Apple's taxdodging ways

Apple's played a clever game in getting around some of the US corporate tax rules:

Apple Inc. (AAPL) avoided as much as $9.2 billion in taxes by financing part of a $55 billion stock buyback with debt rather than offshore cash that would have been billed by the U.S. government, Moody’s Investment Services estimates.

That's pretty good really. A $17 billion bond offering has saved them $9 billion in tax.

As background, US companies don't pay US corporate income tax on their foreign profits that they leave in foreign. It's complex but this is the basic outcome. Apple's got some $100 billion in such profits parked offshore and the shareholders, who do after all really own this money, would like some of it. The problem is that the US corporate income tax is 35%, those offshore profits have only paid perhaps 3 or 4% in tax so far, so 30 odd % will be demanded by the taxman if they're taken back into the US to be sent out as a dividend. So, instead, Apple borrows money in the US and pays that out as a dividend.

Hurrah!

Which brings us to the usual complaint but, well, companies should pay tax on their profits. So why am I cheering someone avoiding doing that? The answer there being tax incidence. It never is a company that bears the economic burden of a tax: it's some combination of shareholders, customers and or the workers. In general with corporation tax we say it's split between the workers and the shareholders. The workers get lower wages: because taxing returns to capital means less capital is employed in that economy. It's capital plus labour that raises productivity, raised productivity raises wages. The shareholders because, obviously, the dividends, the profits, are the return to capital and these are being taxed.

So given that we're not actually taxing the companies why is it that we send the tax bill to the company? Simply because it is convenient to do so. There is no economic reason at all to tax company profits. It's just that they're a nice big pile of money that we can tax, without having to go around all of the investors and workers and collect their little bits.

Which is why I applaud Apple's plan. It's becoming increasingly clear (as Google, Facebook, Vodafone, Boots and so on are showing) that companies are no longer a convenient place to go collect the tax money. They're just too good at not being the patsies and coughing up the cash. Given that the only reason we do tax companies is convenience, if it's no longer convenient then perhaps we should stop doing it?

Simply abolish corporation tax altogether. Make income taxes on dividends and other returns from investment the same as they are from any other source of income. There, job done.

And hundreds of thousands of accountants and lawyers will have to go do something productive for a living. Shame, eh?

Why we do rather like tax competition

You'll have noted the current screams from the left side of the aisle about the terrors and inequities of "tax competition". They're squealing as a pig does when it sees the swill bucket being taken away. For the obvious reasons that Dan Mitchell points out here:

But we do know that simple economic theory tells us that monopolists are more likely to raise prices than firms in competitive markets. Likewise, governments are more likely to raise tax rates if they think taxpayers don’t have escape options. And we also know that the proponents of higher tax rates, such as the statist bureaucrats at the Paris-based OECD, are also the biggest opponents of tax competition. The OECD even complained in one of its reports that tax competition “may hamper the application of progressive tax rates.”

Progressive taxes aren't all that much of a bugbear for us here at the ASI. Our income tax proposal has a large personal allowance in it for example, meaning that the average tax rate continues to rise as income does, asymptotically aproaching the flat marginal rate. This is indeed a progressive tax system and as we're recommending one of those we're obviously not against a progressive tax system. There is also Willy Sutton's point, that you tax the rich because that's where the money is.

However, Mitchell's making a slightly different point. Imagine that you don't like the taxes that are being imposed upon you. No, go on, just imagine. You as an individual voter don't actually have much influence over this. Which is why that option of exit is so important. The ability to simply say "The hell with you lot" and leave. We should note that there are very definitely some campaigners who insist that that exit route should be closed off. As, largely, it already is for US citizens. They can leave the US, certainly, but find it very difficult indeed to escape the clutches of the IRS.

