Occupation Jersey, Pat Lucas

The Finance Curse: Introduction

It is now well known that many countries which depend on earnings from natural resources like oil have failed to harness them for national development. In many cases it seems even worse than that: for all the hundreds of billions of dollars sloshing into countries like oil-rich Nigeria, for instance, such places seem to suffer more conflict, lower economic growth, greater corruption, higher inequality, less political freedom and often more absolute poverty than their resource-poor peers. This paradox of poverty from plenty has been extensively studied and is known as the Resource Curse.

This book asks whether some countries with oversized domestic financial centres may be suffering from a similar, and related, phenomenon. 

We find strong evidence that the answer is yes – and not just for reasons related to the global financial crisis that erupted in 2007/8. Perhaps more surprisingly, this phenomenon that we are calling the Finance Curse is similar in many ways to the Resource Curse: there are big overlaps in both their causes and their effects.

 The Finance Curse has been evident for decades - and if untreated it may well endure for years or even decades after the latest crisis has blown over.

Every economy needs its financial plumbing, and for decades academic studies suggested that bigger is generally better when it comes to financial sector growth. The crisis has called all that research into question. New evidence is starting to emerge from the IMF, the Bank for International Settlements and others, revealing that above a certain size, finance turns bad.

Our book, drawing on our many years of hands-on experience of both resource-dependent countries and finance-dependent ones, goes far beyond the boundaries of their research to create an unprecedented comprehensive body of evidence about the perils of oversized finance.

Despite the trillions flowing into and through the City of London, for instance, Britain performs worse on major human development indicators – inequality, infant mortality, poverty, and more – than Germany, Sweden, Canada and most of its other rich-country peers.  Each ailment has many explanations, but oversized finance appears to be a major contributor.

 Country capture

 The Finance Curse is a story about “Country Capture” – where an oversized financial sector comes to control the politics of a finance-dependent country and to dominate and hollow out its economy.  Some elements of this ‘capture’ are already well understood but our book introduces a wide range of new ideas and analysis.

In large finance-dependent countries such as Britain or the United States, the Finance Curse’s causes and effects are masked by background noise in large, raucous democracies. But in the small finance centres and tax havens such as the Cayman Islands or Cyprus, these complexities are stripped away and the phenomenon is laid bare in purer, more crystallised forms which are easier to see and understand.

The tax havens, which we have studied extensively, carry important lessons — and warnings — for larger finance-dependent countries.

The book

This book starts with a brief overview of the Resource Curse. The main sections that follows, on the Finance Curse, start by looking at the most important and most widely publicised claims made by defenders of large financial sectors. 

We then examine these claims in turn and reveal why nearly all of them are wrong. Along the way we expose catastrophic errors in studies that claim to demonstrate to policy makers the ‘contribution’ of finance. 

Next, we show that not only is the ‘contribution’ of finance usually much smaller than advertised, but it is worse than that: a wide and diverse range of harms flow from having an overly large financial centre. One can plausibly say that for many countries, the net ‘contribution’ of finance is likely to be negative – in some cases strongly so.

The picture is — of course — not a simple one. Many of these effects, particularly the political ones, cannot be quantified. The political damage is probably more acute in small countries hosting financial centres, while in larger countries such as Britain or the United States the damage is probably felt more heavily in economic terms.

And just as some resource-rich countries like Norway or Chile seem to have successfully avoided or managed the Resource Curse, some finance-dependent countries like Switzerland or Luxembourg seem to have tempered or even avoided the Finance Curse.

But some countries such as Britain and the United States genuinely do seem cursed by their oversized financial centres.  A sector widely regarded as the Goose that Lays the Golden Eggs often turns out to be a very different bird: a Cuckoo in the Nest, crowding out, hollowing out and undermining other economic sectors.  Very often, the interests of the financial centre conflict directly with the national interest.

Our analysis has profound implications. Financiers routinely cry ‘don’t tax or regulate us too much or you will be ‘uncompetitive’ and we will run away to Geneva or London or Hong Kong’ – and far too often the politicians quail and give them what they want. These threats and fears are perhaps the most important reasons why it is so hard to regulate finance appropriately, and why big banks are bigger and potentially more dangerous today than before the crisis erupted.

