The G8 development dividend

Kevin Watkins
14 June 2013
Comment

What with talk of shell companies, beneficial ownership and financial regulation it’s tough to work out exactly what’s at stake in the G8 talks on tax and transparency. Throw in a vocabulary that comes with the dark arts of tax evasion – the ‘Double Irish with a Dutch Sandwich’ problem is a personal favourite - and you’re heading into the near-impenetrable fog of summit negotiations. The communique that emerges from the fog will have a major bearing on efforts to tackle some of the most pressing international development challenges.

The road connecting talks between leaders from the world’s richest countries to its poorest people is long, winding and dotted with incomprehensible signposts. Yet if the summit takes the right decisions, it could mobilise the revenues needed to sustain inclusive growth and extend basic services to millions of vulnerable people.

If that seems far-fetched, consider the issue of transfer pricing. This is the practice of shifting profits from high-tax to low-tax jurisdictions through the manipulation of prices in intra-company trade. On one estimate – and probably a conservative one – sub-Saharan Africa was losing US$34bn annually between 2008 and 2010. That’s around 3% of GDP, or almost one fifth of government revenues. In other words, losses from trade mispricing approximate to what governments in Africa spend on basic education or primary health care. Cutting these losses could fund the investments needed to put millions of children in school, expand opportunities for health care and deliver clean water, it could also reduce dependence on aid.

Transfer pricing is just part of the equation. Sub-Saharan Africa is plagued by illicit financial transfers associated with corruption, criminal activity, capital flight and domestic tax evasion. On one estimate, for every US$1 in aid that Africa received in 2009, the region lost US$3 in illicit financial flows. Much of the outflow travels through shell companies and trusts registered in off-shore centres such as the British Virgin Islands and the Cayman Islands, where opaque reporting standards keep trillions of dollars from even the most rudimentary public scrutiny.

Curtailing illicit financial flows from Africa would transform the development financing environment, potentially unlocking the capital to finance investments in infrastructure and business, in addition to generating revenues.

G8 countries also stand to gain, including the G8 host country. Fully one-quarter of the profit on UK foreign direct investment was reported in the Netherlands and Luxembourg; much of it channelled through special entities created to avoid taxation and to facilitate transit through low-tax centres such as Ireland (hence the ‘Double Irish and Dutch Sandwich).

Fuelled by G8 concerns over the erosion of tax bases – and public anger – the tax and transparency reform agenda is gaining momentum. Canada, a major source of investment in the extractive sector, has now taken steps to make oil, gas and mining companies declare the payments they make in developing countries. Even Switzerland has announced moves towards greater transparency in the commodities-trading sector. Meanwhile, an EU law modelled on the US Dodd-Frank Act  will require public and private companies in the extractives and logging sectors to report on all payments to governments, broken down by country and project.

Of course, one G8 summit is not going to resolve all of the issues on the table. The underlying problem is that the world lacks the multilateral rules, norms and institutions needed to combat tax evasion and illicit financial transfers. In a world of mobile finance, taxation policy remains anachronistically national – a stark example of global economic governance failure. For all that, the G8 summit can start to chart a new course – and the communique needs to provide a road map. Here are five details to watch out for:

  • Public registries. There will be some encouraging language on the need for national registries on beneficial company ownership in every tax jurisdiction. This is critical because so much illicit activity and tax evasion occurs through shell companies and trusts in offshore centres. But real scrutiny demands that the registries are accessible not just to tax authorities, but to civil society, journalists and the wider public.
  • Companies and trusts. This one is a detail that matters. All of the G8 countries have signalled a broad agreement to require reporting on beneficial ownership by companies, but trusts are not always included. That apparently technical detail matters. Much of the US$1.4bn siphoned out of the Democratic Republic of Congo between 2010 and 2012 operated through corporate structures involving trusts.
  • Action plans. The G8 countries need to go beyond adopting impressive principles, to implementing action plans – and the summit communique should include a timetable for countries to set their own houses in order. Negotiators from the United States wax lyrical about the need for strengthened regulation in offshore centres, but they are less vocal on one of the world’s most secretive locations for shell-company registration – Delaware. As Global Witness, a campaigning group, has pointed out, Britain’s banks are all-too-open for the business of illicit financial transfers: Teodorin Obiang, the son of the President of Equatorial Guinea, used a British high-street bank to purchase $18m of auctioned art in 2011 through a shell company. Britain’s leadership should extend to the announcement of a plan for decisive action at home.
  • Links to the development agenda. As Marta Foresti pointed out in her recent blog on transparency, improved data, information flows and greater openness are a necessary condition for development – but they will unlock reams of new information. Tax authorities in the poorest countries lack the financial, technical and human capabilities to process information, let alone investigate the transfer pricing and illicit transfer activities of major companies. Liberia is not well placed to track the profits of foreign investors involved in iron ore production through the maze of affiliates’ shell companies, trusts, foreign bank accounts and offshore accounts that are used to minimize tax liabilities. That is why the G8 action plan needs to support national and regional capacity building, and demand that agencies like the World Bank and the IMF get serious about tackling tax evasion.
  • Cooperation with the G20. If the world’s richest countries cannot deliver meaningful action on tax and transparency, it is not clear that the G8 has a purpose. By that token, this is a global problem that needs global action, which is why the communique must signal the beginnings of a common agenda with the G20.
It won’t be easy, but success in these areas would produce an outcome that breaks with the tradition of recent G8 gatherings – a summit outcome that delivers something more than the photo-shoot.

Kevin Watkins