Treasure Islands: Dirty Money, Tax Havens and the Men Who Stole Your Cash

by Nicholas Shaxson

  And if tax cuts are the answer to reducing tax evasion, as Mitchell suggests, then he might like to explain the great global eruption of international tax evasion, not to mention the sudden plague of capital flight, from the 1970s onward—just as tax rates went into freefall worldwide.

  Here is the real story: As tax havenry exploded and finance became freer, tax evasion and capital flight followed.

  By 2000, as the OECD project on tax havens’ harmful tax competition rolled forward, Mitchell and his allies began to firehose Washington with letters, emails, and presentations. Almost nobody was articulating the counterarguments.

  The OECD was soon on the defensive. Then the havens themselves began to mobilize. In January 2001 the secretary general of the British Commonwealth invited the OECD to set up a joint working group, with equal representation for small member states (that is, the tax havens). This group began to festoon the OECD in red tape, and the whole project got bogged down in arcane haggling. The havens also set up a body called the International Tax and Investment Organisation to coordinate defenses, and they linked up with Mitchell and the Center for Freedom and Prosperity.

  Then George W. Bush came to power.

  Until then, President Clinton’s treasury secretary, Larry Summers, had backed the OECD, even proposing sanctions against the havens in his last budget. Bush’s first treasury secretary, Paul O’Neill, initially seemed unsure about the issue, even saying, to Mitchell’s alarm: “I support the priority placed on transparency and cooperation.”

  The Center for Freedom and Prosperity ramped up the pressure. They organized eighty-six congressmen and senators, including big hitters like Jesse Helms and Tom DeLay, to urge O’Neill to ditch the OECD’s project. Milton Friedman, James Buchanan, and other conservative economists signed on. Letters flooded into the treasury. Mitchell thundered about the “Parisian monstrosity,” and a Cayman Islands official popped up at the United Nations to rail against “Big Brother” and the “big bully syndrome.” The lobbyists neglected to mention that the Caymans were effectively governed from London. The British Commonwealth repackaged the havens’ critiques in Washington and lambasted the OECD as a bullying, coercive bureaucracy.24

  The Caribbean havens also persuaded the powerful U.S. Congressional Black Caucus to act, and to send O’Neill a letter warning that the OECD initiative “threatens to undermine the fragile economies of some of our closest neighbors and allies.” The caucus made no mention of the effects these havens had on vastly bigger African nations, of course, or of the fact that the main Caribbean beneficiaries from offshore activities were rich white bankers, lawyers, and accountants.

  Mitchell pounced on something else. No OECD country—not Switzerland, not Luxembourg, and certainly not the United States or Britain—was on the blacklist.

  “The OECD, a rich man’s club of industrialized nations, is launching this anti-tax haven jihad, but they omitted to blacklist their own members,” he said. “They are a bunch of racist hypocrites. Powerful white-governed nations in Europe are targeting less powerful nations in places like the Caribbean. Somebody needs to tell the bureaucrats in Paris that the era of colonialism is over.”25

  This time, Mitchell had a point. And he soon got his breakthrough. On May 10, 2001, O’Neill wrote in the Washington Times, a conservative newspaper set up by the Reverend Sun Myung Moon that is a regular supporter of tax havens, that the OECD’s mission was “not in line with this administration’s priorities.”26 The United States, O’Neill continued, “simply has no interest in stifling the competition that forces governments—like businesses—to create efficiencies.” The article looked almost as if Mitchell had written it himself.

  The United States, O’Neill added, “does not support efforts to dictate to any country what its own tax rates or tax systems should be.”27 It was the offshore contradiction to end them all. “Don’t interfere with our rights as sovereign states!” the havens cry—while interfering merrily in other nations’ sovereign laws and tax systems.