Our Finance Curse thesis cuts through this Gordian knot. Taking it on board puts power right back in the hands of democratically elected officials. If too much finance is harmful, then it makes clear political and economic sense to regulate and tax this sector appropriately. If the end result is less financial activity, then that will be beneficial. It is therefore absolutely not necessary to participate in the ‘competitive’ race on lower standards of financial regulation, and the obvious course of action is national leadership on better standards, even in the absence of collective international agreements.

Finally, this is not a book about how global financial centres can transmit damage to other countries, important though that subject is. It is about how an over-sized financial sector can harm its own host country.

Copyright 2013 Nicholas Shaxson and John Christensen

The Finance Curse is available as a free download at the Tax Justice Network’s website. It is also available as a Kindle ebook, published by Commonwealth.

Eric Schmidt on Tax

Earlier this week Eric Schmidt, the chairman of Google, claimed to be ‘perplexed’ by the debate about tax in the UK. On Start the Week on Radio 4 he said:

What we are doing is legal. I’m rather perplexed by this debate, which has been going in the UK for some time, because I view taxes as not optional … I view that you should pay the taxes that are legally required. It’s not a debate. You pay the taxes … If the British system changes the tax laws, then we will comply. If the taxes go up, we will pay more, if they go down, we will pay less. That is a political decision for the democracy that is the United Kingdom.

Schmidt’s view that ‘you should pay the taxes that are legally required’ sits a little awkwardly with Google’s efforts in the United States to secure a tax holiday on its overseas earnings. According to Bloomberg, in 2011 Google joined Sony and Cisco in a coalition that aimed to change the rules in a move worth hundreds of billions of dollars. Much of this money will return to the US from tax havens that are used to minimise the companies’ tax liabilities in other countries, as well as in the US.

Yet in a recent Observer article Schmidt justified the low rates of tax it pays in the rest of the world by referring to the higher taxes it pays in the US:

Most of Google’s engineers are based in the US and that’s where much of our product development takes place. So we pay more taxes in the US than in any other country – around $2bn in corporate income taxes to the US government in 2012.

So the company has been lobbying for tax breaks in the same country that it uses to justify lower taxes elsewhere. Google books profits in a very low tax jurisdiction like, say, Ireland, and then lobbies to get them back to the US (and so to its shareholders in the form of dividends). This looks very much like the actions of a company that thinks taxes are optional.

In the same Observer piece, Schmidt struck a note of injured bewilderment.

When legislators are doing the lobbying and companies are articulating the law as it stands, it’s a confusing spectacle for everyone.

Well, maybe. But if Schmidt will go around saying that he doesn’t think taxes are optional when his company is trying to opt out of its tax obligations by lobbying legislators he can hardly be surprised at the resulting confusion.

For more on Schmidt’s crazy-making claims, see this on the Tax Justice Network’s blog.

(The author would like to thank Google for its help in cobbling this piece together from articles on the internet.)

The BBC on Quantitative Easing, Again

Last year the BBC’s head of multimedia Mary Hockaday told an audience at the LSE that:

On the economy, audiences have been telling us for months they are desperate to understand – but that the stories are complex and full of jargon.
 
She went on to ask:
 
How many of you would be happy explaining quantitative easing to a friend in the pub? I mean really?
 
Charlie Beckett tells us that ‘not a single hand’ went up in the audience.
 
It’s a fair enough question. But it raises another  … why don’t we understand quantitative easing? Is it possible that the dear old BBC is part of the answer?
 
This latest attempt, from Stephanie Flanders, is a sight less confusing than some of the Corporation’s previous efforts, which involved baffling similes about filling cars up with imaginary petrol, piggy banks, and who knows what else.* But while it is true enough that the Bank of England creates new money ‘at the touch of a button’ it still doesn’t explain exactly how the process works, nor does it put QE in the context of the monetary system as a whole.
 
 
Quite why the BBC still fights shy of explaining where money comes from, I don’t know. Do they journalists simply not know? Or are they just unwilling to discuss such things devant les enfants?
 
