A study, commissioned by the Society of Trust and Estate Practitioners, concludes that offshore financial centres have a contributing rather than damaging effect on neighbouring industrialised countries, business journalist Michael Klein reports.
The report, International Financial Centres and the World Economy, claims a large body of economic research over the last 15 years contrasts the popular view, and often repeated criticism of offshore financial centres, that low tax jurisdictions erode the tax base of industrialised economies and divert economic activity away from them.
The author of the report Professor James Hines of the University of Michigan states the evidence indicates that offshore centres contribute to financial development and stability in neighbouring countries, by encouraging investment, employment and other aspects of business development.
He also argues that offshore centres have salutary effects on tax competition, promote good government, and enhance economic growth elsewhere in the world.
In order to properly understand the value of IFCs it is important “to avoid the intuitive, but ultimately misguided, zero-sum conception of how economies work”, Hines writes.
“The reality is that greater economic activity in one part of the world need not reduce activity else-where.”
In contrast to the belief that a fixed amount of investment and employment is distributed among places in a zero-sum fashion, according to which for more one would mean less for another, modern economic conception understands that investment, employ-ment and innovation in one location generally contributes to related activities elsewhere, the report explained. This applied to IFCs as well as jurisdictions.
Consequently, Hines believes IFCs contribute to economic activity by improving the potential profitability of business operations elsewhere.
He calculates that for every dollar of capital invested by a typical US business in an offshore centre, extra growth worth 50 to 70 cents is generated in other developed countries.
The report also comes to the conclusion that a US company’s foreign investment stimulates domestic investment and that a company’s foreign employment growth is related to increased domestic em-ployment.
Moreover, offshore fi-nancial centres improve the availability of credit and encourage competition in domestic banking systems, the report finds.
In terms of tax competition Hines argues low-tax offshore jurisdictions contribute to the efficiency of tax policies elsewhere, by making a distinction between highly mobile international investments that are easily diverted by differences in tax rates, and less mobile, largely domestic investments that industrialised countries are able to tax at high rates.
As IFCs impose very low taxes on local business profits the jurisdictions leave extensive after-tax profits to be taxed by others the, report argues.
Professor Hines refutes the popular view that offshore centres are the location of choice for anonymous accounts and other vehicles for international tax evasion.
“Bermuda, the British Virgin Islands, the Baha-mas, the Cayman Islands, and Panama in fact adhere rather strictly to international norms requiring ample documentation in order to create corporate entities and bank accounts, making them unattractive locations for money laundering and tax evasion,” argues Hines.
It is instead the large high tax countries such as the US or the UK with their more relaxed banking requirements that serve as easier locations for the es-tablishment of anonymous accounts.
The chief executive of STEP Worldwide David Harvey welcomed the report saying: “This report provides further robust evidence of the positive role offshore centres play in the world economy.”
Harvey also quoted the findings of the Foot Review of British offshore financial centres, which stated that OFCs “provided net financing to the British banking system of $332.5 billion in the second quarter of 2009.”
“Professor Hines’ report demonstrates that IFCs play a similar role around the world, lowering the cost of capital to developed and developing economies alike,” he added.
An analysis by Deloitte of the impact of offshore financial centres on British tax revenue, which featured in the Foot report, cited similar research, showing that by using nearby low tax jurisdictions foreign investors were able to lower the “hurdle rate” of return required to invest in high tax jurisdictions.
The Deloitte report concluded that the UK might be overall better off with Crown Dependencies and Overseas Territories in place, on the grounds that their existence allows more investment to flow to the UK than would otherwise be the case.