  The OECD’s project was dying. As Marty Sullivan of TaxAnalysts put it, the initiative “slowly dissolved into a series of toothless pronouncements, a mixture of cheerleading and scorekeeping. The OECD started to abandon its confrontational approach.”28 The OECD watered down its blacklist criteria; tax havens were now “participating partners” and escaped the blacklist merely by promising to shape up—and they need only shape up if everyone else—including the hard nuts like Switzerland or Britain or the United States or newly independent Hong Kong—did too. In other words, it would never happen.

  Two months after O’Neill’s letter, Senator Carl Levin, fighting a lonely rearguard action, estimated that the United States was losing $70 billion annually from offshore evasion: “a figure so huge that if even half that amount were collected it would pay for a Medicare prescription drug program without raising anyone’s taxes or cutting anyone’s budget.” When Levin noted that fewer than six thousand of more than 1.1 million offshore accounts and businesses were properly disclosed to the IRS, O’Neill’s response was simple and clear.

  “I find it amusing.”29

  A July 2001 OECD deadline to avoid defensive measures came and went, and the organization later publicly said it had no intention to pursue them in the future. Mitchell’s colleague Andrew Quinlan subsequently warned, for good measure, that just ten days of lobbying could shut down the OECD’s U.S. funding.

  The end result is neatly summarized by Jason Sharman, who wrote a well- researched book about the episode. “The OECD,” he wrote, “had to give up its ambition to regulate international tax competition.”30 The tax havens had won.

  A lot of the tax havens’ arguments hinge on the rightful scope of state power. Democracies have long supported the principle of progressive taxation, as outlined by the Scottish economist Adam Smith: “It is not very unreasonable that the rich should contribute to the public expense, not only in proportion to their revenue, but something more than in that proportion.” In the United States, as in many countries, the principle of progressive taxation has evaporated. It may not seem like that at first glance: The richest 1 percent of Americans paid just over 40 percent of all federal income taxes in 2009. The right-wing Tax Foundation claimed this “clearly debunks the conventional Beltway rhetoric that the ‘rich’ are not paying their fair share of taxes.” Yet in 2009 the richest 1 percent owned almost half of all financial assets in the country—and the proportion was rising. This is not a story about high taxes on the wealthy but about stratospheric wealth and inequality. And the 40 percent refers only to income taxes—as exemplified by the income reporting of the four hundred richest Americans noted earlier in this chapter, rich people usually convert most of their income into capital gains, which is taxed at far lower rates than income; then there are payroll taxes and state taxes, the burden for which tends to fall on low- and middle-income people more heavily than the rich. For the four hundred richest Americans, their effective tax rate was far lower: just 17.2 percent and falling. Count offshore tax evasion by wealthy Americans, which income statistics don’t see, and the picture skews further. “A quarter century of tax cuts,” wrote the tax author David Cay Johnston, “has produced not trickle down—but Niagara up.”31

  During my long interview with Mitchell in Washington, we went out to a modest eatery near the Cato offices, where we bumped into Richard Rahn, a Cato staffer and a former chairman of the Cayman Islands Monetary Authority. Rahn is a gruff, serious man who wears an eye patch, and when Mitchell introduced us with great bonhomie, Rahn scowled back at him, declined to shake hands with me, muttered something about “European Commies,” and stalked out. A year or so later I looked Rahn up, and this time he agreed to talk. This time he was more personable: After first hawking me around the Cato offices as a crazy European curiosity, he then handed me a little maroon passport-sized booklet containing the text of the U.S. Declaration of Independence and the U.S. Constitution. “It looks like an EU passport, doesn’t it?” he rasped, t
winkle-eyed. “One, of course, is an instrument of oppression. The other is a document of freedom.”

  “I have ancestors who fought in the American Revolution,” he said, sitting me down in his own rather Spartan office. “Genetically I don’t like foreign governments.” After making me buy Mitchell’s book for $20 (I already had a copy but didn’t want to spoil Rahn’s mood), we began to talk.

