The hidden wealth of tax havens

A provocative new book by the University of California at Berkeley economist Gabriel Zucman is renewing the decades-old debate over the extent and regulation of tax havens. The Hidden Wealth of Nations: The Scourge of Tax Havens is in some ways a successor to Capital in the Twenty-First Century by Thomas Piketty; indeed Piketty wrote the foreword for the new tome.

The book may be having an effect. On Friday in Peru, the G20 finance ministers agreed unanimously to recommend adoption of tougher laws to prevent companies from sheltering their billions in tax havens. The plan will be on the agenda when the G20 heads of state meet in Turkey on November 15 and 16.

Zucman estimates that tax havens, in particular Switzerland, Luxembourg and the Virgin Islands, have enabled the wealthy to hide $7.6 trillion from their national governments, or roughly a twelfth of all the money in the world. In the excerpt below, he describes how he came to that conclusion:

To estimate the global cost of offshore tax evasion, we need to know two things: the amount of assets held in tax havens throughout the world, and how much additional taxes would be paid if all this wealth were declared.

Starting with the amount of offshore wealth, my calculations indicate that globally about 8 per cent of households’ financial wealth is held in tax havens. What does this mean in concrete terms? The financial wealth of households is the sum of all the bank deposits, portfolios of stocks and bonds, shares in mutual funds, and insurance contracts held by individuals throughout the world, net of any debt. At the beginning of 2014, according to the national balance sheets published by organisations such as the Federal Reserve in the United States and the Office for National Statistics in the United Kingdom, global household financial wealth amounted to about $95.5 trillion. Out of this total, I estimate that 8 per cent, or $7.6tn, is held in accounts located in tax havens. This is a large sum. As a point of comparison, the total public debt of Greece – which plays a central role in the current European crisis – is about $350 billion.

As we have seen [in a prior chapter], the assets held in Switzerland are as high as $2.3tn –or close to a third of the total amount of offshore wealth. The rest is located in other tax havens that provide private banking services for high net-worth individuals, the main players being Singapore, Hong Kong, the Bahamas, the Cayman Islands, Luxembourg and Jersey. Remember, though, that the distinction between Switzerland and other tax havens doesn’t really make much sense: a large part of the assets registered in Singapore or Hong Kong are in reality managed by Swiss banks, sometimes directly from Zurich and Geneva.

Only Switzerland (and to a lesser extent Luxembourg), however, provides direct information on the stocks of offshore fortunes managed by domestic banks. To have a sense of the global amount of assets held in tax havens, one has to use indirect methods.

Here is how I proceeded. I started with the observation – obvious in light of the Swiss case – that wealthy households do not use tax havens to let millions of dollars sleep in savings accounts that earn little or no interest. From their offshore accounts, they essentially make the same investments they do from banks located in London, New York, or Sydney: they buy financial securities – that is, stocks, bonds, and, above all, shares in mutual funds. The money in tax havens doesn’t sleep. It is invested in international financial markets.

Now, it so happens that these investments cause anomalies in the international investment positions of countries – the balance sheets that record the assets and liabilities that nations have vis-à-vis one another. The following example shows it in a simple way: let’s imagine a British person who holds in her Swiss bank account a portfolio of American securities – for example, stock in Google. What information is recorded in each country’s balance sheet? In the United States, a liability: American statisticians see that foreigners hold US equities. In Switzerland, nothing at all, and for a reason: the Swiss statisticians see some Google stock deposited in a Swiss bank, but they see that the stock belongs to a UK resident – and so they are neither assets nor liabilities for Switzerland. In the United Kingdom, nothing is registered, either, but wrongly this time: the Office for National Statistics should record an asset for the United Kingdom, but it can’t, because it has no way of knowing that the British person has Google stock in her Geneva account.

As we can see, an anomaly arises – more liabilities than assets will tend to be recorded on a global level. And, in fact, for as far back as statistics go, there is a “hole”: if we look at the world balance sheet, more financial securities are recorded as liabilities than as assets, as if planet Earth were in part held by Mars. It is this imbalance that serves as the point of departure for my estimate of the amount of wealth held in tax havens globally.

Luxembourg chasm

At this juncture, the essential question is as follows: how can we be sure that the gap between assets and liabilities indeed reflects the money held offshore all over the world, and not other important statistical issues that might have nothing to do with it? The answer is – and this is where the investigation becomes interesting – that the money doesn’t evaporate randomly into the ether, but instead follows a precise pattern of tax evasion.

Let’s ask the Luxembourg statisticians how much in shares of mutual funds domiciled in the Grand Duchy are in circulation throughout the world. Their response at the beginning of 2015: $3.5tn. Now let’s look at the shares of Luxembourg funds that are recorded as assets in all countries. In principle, this should be exactly $3.5tn, but in fact we find barely $2tn recorded. In other words, $1.5tn have no identifiable owners in global statistics. This is the big problem. And the same problem appears in the two other places where most of the world’s mutual funds are domiciled, Ireland and the Cayman Islands. The funds incorporated in those countries manage trillions. But we don’t know who owns them. The bulk of the world’s asset/liability imbalance comes out of this.

Now, recall that the preferred investment of Swiss bank account holders is precisely buying into mutual funds, notably in Luxembourg and Ireland. Such investments, by nature, are properly recorded as liabilities (in Luxembourg and Ireland) but nowhere as assets. In other words, when we look at them in detail, the global statistical anomalies are nothing other than the mirror image of the investments made by individuals via their offshore accounts. This is why the global asset/liability imbalance, which amounted to $6.1tn in 2014, provides a reasonable estimate of the amount of offshore portfolios owned by households all over the world.

By construction, this method captures only a single type of wealth: financial securities. It doesn’t tell us anything, for example, about the amount of regular bank deposits (such as term deposits or commercial deposits) held in places such as the Cayman Islands. In the case of Switzerland, such deposits amount to only a tenth of total offshore wealth. Data nonetheless seem to indicate that the amount of bank deposits is relatively larger in other tax havens, notably because most of them are able to provide an interest rate that is a bit higher than in Switzerland. The Bank for International Settlements (BIS) and a number of national central banks provide data suggesting that the amount in individuals’ hidden bank deposits was on the order of $1.5tn in 2014.

And so the total amount of private offshore wealth reaches $7.6tn, $1.5tn in the form of more or less “dormant”, low-yield bank deposits, and $6.1tn invested in stocks, bonds, and mutual funds. This equals a total of 8 per cent of the global financial wealth of households.

In later chapters, Zucman argues that the private companies that now act as registers of assets held in tax havens should be taken over by an international organisation such as the IMF, to allow the hidden wealth to enter the public domain and be subject to tax.

Reprinted with permission from The Hidden Wealth of Nations: The Scourge of Tax Havens by Gabriel Zucman, translated by Teresa Lavender Fagan, and published by the University of Chicago Press. © 2015 by The University of Chicago. All rights reserved.


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