Lobbying and the international fight against tax havens

DOIhttp://doi.org/10.1111/jpet.12361
Date01 June 2019
Published date01 June 2019
Received: 17 April 2018
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Accepted: 14 January 2019
DOI: 10.1111/jpet.12361
ORIGINAL ARTICLE
Lobbying and the international fight against tax
havens
Tobias Hauck
University of Munich, Munich Graduate
School of Economics, Kaulbachstr, Munich,
Germany
Correspondence
Tobias Hauck, University of Munich, Seminar
for Economic Policy, Akademiestr. 1/II, 80799
Munich, Germany.
Email: tobias.hauck@econ.lmu.de
Funding information
Deutsche Forschungsgemeinschaft, Grant/
Award Number: Research Training
Group 1928
Abstract
Despite a variety of measures taken by hightax countries,
the international fight against tax havens so far remains
rather ineffective. This paper introduces offshore lobbying
as a possible explanation for this observation. The author
analyzes the international fight against tax havens in a two
country model, in which the onshore country exerts
pressure on domestic profitshifting firms and the tax
havens government lobbies against this measure. In this
framework, he finds that pressure and lobbying are
strategic substitutes and that there is an extensive margin
incentive for offshore lobbying. Furthermore, when start-
ing at initially high costs for profit shifting, a reduction in
these costs leads to fewer profitshifting firms. Finally,
when allowing for a second lowtax jurisdiction, the overall
level of lobbying increases, but less than proportionally.
1
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INTRODUCTION
In the past few years, revelations such as the Panama Papers and the Offshore Leaks reinvigorated the discussion
about the persistent existence of tax havens. Simultaneously, several studies highlighted the economic importance
of tax havens. Tørsløv, Wier, and Zucman (2018) estimate the global tax revenue loss that is due to profit shifting to
tax havens at roughly 200 billion. Furthermore, Alstadsæter, Johannesen, and Zucman (Forthcoming) emphasize
the role that tax havens have in fueling wealth inequality in rich countries.
Efforts to fight tax havens can be traced back to as early as 1998, when the Organisation for Economic Co
operation and Development (OECD) published its report Harmful Tax Competition (OECD, 1998). As a consequence,
many actions, such as the widespread introduction of tax information exchange agreements (TIEAs), withholding
taxes on interest payments (e.g., the EU Tax Savings Directive), or the Action Plan on Base Erosion and Profit
Shifting (OECD, 2013a, 2013b) followed suit. Most recently, the European Union (EU) published the EU list of non
cooperative tax jurisdictionsin December 2017. The publication of this list exemplifies the seemingly low
effectiveness of the measures mentioned above.
J Public Econ Theory. 2019;21:537557. wileyonlinelibrary.com/journal/jpet © 2019 Wiley Periodicals, Inc.
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537
Several countries, which were expected to be on the EUs blacklist, did not end up there. For example, the
British Virgin Islands (BVIs) were not part of this blacklist and were only added to a less salient accompanying
greylist several months later. This is despite ample evid ence that the BVIs have been among the most
important centers for tax avoidance. Most prominently, more than half of the offshore entities incorporated by
Mossack Fonseca, the firm whose records were at the center of the Panama Papers, were in the BVI.
1
The
reason for this seemingly ineffective behavior can be found in offshore lobbying, conducted either by politically
or historically linked EU member states or by the respective tax havens themselves. For example, several
British Overseas Territories hired public relations companies or approached politically relevant representa-
tives to make their cases both in London and Brussels. More specifically, the Cayman Islands hired a member of
the United Kingdoms House of Lords as their UK representative.
2
A second example is given by the United
Kingdoms efforts to shield Bermuda, one of Googles main profit hubs, from being put on the same blacklist.
3
Sven Giegold, the financial and economic policy spokesperson of the Green Parties in the European Parliament,
summarized this as follows:
In the shadow of the opaque Code of Conduct Group, Member States successfully lobbied to get
their own dependencies and overseas territories off the hook.
4
In this paper, I aim to explain the existence and the effects of offshore lobbying by employing a theoretical two
country model with a threestage game. The main argument is that offshore lobbying, which has thus far not been
considered in the literature, is a reason for the empirical results and the anecdotal evidence presented.
5
At the core
of this model are two simultaneous choices by the tax revenue maximizing governments, which are stages one and
two of the game: The onshore and the offshore country decide about their level of pressure and lobbying,
respectively, before setting tax rates; then, firms with heterogeneous shifting costs decide whether to engage in
profit shifting or not.
The main results of the model are as follows. There exists an extensive margin incentive for tax havens to
engage in international lobbying when the onshore country is unable to fully eliminate profit shifting. Generally, the
usage of one countrys policy tool decreases the effectiveness of the other countrys policy. Hence, onshore
pressure and offshore lobbying are found to be strategic substitutes. Furthermore, when starting at high costs of
profit shifting, a reduction in these costs leads to a smaller number of profitshifting firms. In this case, there are
two countervailing effects at work. First, there is the mechanical direct cost reduction for firms. Second, the
reduction in profitshifting costs induces the onshore country to reduce its tax rate. Consequently, the tax rate
differential between the onshore and the offshore country shrinks. This second effect is larger in size when profit
shifting costs are initially high and therefore more firms remain onshore.
When generalizing the model to allow for a second tax haven, the resulting equilibrium pressure level for
the onshore country is higher as the marginal benefit of applying pressure rises. Concerning the tax havens, the
overall level of lobbying is higher, whereas each countrys lobbying level falls. This is the case as one tax haven
benefits indirectly from the lobbying efforts of the other country, as lobbying reduces the effectiveness of
1
See https://www.icij.org/investigations/panamapapers/explorepanamapaperskeyfigures/ (last accessed: 09/20/2018) for more information.
2
See https://www.thebureauinvestigates.com/stories/20120419/taxhavensboosttheirlobbyingefforts (last accessed: 09/20/2018) for more infor-
mation.
3
See https://www.theguardian.com/technology/2016/jan/30/googletorybattleprotect30bntaxhavenbermuda (last accessed: 09/22/2018) for more
information.
4
See https://www.svengiegold.de/taxhavenseufinanceministersagreeonwhitewashedblacklist/ (last accessed: 09/20/2018) for more information.
5
I deviate from lobbying in a commonagency model as established by Grossmann and Helpman (1994). In this paper, I abstract from a microfoundation of
lobbying and from potential lobbying by multinational firms. However, as tax havenssole source of revenue is to provide shelter for profits, I assume
these countries have a genuine interest to protect their business model and ultimately do so by engaging in international lobbying. In this paper, I consider
this lobbying in a reduced form.
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HAUCK

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