Wednesday, July 30, 2014

Australia's Economic Vulnerabilities

Interesting comments from Australian OECD economist Adrian Blundell-Wignall.

He argues that the export-led model of many developing economies is not sustainable, especially over time as developing economies account for a greater share of global GDP (see here for analysis).

Not all countries can be exporters at any point in time exports must match imports so unless we start trading with another planet, not every country can have a trade surplus.

He then goes on to skewer the banks:
"If you go back to 1980 the earnings of the financial sector of the S&P 500 companies was less than 10 per cent."
He says the proportion of Wall Street earnings by finance stocks is now more than 30 per cent, having risen above its share when the GFC hit.
"The financial sector is supposed to be the sector that intermediates between real savers and real investors. That's what greases the wheels of capitalism," he said.
"Where do we get off thinking that the financial sector can just rip one third of the earnings for themselves?
"People want to understand why investment is a problem ... there's no inflation and the recovery is very problematic everywhere.
"Monetary policy can only do so much and you need an investment cycle to follow. And the investment cycle really isn't following."
He also warns of the danger of a slowing China for Australia and the potential for problems if the US dollar rises and has an impact on commodity prices.

New Defence Issues Paper

The New Paper outlines the following areas of concern for the future:

  • What are the main threats to, and opportunities for, Australia’s security?
  • Are Defence’s policy settings current and accurate?
  • What defence capabilities do we need now, and in the future?
  • How can we enhance international engagement on defence and security issues?
  • What should the relationship be between Defence and defence industry to support Defence’s mission?
  • How should Defence invest in its people, and how should it continue to enhance its culture?
It'll be interesting to see what the government does with the new White Paper given the extensive ambition of the last 2 WPs under Labor and their significant underfunding. 

One of the biggest issues remains whether Australia should build military hardware itself or buy it 'off the shelf' from other countries. 

If we are going to build things ourselves we still need to provide competitive pressures to avoid cost overruns, delays and incompetence. 

On the first point it will be interesting how the WP deals with the issue of China. 

Monday, July 28, 2014

The 2014 Human Development Index

The World Bank has released its 2014 Human Development Index. Australia ranks second behind Norway. Just imagine if we increased the level of taxation on our 80 foreign owned resource sector and redistributed some of the profits, how well we might do.

The HDI attempts to provide a broader measure of progress than GDP by including life expectancy, literacy, education and GDP per capita.  For a range of ways to measure economies see How Big, How Rich and How Developed? The State of Play in the World Economy

Monday, July 14, 2014

The Double Irish Dutch Sandwich

The tax arrangements of Google explained. Facebook, Apple and other corporate tax dodgers do similar things. 

Treasury official Rob Heferen in a speech entitled Implications of Digitisation for the Australian Tax System argues that such arrangements might undermine the willingness of all of us to pay tax because we might increasingly see tax systems as fundamentally unfair.

I think this is true for a lot of issues wider than tax, including globalisation in general. If economic integration is associated with increasing inequality it is likely that it will be blamed. The benefits of openness need to be spread by appropriate government policies and effective taxation is integral to this. This is of course one reason why we needed to develop an effective mining tax earlier in the boom.

So how does the Double Irish Dutch sandwich work.  Heferen explains:
The notion of Base Erosion and Profit shifting or “BEPS”, has recently entered the public policy lexicon around the world. BEPS relates chiefly to instances where the interaction of different tax rules leads to double non-taxation or less than single taxation. It also relates to arrangements that achieve no or low taxation by shifting profits away from the jurisdictions where the activities creating those profits take place. It is squarely on the G20’s agenda and the OECD is well into a two-year work program in this area. 
In recent years, intangibles have been the source of some very high profile and sophisticated tax planning techniques. These have significantly elevated concerns about BEPS. I’m sure many of you would have heard of one such technique that has come to worldwide attention called – the Double Irish Dutch Sandwich. A structure reportedly approved by the IRS. 
The basic set up goes something like this. We have a US parent company whose employees developed, over many years, some intellectual property. Let’s say it’s the IP used to deliver internet advertising services. The Parent sells the rights to exploit the IP outside the United States, to its subsidiary company Ireland Holdings. Ireland Holdings is managed and controlled from another jurisdiction – say, Bermuda 
Ireland Holdings licences all the rights in the IP to a subsidiary company in the Netherlands – for a royalty fee. The Dutch company sub-licences the IP to Ireland Operations, who is the retailer of internet advertising. 
Customers wishing to place ads enter into contracts with Ireland Operations on its website. This could be an Australian business wanting to advertise to its local customers.
As a result of this complex arrangement, we ask, where is the tax paid? 
The cost of advertising for the customer is reported as income in Ireland Operations. Its taxable income is substantially reduced by the tax deduction it receives on the royalty payment to Dutch Holdings. Under EU law, withholding tax can’t be applied to the royalty payment from Ireland to the Netherlands. 
Similarly, the Dutch subsidiary pays a small amount of corporate tax on the difference between royalties received and paid, with no withholding tax on the payment of royalties.
You would think that the royalty payment received by Ireland Holdings would be taxed in that country, but it is not. This is because of the interaction between Ireland’s residency rules, Bermuda’s tax haven status and the US’ check-the-box rules. 
But let’s focus on Australia now. Under this arrangement, the profit on sale of advertising into Australia is not taxable in Australia. But should it be? 
Some of questions that run through my head include, is the sale of the advertising, in substance, really a service provided by Ireland to Australia. Does it really look like an import? The complex nature of this structure gives the impression that it is artificial; and more generally it doesn’t pass the sniff test.  
Are genuine activities and value-add services conducted in Australia? If so, then conceptually some of the profit should be taxed in Australia and current law says it should. 
Given Australia's reliance on corporate taxation at a much higher rate than the rest of the OECD making these corporations pay tax on Australian operations probably matters a lot.

Some other relevant sources

Digital Economy Chokes on Online Giants’ Low-Tax Sandwiches

Twitter Follows Apple, Google And Facebook To Irish Holy Grail

To reduce its tax burden, Google expands use of the “Double Irish”