Mitchell's also making a very good Smithian point there. It is indeed true that once businessmen have gathered together for that conspiracy against the public then it is indeed competition from alternative suppliers that is said public's only method of beating the conspiracy. And so it is with government: we can only preserve a modicum of freedom (and a modest portion of our wallet) if we are indeed free to choose among competing providers of those governmental services.

Which is what much of the conspiracy among governments is all about: seeking to deny us that exit, that protection from their monopoliy.

An end to zombie politics 4: Land use

Zombie policies on land use are no Aunt Sally: credit conditions come and go, but planning delay (or unavailability) is a project-killer from cycle to cycle. In October 1998, the McInsey report, Driving productivity, identified UK land-use restrictions as one of the critical impediments to productivity growth. This was never contested but neither was it acted upon. In October 2012 Lord Heseltine’s report, No stone unturned, pressed for “…inject[ing] urgency and purpose into the planning system”. On 17 March 2013, the Treasury responded that HMG is committed to “reforming the planning system to reduce costs and bring speed and certainty to business; and to addressing under-investment in the UK’s infrastructure while providing investment opportunities to the private sector.“

All well and good, but this won’t happen unless HMG deals with the underlying reasons for delays choking off the supply of land for growth. The central problem is that the benefits of change in land-use are valued less highly by locals (including local government) than loss in amenity. Another way of looking at this is that benefits are appropriated by developers, users and central government.

It’s beginning to sink in that the goodies need to be spread around if they are to be earned in the first place. In the case of fracking this is straightforward: a fraction of the incremental revenues from drilling or distribution are put the local’s way. HMG is proposing reduced energy costs; other hydrocarbon regimes appropriate revenues for public infrastructure. It’s a matter of mechanics and political judgment and HMG is already going the right way. But more should be done.

Policy for immediate relief

1. On balance I get that the local authorities need to be incentivised to go along with a more liberal planning regime, so as a matter of practical politics I’d go for pushing a bit of the gravy their way.

2. In return, let them accept more permissive guidance to planning authorities; or suspension of the objectionable clauses of the Town and Country Planning Acts.

3. This would be with a view to a holiday on restrictions in the construction of qualifying infrastructure, the definition which to be announced from time to time by the Secretary of State.

4. All this needs to be exempted from judicial review.

Policy for eventual resolution

Sharing out the spoils is more problematic where changes in land-use add value only over time or indirectly. Here let HMG add securitisation to “value capture”, that is sovereign appropriation of increased land-values when road or rail links are built.

5. Let HMG compensate owners of lands blighted by infrastructure at market rates on “most-favoured vendor” terms, with securities representing the value of the overall parcel of land, traded in the secondary market and enjoying time-limited underwriting (eg, negotiability for taxes at par).

6. Let HMG establish Enterprise Zone (EZ) reliefs for the lands concerned, attracting new development and adding to the land value and upside for the bonds.

Please see here for a worked example of such a scheme and here for a draft term-sheet for a land bond.

Devaluing the pound won't do what its advocates want it to do

Civitas this week released a pamphlet, written by import-export businessman John Mills, arguing that the UK government should target an exchange rate a third lower than the current one, in order to boost demand and UK manufacturing by raising net exports. In turn, this would lessen the burden on the welfare state, allow the government to extricate itself from the economy, alleviate long-term unemployment, improve the self-help ethos and traditional work ethic, and even arrest the UK’s international relative decline, Mills argues.

While making this case Mills ties himself up in a few apparent contradictions (e.g. a strong pound is terrible because it is bad for purchasing power) and with no argument dismisses hundreds of years of economic consensus (with a very crude mercantilism) but I will try to distil the most coherent and convincing argument out of the monograph, in order to make the fairest possible critique.

While China has wound its exchange rate policy down, and Japan does not explicitly target the price of the Yen, Civitas founder David Green holds up Switzerland as a good example of how a country can target its exchange rate. Switzerland buys up foreign currency with newly-created money from the central bank in order to keep Swiss Francs at the desired target. While a Civitas blog post from a third author, Daniel Bentley, comes out against a similar money printing means of achieving a lower rate, it’s unclear what else Mills would propose, since he doesn’t suggest any mechanism at all.

