Tax Break

Who said tax is boring?

Did you hear the one about…..?

Once upon a time timing was everything

Comedians  fear the moment in their careers when they lose their timing. Evidently not the Cypriots.

This week Cyprus proudly assumes the six month rotating presidency of the EU. Last week, after knocking on the doors of friends and distant neighbours to see if they could spare a dime, they finally asked the EU for a bail-out to prop up the banking system that has, understandably, been heavily exposed to that accident of comic timing, Greece. So far, embarrassing but containable.

However, at the end of May – fully aware that the EU presidency was just around the corner and that the bailiffs were approaching fast across the Mediterranean, the Finance Minister announced a new tax regime for Intellectual Property. Put in brutally simple terms, find an excuse for painting income routed through Cyprus as deriving from intellectual property – in the broadest sense – and they will tax you at the exorbitant rate of …2%. Never mind that they have one of the lowest tax rates in Europe. Never mind that they are begging for money from their colleagues. They are clearly grabbing some more of the zero sum international economic cake and biting off the hands that feed them.

Of course, just as Churchill explained the use of diplomatic language when declaring war on Japan: ” When you have to kill a man, it costs nothing to be polite”, they put up a smokescreen. Rather than offering 2% tax it was announced that an 80% deduction would be granted for investments of this nature, the headline tax rate being an already  rock-bottom 10%. Brilliant. Like the rest of us are really stupid.

“From each nation according to its ability to each nation according to its needs” – Marxist-Cypriot philosophy?

Now being the product of a daft and naive western liberal education, I would have said that the immorality of this scam was pretty slam dunk. Not so. If their past pronouncements are anything to go by, members of right-wing economic, and totally loony right-wing libertarian economic, fish (sorry, think) tanks would have jumped on the first carbon guzzling plane to kiss cheeks with the Cypriot president (who happens to be a communist which makes the mind really boggle) in gratitude for saving the world economy.

Why? I will explain.

In the good old days of the twentieth century, when there were barriers to trade, when international travel took so long you had to check luggage, when there were great recessions and depressions, when one world war followed another – newly socially concerned governments would fret over their sovereign tax systems. The received wisdom on all sides of the economic divide was that “tax neutrality”  – trying to make sure that taxation did not cause distortions in economic decisions – was a desirable goal. On the other hand, as with everything else in the real world, this policy was more honoured  in the breach than in the observance. Individuals were exposed to progressive taxation – a form of redistribution of income. Consumption taxes such as VAT were regressive in that poorer people spent a higher proportion of their income. There were Pigouvian taxes such as those on alcohol and cigarettes (and more recently carbon emissions) designed to compensate for social costs. And then, there was tax relief  to encourage savings. 

Another option

Overall, the attitude to tax neutrality for most nations was the temporal equivalent of the British approach to the Church of England – a good lamppost when you are looking for something to lean on. However, what was important was that electorates could vote into office  parties that promoted “Big Government” (like in Britain, France and Germany) “Small Government” (like the Americans like to  think they were doing) or “No Government” (like the Greeks didn’t realise they were doing). Thus, tax rates were free to be high, low or, if you happened to be living it up in the Cayman Islands , non-existent (go on – how many people reading this could pinpoint Georgetown on a map at the first attempt?).

And just as the Americans, Japanese and Europeans were starting to understand the Laffer Curve (the relationship between government revenue and tax rates) and were reducing tax rates in order to actually increase revenue, globalization kicked in.

Have a Tax Break. Have a Fair Trade Kit Kat

Of course for most people who don’t walk around with straggly hair, beards and open leather sandals (or happen to be the Commie president of Cyprus) ,  the liberalization of the world economy has been generally viewed as a good thing. Competition encourages efficiency and, as long as there are certain bells and whistles included such as the amazing Fair Trade movement aimed to help producers in developing nations, more power to the global elbow. Lower tax rates have also proved a boost – average corporate rates came down drastically across the world from the 1980’s onwards as noted above without destroying the ability of sovereign governments to determine fiscal policy.

Now an unaffordable luxury. Like the 12.5% tax rate

But then things started to get out of hand. Not satisfied with economic competition, countries started to go for tax competition. The star player in this game was Ireland with its 12.5% corporate tax rate that made them so successful in attracting American investment. Other countries followed and the race  to the bottom commenced. Meanwhile, both the OECD and the EU introduced various measures against harmful tax competition to try and contain the epidemic – but these inevitably led to ever cleverer schemes and enhanced competition. The result (leaving aside the Euro Crisis) is less ability of governments to choose between social welfare and survival of the fittest which, judging  by the nature of opposing major parties in many national parliaments, should be a major part of the democratic process.

However, reading the literature of such right wing organizations as the Cato Institute and the Adam Smith Institute you would think the turbo competition of nations like Cyprus and common-or-garden tax havens is an economic ideal. The theory, as is so often the case with right wing thinking as far back as Adam Smith himself , is simple (dare I say, simplistic). Governments will be forced to lower their tax rates which will increase Tax Neutrality, ensure that economic flows are not distorted and leave individuals in charge of their fates.

This is every bit as cynical as Cyprus’s latest game. What they are actually saying is that harmful tax competition, such as the utterly contrived Cypriot IP regime,  is good because it does away with “Big Government”. That is wrong. The question of size of government should be decided, as far as still possible,  at the ballot box and not by the underhand tactics of small nations.

So, the members of those illustrious think tanks should  indeed be flocking to the Cypriot president whose nation is, not for the first time, contributing to the hammering of Big Government. As a Communist, while he would presumably wail at the thought of the decimation of government , he should at least recognize  the concept of the ends justifying the means. What a joke.

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