
It’s a fascinating question.
And it wades into controversial territory that Reserve Bank governor Philip Lowe tried his best to avoid during the lockdowns.
— Financial Review (@FinancialReview) July 20, 2022
In an episode of our Of Interest podcast last month I spoke with Reserve Bank Director of Money and Cash Ian Woolford about central bank digital currencies (CBDCs).
CBDCs are a hot topic in international central banking circles and something we should be paying attention to.
Dong He, the Deputy Director of the Monetary and Capital Markets Department at the International Monetary Fund (IMF), tells an IMF podcast that CBDCs could allow ordinary citizens to have direct access to central bank money in a user-friendly way. Below is some of the transcript.
Dong He: At the moment, the central bank liabilities take two forms. One is currency- notes and coins, basically cash you and I hold in our wallets. I don’t hold a lot of cash these days, but the other form of central bank money is reserves held by commercial banks. That’s accessible only to commercial banks for the big institutions, not accessible to individuals. Now, central bank digital currency really provides a new form of central bank money. It has characteristics- it can be designed to have characteristics of both cash and reserves or deposits. Reserves are really deposits held by commercial banks with the central bank.
Dong He: Central bank digital currency is a new form of central bank money. It’s digitalized in the sense that it can be held on your mobile phones. That allows us ordinary citizens to have direct access to the central bank money in a very user-friendly way. This is really a reflection of the very fast progress in digital technology, the proliferation of mobile devices. We can hold our cash in a app or in a wallet on our mobile phones. And that can be, as I said, a combination of different features. For smaller balances, it can be anonymous, it can be transferred peer to peer without going through the intermediaries that’s the central bank itself. And it has features that can be integrated with the digital economy. If we look far into the future, the internet of things is going to be a very exciting development.
Dong He highlights how CBDCs could be a threat to intermediaries such as banks and other ticket clippers. This disintermediation threat is why banks, including local bank lobby group the New Zealand Banker’s Association, are cautious about the CBDC concept. They could lose business and relevance.
Tara Iyer [the interviewer]: … in terms of credit cards and debit cards, when we pay by cards in supermarkets or anywhere else, the money goes directly from a bank account, what is going to be so different about CBDCs and how would CBDCs differ from either using physical cash, one, and by using credit cards, two? How would they help ease the transactions? And we heard there are a lot of opaque things that go on behind the scenes, even though it might seem quite simple, if you could be, it’d really help us, if we would elaborate a bit more on that.
Dong He: Yeah. Very good question, Tara. One way to think about this is that of course, from the user point of view, when you and I pay with a credit card or debit card, if you want to buy a coffee in the cafeteria, you swipe your card and it’s done, and it’s very cheap from your point of view, but merchants who are providing, who are accepting the payments, they typically have to pay quite a high fee to their banks. It’s usually 1.5% at least, sometimes as high as four or 5%. That goes to the bank. So, that’s why some merchants actually don’t accept the credit cards. And that’s a reflection also of the very complicated clearing and settlement structure behind settling a credit card transaction, right? So, it’s multilayered. Particularly when you go to visit a foreign country, when you are a tourist, the expenses add up to quite a bit.
Dong He: And if you want to make a cross border transfer, for some corridors involving lower income countries, you have to pay more than 10% of, let’s say you want to send $200 back home to your parents, $20 of that would go to the service provider. Central bank digital currency certainly provide the potential that this cost will be drastically lowered to users. You don’t feel the difference, but to a lot of merchants, that’s a big thing. And for cross border payments, remittances for migrant workers, those will be much cheaper in the future. You certainly can envisage that.
Tara Iyer: I see. So, it’s going to reduce transaction costs significantly for cross border payments. And in today’s world, it’s increasingly globalized, cross border payments play a huge role in the international financial system.
Dong He: Also of course, credit cards and debit cards, they have to be based on bank accounts. Exactly. You have to own a bank account. I should have started by saying that. One of the reasons why we think CBDC could help promote financial inclusion, because you can reach unbanked people. As you know, we have a lot of people in the world who don’t have bank accounts and CBDC certainly provides possibility for them to access without only a bank account, with a much simpler onboarding processes as well.
In the Woolford interview he noted the Reserve Bank hasn’t yet made a formal decision on whether it will launch a CBDC. Although conceptually disintermediation of banks by a CBDC could be possible, Woolford highlighted the Reserve Bank’s focus on financial stability, suggesting private money will likely continue to dominate even if a CBDC is introduced.
Nonetheless he told the Of Interest podcast: “It is not our role to protect the interests of incumbents. We are interested in competition and innovation and I think it’s fair to say we are of the view there has been a lack of competition and innovation in the New Zealand financial system, which is dominated by banks.”
Watch this space.