In any case, the price of a pound is governed by demand and supply. Economic authorities could either cut demand or boost supply. Since the whole point of the scheme is to raise the demand for British goods by cutting their price a demand-cutting plan would have to be careful. Green thinks that investment into UK housing and gilts is “artificially” propping up sterling, so perhaps he’d like to ban or limit these. Presuming this outrageous interference with trading freedom was legal; it’s unclear if the pound could actually be cheapened by the desired third by cutting these demands.

Still, foreigners hold about 30 per cent of gilts and foreign buyers have recently been responsible for a majority of transactions in prime London property. If previous investments could be hit as well as new activity, sterling would surely come under serious pressure. This would slash home-owning Londoners’ wealth and hike the government’s borrowing costs, but it should also make UK manufactures (and services) cheaper.

However, even with this printing-free mechanism there should be inflation. Any import business will face higher prices on its imports. Presuming margins are already competitive, the entirety of the exchange rate driven cost hike should feed through into prices. Depending on demand elasticities – the responsiveness of consumer choices to price rises in all the different affected markets (the UK currently imports about £570bn of goods, services and oil per year) this might produce some substitution in demand for these goods, along with a secular fall in demand. But it seems highly likely that this demand dip will not be enough to bring prices back to where they were – and bear in mind if it did this would mean a big fall in consumption for the same prices.

The necessity to bluntly interfere in investment and housing decisions make the above method a very unpleasant one, and we have seen how Mills’ promise that there will be no inflation (based on the dip in the pace of price rises seen after the exit from the Exchange Rate Mechanism) appears very unlikely. Of course, as suggested, the above demand-based scheme is highly distortionary aside from its philosophical issues. So the supply-based method of cheapening the pound – money printing, and inflation – starts to look much more attractive.

But – aside from going against Bentley’s blog post, and Mills’ promise not to create inflation – printing has very clear problems as a means of boosting exports. If $1 buys £1 when the money supply is £100, and we print £100, we’d expect – all things being equal, for the dollar to now buy £2. But since all things are equal, UK factories are still only churning out 100 widgets. These originally went for £1 (and hence $1), but now they will go for £2, so despite the fact the pound is cheaper, the widgets still cost $1. We get all the costs (and benefits) of inflation and none of the supposed benefits (and costs) of cheaper sterling.

Here’s where it gets interesting. Printing extra money is futile if your goal is to boost UK net exports past the very shortest of short runs. But it is by no means futile if your goal is to boost UK inflation to overcome the nominal rigidities (cash prices that won’t fall) particularly wages. UK unemployment is still well above the natural rate, even though employment recently hit an all-time record. One of the key reasons it reached the 29.75m peak is that real wages have been falling throughout the crisis.

A further bout of inflation would give the space for relative real prices to adjust to clear markets and bring the UK much closer to full employment of all resources. So while the paper is muddled and wrongheaded, I would actually support an exchange rate target as a misguided way of getting the extra demand we need.

Where is this "austerity" you speak of?

"What austerity?" asks the super-sound UK economic commentator Liam Halligan in the Telegraph.  GDP is down to be sure (6.2% below its pre-crisis peak), and we members of the public are indeed tightening our belts. Not so government. It's belt-tightening amounts to just 2.7% "cuts" over six years. That's after previous Chancellor/PM Gordon Brown expanded government spending by half, from 35% to 50% of GDP. Some "austerity" from our politicians!

The present government aimed to reduce its annual deficit to zero by 2015. In the wake of disappointing growth figures, that has now been expanded to 2018. Will it even be achieved? Most of the "cuts" were end-loaded, so the real complaints haven't even started yet.

