Tax spillover, development and global governance

Andrew Baker  - Faculty Professorial Fellow, SPERI

The IMF spillover analysis was an impressively robust 86 page document and a useful first step forward in establishing the concept.  It also successfully established corporate tax spillovers as a real world phenomenon with concrete economic effects.  Yet the development NGOs we have spoken to remain sceptical about the IMF approach and are searching for alternatives.

Two factors are at the root of this scepticism.  First, is the question of whether econometric equations using panel data deployed by the Fund can ever fully capture spillovers.  In our revised spillover framework we propose evaluating the relationship between corporate taxes, a variety of other taxes and administrative procedures and practices that constitute tax jurisdictions in their entirety.  In contrast, the Fund analysis confines itself to two categories of spillover: base spillover – where taxable profits in a jurisdiction shrink through profit shifting activities and reduced investment; and strategic spillover, – the act of lowering corporation tax in response to developments elsewhere.  The IMF authors acknowledge that their empirical analysis has significant limitations due to patchy data on allowances, especially in developing countries, meaning average effective rates of corporate tax are often much lower than statutory rates (p.52).  The risk here is that the Fund’s approach significantly underestimates spillover effects and their costs to developing countries.  This was partly confirmed by Ireland’s spillover analysis, which claimed there were no identifiable spillover effects on developing countries from its corporate tax regime, despite a well-known aggressive re-routing avoidance scheme known as the ‘double Irish with a Dutch sandwich’.

The second factor is one of turf, or who gets to speak ‘authoritatively’ on spillover analysis.  If the Fund’s equation becomes the accepted and established method for calculating spillovers (and it does enjoy first mover advantage) that would also cast the Fund and its staff, given their skill sets, as primary interlocutor on tax spillover issues.  This in turn raises questions about whether the politics of the Fund and its organizational culture are development friendly.  At best the Fund’s record and reputation in developing countries could be said to be mixed and chequered.  It also raises questions about how the Fund itself might use spillover analysis and for what purpose.  A well known joke in Fund circles is that IMF stands for ‘It’s Mostly Fiscal’.  Crucially, the Fund provides a source of capital for countries experiencing fiscal distress and uses loan agreements to promote ‘sustainable public finances’.  In the hands of the Fund, there is a fear that spillover analysis could simply become an instrument for improving fiscal balances in developing countries, rather than enhancing the wealth and well-being of these countries.  The appropriate global governance of spillover analysis, requires a much fuller debate.

Our initial proposal for a revised form of spillover analysis, produced for the UK parliament’s All Party Parliamentary Group on Inclusive Growth is intended to inform debates on appropriate global tax governance.  Over ten years ago, my co-author Richard Murphy wrote one of the first templates for something called ‘Country by Country reporting’ (CBCR), which is designed to increase the obligations on multinational corporations to report what economic activity takes place where.  Beyond complex debates about the technicalities of CBCR, the process of translating it into domestic and international law through the OECD, the EU and the G20, does appear to be increasing transparency and changing appropriate behavioural norms.  For example, our conversations with senior figures in the corporate world does suggest reluctance to route profits through tax havens is growing due to the existence of CBCR.

When the G8 announced its support for country by country reporting at the Lough Erne Summit in 2013, there was a crucial inconsistency in the stance taken by David Cameron who chaired the Summit.  On the one hand, Cameron was launching a new international standard to make international corporate tax avoidance activities more difficult.  On the other hand, he was also lauding plans to reduce the UK’s corporate tax rates to the lowest in the G20. Scrutiny of corporations’ accounts was increasing, but many governments continued to facilitate a systematic lowering of corporate tax payments.

The new tax spillover framework we have proposed is intended to subject tax administration authorities and their procedures to closer scrutiny, as a counterpart to the emerging CBCR regime, addressing the inconsistency revealed at Lough Erne.  What my co-author and I have essentially written is a prototype first draft of a form of country by country reporting for governments and tax authorities.  It is intended to provide the basis for an ongoing form of international peer review that changes conceptions of appropriate state behaviour.  We are at the start of a process of working with a variety of stakeholders and experts to develop and refine this framework over the coming years.