The well publicised economic woes in Sri Lanka saw the country defaulting on its sovereign debt in May, becoming the first Asia-Pacific country to do this in more than 20 years.
Sri Lanka is one of many so-called “developing” countries to borrow from China via the Belt and Road Initiative. The Financial Times has probed further, finding lots of problematic loans through the Belt and Road Initiative, which the FT describes as “a scheme that ranks not only as Beijing’s biggest foreign policy gambit since the founding of the People’s Republic in 1949, but also the largest transnational infrastructure programme ever undertaken by a single country.”
This article’s behind the FT’s paywall, but well worth a read if you can access it.
In several countries in Asia, Africa and Latin America, the project risks metastasising into a series of debt crises. The issue is of crucial importance to the developing world because of the vast scale of the Belt and Road Initiative. Since the programme was first proposed in 2013 the value of China-led infrastructure projects and other transactions classified as “Belt and Road” in scores of developing countries had reached $838bn by the end of 2021, according to data collected by the American Enterprise Institute, a Washington-based think-tank.
But the loans that finance those projects are now turning bad in record numbers. According to data collected by Rhodium Group, a New York-based research group, the total value of loans from Chinese institutions that had to be renegotiated in 2020 and 2021 surged to $52bn. This was more than three times the $16bn of the previous two years.
This sharp deterioration brings the total of Chinese overseas loans to have come under renegotiation since 2001 to $118bn — or about 16 per cent of the total extended, Rhodium estimates.
China has had to manage a number of defaults on sensitive overseas loans in recent years but the cumulative impact of the multiple renegotiations that Beijing currently faces amount to the country’s first overseas debt crisis.
“This is the worst period of debt pressure since the start of the Belt and Road Initiative,” says Matthew Mingey, senior research analyst at Rhodium Group. “The Covid-19 pandemic took existing problems and supercharged them.”
Many of these loan renegotiations involve write offs, deferred payment schedules or a reduction of interest rates. But as increasing numbers of Belt and Road loans blow up, China has also found itself sucked in to providing “rescue” loans to some governments to prevent their debt distress from morphing into full-blown balance of payments crises.
A recent episode of Bloomberg’s Odd Lots podcast was also interesting on the topic of China and sovereign debt. It featured Jay Newman, a long-time emerging markets debt specialist and a former portfolio manager for Elliott Management. Newman said when a sovereign owes money to a range of investors, China effectively takes a “super senior” position, and won’t tell other investors how much it’s owed. This, Newman implied, is frustrating for other investors and may hinder their efforts to work together. China doesn’t play by the rules western investors expect.
Picking up the story in a town in Ecuador named Zaruma, Bloomberg’s Peter Millard and Stephan Kueffner tell a fascinating and disturbing tale of illegal mining around the world.
This is quite an opening:
Deep in the lush forests of southern Ecuador, in a cloud-covered village perched on the western edge of the Andes, a hole opened in the Earth one night late last year.
Small at first, it began to slowly expand and, over the course of an hour that evening, proceeded to swallow huge chunks of cobblestone road in the historic center of Zaruma. Panic spread among residents. They fled their homes—grand, early 19th century structures bathed in tropical pastels—and scurried to safety.
The sinkhole was caused by gold mining. According to Bloomberg, Zaruma “is loaded with bullion-rich rock, some of the best in the world.” For more than 1,000 years people have apparently been digging it up.
There are so many tunnels and branches and offshoots that no one—not even the country’s top engineer on the job, Ivan Nunez—knows where they all go.
It ‘s far from a problem unique to just Ecuador.
Nunez, who’s been tasked with concocting a plan that will end the illegal mining and stabilize the ground under Zaruma, sounds daunted at times by the magnitude of the assignment. “It’s out of control,” he says. Across much of the developing world, authorities offer a similar lament. The value of gold and all sorts of other metals—copper, cobalt, silver, tungsten—is just too high for outlaw miners to pass up, especially after the rally that marked their ascent at the start of the century was supercharged by the easy-money policies that global central bankers have pursued throughout the pandemic.
Miners are wreaking havoc in Mali, Kenya and the Congo, stunting the size of harvests and funding rebel armies. And in South American countries all around Ecuador, they’re razing forests, spilling tons of mercury into Amazon rivers and destroying habitats. The continent’s vast mineral wealth coupled with its extensive organized crime network make it a growing hotbed of such activity. In Zaruma, gangs loosely affiliated with Mexican cartels control some of the mines.
All of this has caught the attention of international authorities.
In April, Interpol released a statement warning about the surge in illegal mining. Six years earlier, it had estimated the industry had reached about $48 billion globally. It hasn’t officially updated those figures yet but noted in its April release that the spike in gold prices and the growing presence of gangs, especially in Latin America, were accelerating the trend.