Meanwhile, annual borrowing continues to add to the national debt. Even if that 2018 balanced-budget target is achieved, says Halligan, it still means that the national debt in 2017/18, at around £1.7 trillion, will be three times that in 2008. And the interest payments on that expanded debt all have to be met. It is money we could have used on something more useful, had we not been so profligate in the boom years.

Only virtual money-printing on a record scale has saved the government. How nice it is to have the monopoly on money, so you can just mint it to pay off your debts. But then your money loses its value, and lenders stop bailing you out again because they know they will be conned.

Investment, meanwhile, the one thing that might pull the UK out of its doldrums, has dried up. Private sector investment was just 1.2% of GDP in 2012, down from 5.8% in 2007. Businesses are sitting on cash, or paying off their debts, rather than risking money on an uncertain future.

As for the government, its "cuts" have fallen mostly on capital expenditure, nearly halved from £47bn in 2008/09 to just £27bn in 2014/15. That is the easy way to reduce your overspending – you don't have to fire anyone, or raise taxes too much, you just let the potholes get a bit bigger. But it does not tackle government's bloated spending appetite, nor lay down capital for tomorrow.

And now the IMF are joining the pleas to go steady on "austerity". As I said: "What austerity?"

Monetary policy still has teeth

A storm has erupted over the past few days in a lot of the economics blogosphere, over an article by Mike Konzcal, backed by Paul Krugman, which claimed that current economic developments were evidence that monetary policy wasn't all-powerful and boosting demand sometimes required fiscal intervention. The claim faced convincing push-back from Scott Sumner, Matt Yglesias, and Ryan Avent. Before I look at the specifics of the claim, I’ll outline a (heavily oversimplified but still broadly true) model of the economy to help us to understand the debate.

In economists' simplest model of the macroeconomy, aggregate demand (AD) and aggregate supply (AS) interact to produce the price level. At the onset of the financial crisis and recession, AD crashed. Usually a crash in demand would produce a movement along the supply curve until price and supply have both fallen to produce a new equilibrium.

But the biggest market in the economy is the labour market, and many nominal prices (especially one of the most important prices, wages) are sticky-downwards. This means that prices do not fall enough to equilibrate the market, and output stays far below where it could be (this is what economists call the output gap).

This is where fiscal and monetary policy come in. Since prices are stuck, we need extra AD to get back where we were before, at the original pre-recession level of output. In theory, both monetary policy (here I will just look at interest rates) and fiscal policy (cutting taxes or boosting spending) can have the same effect on AD.

As far as I know, pretty much every mainstream economist agrees with everything I've said so far. But a key Keynesian claim – which the Konzcal article was arguing for – was that monetary policy is ineffective in special situations. Nominal interest rates can only go to zero – beyond that point savers will simply stash their cash in their mattress. Real interest rates (taking into account inflation) can only go to zero minus inflation. This is called the zero lower bound.

Konzcal said the Federal Reserve’s ‘Bernanke-Evans Rule’ – which promises to keep interest rates low until unemployment falls below 6.5 per cent – has failed to outweigh the $85bn (£55bn) federal cutbacks as part of ‘sequestration’. His evidence is Friday’s GDP release, showing that the US economy grew 0.6 per cent in the first quarter (2.5 per cent sped up as if the quarter were a year) below expectations it would expand 0.7 per cent. Konzcal said this GDP report showed the US economy was stagnating, and that the B-E rule failed to outweigh the sequestration.

But his critics pointed out that this was a big jump in growth over the previous quarter, when government spending hadn’t been cut and the Bernanke-Evans rule had barely taken effect – and growth was under 0.1 per cent (or 0.4 per cent on an annual basis). They point out that by creating inflation – and future expectations of inflation – a central bank can boost AD with monetary policy even when at the bottom bound, reducing real interest rates even when nominal rates can’t fall further. And they argue that monetary policy is dominant; it can always overrule fiscal policy.