*The Flanders clip has replaced one in which the presenter excitedly told viewers that ‘it’s like filling a car up with imaginary petrol!’ I hope it is still available online somewhere.

Fraud in Science

 

The quote below comes from a New York Times feature by Yudhijit Bhattacharjee on Diedrick Stapel, a Dutch academic found to have made up data:

 

What the public didn’t realize, he said, was that academic science, too, was becoming a business. “There are scarce resources, you need grants, you need money, there is competition,” he said. “Normal people go to the edge to get that money. Science is of course about discovery, about digging to discover the truth. But it is also communication, persuasion, marketing. I am a salesman. I am on the road. People are on the road with their talk. With the same talk. It’s like a circus.” He named two psychologists he admired — John Cacioppo and Daniel Gilbert — neither of whom has been accused of fraud. “They give a talk in Berlin, two days later they give the same talk in Amsterdam, then they go to London. They are traveling salesmen selling their story.

(h/t @AnnPettifor for the link, by the way)

Only tiny numbers of scientists resort to outright fraud to make their work more more marketable. But the pressure to secure scarce resources works in much more subtle ways. We shouldn’t imagine that researchers who make up results are the only – or even the most important – problem in science.

(By the way, Jeff Schmidt’s Disciplined Minds provides a very good discussion of the pressures that bear down on scientists and other professionals.)

The Things They Say About Orwell

Jason Cowley has written an essay in the Financial Times in which he worries that the contemporary literary-political landscape lacks “a figure with the significance and commitment of George Orwell or HG Wells”.

There’s much to be said about the article. But I just want to highlight one thing. Cowley tells us that Orwell “might best be described as a Tory anarchist”. This is a very strange thing to write. Orwell called himself a “Tory anarchist” up until the mid-thirties, after which he said that he was a “democratic socialist”. And his writing after the Spanish Civil War consistently explores what democratic socialism is, how it relates to particular national conditions, and what would happen if we failed to achieve it. The shift is important.

Orwell the “Tory anarchist” is a figure that one can happily place in the “literary-political landscape”. The phrase itself surprises, is still shiny with paradox. Meanwhile, Stalinism has covered “democratic socialism” with a guano of cant. But Orwell meant something by democratic socialism. The idea was important to him. He took it seriously.

Cowley says that his magazine is “still searching for the contemporary equivalent of George Orwell, let alone Christopher Hitchens, for the writer who works in multiple forms and who seeks in his or her work to unite truth, literature and politics”.

(Let’s leave Christopher Hitchens to one side for the moment. This is meant to be a short post.) Cowley will struggle to find “the contemporary equivalent of George Orwell”, if he doesn’t know who Orwell was.

(Incidentally, I last read The Lion and the Unicorn at school. But looking at it again, I was amused to see that he had written this about the programme of “an English socialist government” -

Nations do not escape from their past merely by making a revolution. An English Socialist government will transform the nation from top to bottom, but it will still bear all over it the unmistakable marks of our own civilization, the peculiar civilization which I discussed earlier in this book. It will not be doctrinaire, nor even logical. It will abolish the House of Lords, but quite probably will not abolish the Monarchy.

Only scoundrels claim that Orwell would have agreed with them, but this does happen to be quite close to what I argue for in Maximum Republic. Hitchens, of course, was a flashy and crowd-pleasing anti-monarchist. Or rather, he was in 1990.)

 

Reason vs Unreason: The Mother of all Distractions

“Supporters of Anglo-American policies after 9/11 can draw on a model of Enlightenment that has become something like the conventional wisdom among intellectuals and commentators. This Enlightenment is understood above all in the context of a struggle between the rational and the irrational. Enlightenment is identified with reason in the broad sense of empirical inquiry and rational analysis. Its enemies are identified as ‘those forces of religious reaction, conservative prejudice, and fascist irrationalism whose inspiration derived from … the Counter-Enlightenment’.* [...] Enlightenment is normally invoked in the context of a struggle with its external enemies: reason is threatened by faith, science is threatened by superstition, and so on.”

The Threat to Reason (London: Verso, 2007), p.24