(MENAFN- Daily Outlook Afghanistan) Globalization has gotten a bad rap in recent years, and often for good reason. But some critics,not least US President Donald Trump, place the blame in the wrong place,conjuring up a false image in which Europe, China, and developing countries have snookered America's trade negotiators into bad deals, leading toAmericans' current woes. It's an absurd claim: after all, it was America – or,rather, corporate America – that wrote the rules of globalization in the firstplace.
That said, oneparticularly toxic aspect of globalization has not received the attention itdeserves: corporate tax avoidance. Multinationals can all too easily relocatetheir headquarters and production to whatever jurisdiction levies the lowesttaxes. And in some cases, they need not even move their business activities,because they can merely alter how they 'book their income on paper.
Starbucks, forexample, can continue to expand in the United Kingdom while paying hardly anyUK taxes, because it claims that there are minimal profits there. But if thatwere true, its ongoing expansion would make no sense. Why increase yourpresence when there are no profits to be had? Obviously, there are profits, butthey are being funneled from the UK to lower-tax jurisdictions in the form ofroyalties, franchise fees, and other charges.
This kind of taxavoidance has become an art form at which the cleverest firms, like Apple,excel. The aggregate costs of such practices are enormous. According to theInternational Monetary Fund, governments lose at least $500 billion per year asa result of corporate tax shifting. And Gabriel Zucman of the University ofCalifornia, Berkeley, and his colleagues estimate that some 40% of overseasprofits made by US multinationals are transferred to tax havens. In 2018, 60 ofthe 500 largest companies – including Amazon, Netflix, and General Motors –paid no US tax, despite reporting joint profits (on a global basis) of some $80billion. These trends are having a devastating impact on national tax revenuesand undermining the public's sense of fairness.
Since the aftermathof the 2008 financial crisis, when many countries found themselves in direfinancial straits, there has been growing demand to rethink the global regimefor taxing multinationals. One major effort is the OECD's Base Erosion andProfit Shifting (BEPS) initiative, which has already yielded significantbenefits, curbing some of the worst practices, such as that associated with onesubsidiary lending money to another. But, as the data show, current efforts arefar from adequate.
The fundamentalproblem is that BEPS offers only patchwork fixes to a fundamentally flawed andincorrigible status quo. Under the prevailing 'transfer price system, twosubsidiaries of the same multinational can exchange goods and services acrossborders, and then value that trade 'at arm's length when reporting income andprofits for tax purposes. The price they come up with is what they claim itwould be if the goods and services were being exchanged in a competitivemarket.
For obvious reasons,this system has never worked well. How does one value a car without an engine,or a dress shirt without buttons? There are no arm's-length prices, nocompetitive markets, to which a firm can refer. And matters are even moreproblematic in the expanding services sector: how does one value a productionprocess without the managerial services provided by headquarters?
The ability ofmultinationals to benefit from the transfer price system has grown, as tradewithin companies has increased, as trade in services (rather than goods) hasexpanded, as intellectual property has grown in importance, and as firms havegotten better at exploiting the system. The result: the large-scale shifting ofprofits across borders, leading to lower tax revenues.
It is telling thatUS firms are not allowed to use transfer pricing to allocate profits within theUS. That would entail pricing goods repeatedly as they cross and re-cross stateborders. Instead, US corporate profits are allocated to different states on aformulaic basis, according to factors such as employment, sales, and assetswithin each state. And, as the Independent Commission for the Reform ofInternational Corporate Taxation (of which I am a member) shows in its latestdeclaration, this approach is the only one that will work at the global level.
For its part, theOECD will soon issue a major proposal that could move the current framework alittle in this direction. But, if reports of what it will look like arecorrect, it still would not go far enough. If adopted, most of a corporation'sincome would still be treated using the transfer price system, with only a'residual allocated on a formulaic basis. The rationale for this division isunclear; the best that can be said is that the OECD is canonizing gradualism.
After all, thecorporate profits reported in almost all jurisdictions already includedeductions for the cost of capital and interest. These are 'residuals – pureprofits – that arise from the joint operations of a multinational's globalactivities. For example, under the 2017 US Tax Cuts and Jobs Act, the totalcost of capital goods is deductible in addition to some of the interest, whichallows for total reported profits to be substantially less than true economicprofits.
Given the scale ofthe problem, it is clear that we need a global minimum tax to end the currentrace to the bottom (which benefits no one other than corporations). There is noevidence that lower taxation globally leads to more investment. (Of course, ifa country lowers its tax relative to others, it might 'steal some investment;but this beggar-thy-neighbor approach doesn't work globally.) A global minimumtax rate should be set at a rate comparable to the current average effectivecorporate tax, which is around 25%. Otherwise, global corporate tax rates willconverge on the minimum, and what was intended to be a reform to increasetaxation on multinationals will turn out to have just the opposite effect.
The world is facingmultiple crises – including climate change, inequality, slowing growth, anddecaying infrastructure – none of which can be addressed without well-resourcedgovernments. Unfortunately, the current proposals for reforming global taxationsimply don't go far enough. Multinationals must be compelled to do their part.
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