If Konzcal's critics are right, it has at least two major implications for the UK. One is that Ed Balls’ plan to slow the pace of austerity further while keeping the Bank of England’s two per cent inflation target would only shift output to the government sector, not boost growth. In fact, if he pressed the Bank into actually achieving their target (consumer price inflation has been above target for 39 successive months) it would mean lower demand and perhaps even a triple-dip recession, as they would have to roll back QE and hike interest rates.

A second upshot is that spending cuts have not harmed growth (though the distortions from tax hikes may have). This is because any fiscal austerity has been offset by the central bank. If the government had not cut spending, the central bank would have had to rein in inflation with less quantitative easing (electronic money printing that can be rolled back) – unless it wanted inflation even further above target.

Calling on the affluent elderly to send back their benefits

Iain Duncan Smith, Secretary of State for Work and Pensions, has called upon wealthy elderly people who do not need benefits to return the money to the government.  His case is that the winter fuel allowance, the Christmas bonus and travel passes are handed out to the elderly without means-testing, so that some undoubtedly go to the comparatively well-off.  Iain Duncan Smith's plea calls to mind the recent paper from the Fabian Society calling for older people to pay more tax, since pensioner couples are in the top half of UK income distribution for disposable incomes, with 80% of them owning their own homes. 

There is no easy mechanism for the affluent elderly to return benefits, as a few celebrities discovered last Christmas when a high-profile campaign was started to encourage people to hand them back.  Even if significant numbers did return their benefits, it would amount to no more than a pinprick to the department's budget, having no more impact on real-world events than the tiny windmill David Cameron installed on the roof of his house.

Not many people think the government would make a better job of spending money than they could manage themselves.  Those who feel their comparative affluence does not entitle them to the benefits have the option of giving the money to a charity instead.  If they choose an appropriate charity, better use will probably be made of the money than the government could manage, given its record of profligate wastage. 

This assumes that a charity will be chosen wisely, of course.  It should not go to a charity that spends most of the money it receives on political campaigns for more taxpayer funds, or on advertising for yet more funds to pay for yet more advertising, all in the name of "raising awareness."  And of course it should not go to charities that spend huge sums on anti-business advertising instead of on actually relieving poverty.  Given these obvious caveats, the chances are very high that the money will be better spent than it would be by government.

Fracking: compensate locals, not councils

Ministers are exploring various proposals to encourage local residents to accept fracking projects, reports the Financial Times. The ideas including offering people cheaper household energy.

This is exactly how planning should work, as the Adam Smith Institute explained in a conference and report back in the 1980s, and more recently in Planning in a Free Society. Developments such as airports, roads, quarries – and now fracking projects – may bring a wider benefit to the community but adversely impact local areas with noise, pollution, traffic congestion, and so on. The decision to give the go-ahead to such projects should not rest with some 'expert' planning bureaucrat. Instead, those proposing the development should compensate everyone affected by these 'spillover effects'  for their losses.

Although the physical spillover effects of fracking might be limited, there are psychological spillovers too. There may be a chance that fracking could disturb the underground geology in ways that could damage property or pollute water systems - though fracking supporters argue that these are very unlikely and that they will even then diminish over time as academics and the professionals understand the process better through experience. Still, people fear the possible effects – and those fears must be compensated if fracking enterprises are to proceed with the goodwill, or at least toleration, of the community.

We proposed that any new development, which produces a planning gain to its proposers, should compensate the local losers. One can imagine a supermarket, say, that leads to local traffic problems as roads become congested. Those near the congestion should be compensated, and those less affected compensated less. It is not an exact computation, but at least it is better than people whose lives are blighted by some development having no redress.

Local authorities do, of course, try to tax developers of some of their 'planning gain'. But the system is totally corrupt. Petty officials bully people who want to extend their house or build a new house in their garden, implying that they must pay thousands to the council if there is any chance of their proposals being passed. Larger developers can find themselves being invited to pay for swimming pools or other large 'community' projects. Of course, it is local councillors and officials who benefit from this corrupt system, not the residents who are actually affected.

I dreamed a dream of the FCA

Last week, I dreamed of Financial Authorities that were good for Britain. Unlikely, I know, but in this fantasy The Financial Conduct Authority had given up on its mission to eviscerate the UK’s financial services and embarked on a crusade to make them stronger.  This Paulene conversion had begun with the Treasury’s brief to strengthen competition, particularly in the banking sector.  This was puzzling for them as they had previously been trying to standardise everything.  But competition is about choice and choice means allowing businesses to be different.

Albeit fewer than before the regulators started interfering, we still have four big banks but customers mostly do not transfer because they think they are all the same.

Economics is not just the dismal science; it is the dead science.  In the world of economics everything is standardised except the price.  The mortgage market is a bit like that.  Either firms match and therefore do not compete, or they compete, prices are driven down and they go bust.  The science of the living, however, i.e. biology tells us that firms compete through evolution.  They change and adapt and the ones that best adapt to the environment, i.e. the market, thrive.  They compete by better meeting customer needs, that allows premium pricing and that in turn prompts innovation and further growth.

Contrast that with the FCA view that premium pricing is wicked and should be stopped at once.  In almost every consumer market the brand leader is also premium priced.  That is not because consumers are stupid but because they want what they consider to be best.  They are the judges, not some arbitrary quango in Canary Wharf.

When the FCA woke up to the need to promote differences, not destroy them, they changed their working lives.  No longer did them spend them inventing new regulations to inflict on financial services, they began removing the ones we do not need.  That turned out to be almost all of them.  The FCA staff had never been so busy.

Fired up with enthusiasm, they took their crusade to Brussels.  “Either,” they said, “we need the regulations in which case the whole world does.  Or the rest of the world does not need these regulations, and therefore, nor do we.”  Joy broke out across the regulators’ offices and also those of the financial services sector.  And consumers were the happiest of all.

Then I woke up.

Universal credit and the poor

Today Britain gets a new welfare system. Well, one tiny part of Britain near Manchester, focused around a single job centre. It is the new Universal Credit system, the brainchild of Welfare Secretary Iain Duncan Smith, who has been thinking about such moves for over a decade.

Britain's welfare system is a patchwork quilt of benefits of different kinds, going to different people, with different qualification rules and different tax implications. Benefits have sprung up under successive governments, all determined to show their credentials in terms of helping 'poor families', often with scant regard for what is already there or what the effects might be. The result is this patchwork quilt – which is altogether too cosy in some places but full of holes in others.

The idea of Universal Credit is to shoehorn around 54 different benefits into just one. Proponents reckon that will be a lot easier all round – easier for claimants to understand, easier for the authorities to administer, and cheaper for taxpayers. Critics argue that there will be losers, and that some people will be unable to cope with the new system. Mind you, whenever you move from an irrational hotchpotch of policies to a more rational one, there will be losers. There will be well-deserving winners too, though you won't hear any objections from them, so every such change is greeted with plenty of outrage and little support. Politicians have to get used to that.

And sure, the new system basically gives people cash rather than spoon-feeding them with cash benefits here and practical benefits there, and some people may find that hard to manage. Most won't, though, and we can deal (and should) with the exceptions separately.

Critics also argue that the computer system behind the new benefit is over-complex and unreliable. That's probably a fair point, if previous government IT projects are anything to go by. Remember the NHS IT project? For what it cost not to deliver a joined-up NHS, we could have given all 1.4 million NHS workers nineteen web-enabled laptops, plus a spare for them to forget and leave on the train.

This tiny roll-out of Universal credit reflects something that PM Ted Heath tried to achieve back in the 1970s with Family Income Supplement and which the Nobel economist Milton Friedman proposed in his 1962 Capitalism And Freedom - that is, a negative income tax. Above the line, you pay tax, below the line, you get cash. Simples! And probably very efficient and effective. We will see.