  Rahn is not a shill for wealthy interests but someone responding, at least in part, to deep personal conviction. “You people upset me . . . I often wonder if you people are evil, or just ignorant,” he declared. “Tax oppression is causing misery around the world.” He said this was well established in the literature and cited some recent Bulgarian studies to back his case. “When international bureaucrats want to attack places for not imposing bad taxes,” he continued, “well, I think that fits into my definition of evil.” He described a “conspiracy of the international bureaucratic class” to raise taxes: not so much an organized plot but a constant effort to raise revenues to feed the bureaucrats’ own well-being and privileges.

  Perhaps there is a little truth in this. But his next point is worth tackling, for it is a foundation for the intellectual edifice of offshore.

  “Capital is the seed corn of economic growth. Without capital, there is no growth. It is suicidal to tax your own seed corn.” Along with this argument comes the tax havens’ Exhibit A in their own defense: that they help smooth and promote international flows of capital, channeling it efficiently to capital-hungry developing countries, where it can grow productively and benefit everyone.

  Rahn’s seed corn contention contains a kernel of truth: Capital certainly can and does promote investment and economic growth. Helping it flow efficiently, at first glance, seems like a good idea. But here is where the arguments fall apart.

  First, financial capital isn’t the only kind of capital. Social capital—an educated and experienced workforce, a trustworthy business climate, and so on—matters more. Having seed corn is just one factor in achieving a good harvest, along with rain, good soils, fertilizer, and the human capital, knowledge, and confidence to put it all together. “Access to capital is not, in fact, the decisive constraint on economic growth,” wrote the economist Martin Wolf. “It is social and human capital, as well as the overall policy regime that matter.”32 These, of course, need tax dollars.

  Second, tax isn’t only about revenue, the first of four “Rs” of taxation. The second “R” is redistribution, notably tackling inequality. This is what democratic societies always demand, and as the painstakingly researched book The Spirit Level attests, it is inequality, rather than absolute levels of poverty and wealth, that determines how societies fare on almost every single indicator of well-being, from life expectancy to obesity to delinquency to depression or teenage pregnancy. The third “R” is representation—rulers must bargain with citizens in order to extract taxes from them—and this leads to accountability and representation. The fourth is repricing—changing prices to do things like discourage smoking. Secrecy jurisdictions directly undermine the first three, if you think about it, and possibly the fourth too.

  Then there is the small matter of the evidence. One might think that capital should flow from rich countries, where it is plentiful, to low-income countries, where it is scarce, promoting productive investment, growth, and better lives for all. In the real world, this has not happened. The low-income countries that have been growing the fastest, like China, tend to be those that have been exporting capital,33 not importing it. Countries need, above all, sound institutions, good infrastructure, and the effective rule of law—exactly what the offshore system undermines.

  This is not such a surprise. A country can only absorb so much capital, just as an acre of land can only take so much seed corn. Capital loans to low-income countries haven’t found their way into productive investment, but instead they have washed back into private bank accounts in Miami, London, and Switzerland, leaving public debts behind. Waves of financial capital, processed “efficiently” offshore, have led to financial crisis after crisis. In many low-income countries, as the economist Dani Rodrik puts it, “capital inflows are at best ineffective, at worst harmful.”

  And that is not all. Much of the world’s wealth derives from what economists call rents: the kind of unearned income that flows effortlessly to oil-rich rulers. “Oil is a resource that anaesthetizes thought, blurs vision, corrupts,” as the Polish writer Ryszard Kapuscinski put it. “Oil expresses perfectly the eternal human dream of wealth achieved through lucky accident, through a kiss of fortune and not by sweat, anguish, hard work. In this sense oil is a fairy tale and, like every fairy tale, it is a bit of a lie.”34

  Nearly every sane economist since Adam Smith has agreed that it is very good, and very efficient, to tax rents at very high rates. One kind of rent comes from market monopolies or oligopolies, such as those enjoyed by pharmaceutical patents and Big Pharma; by the government-sanctioned licenses afforded to the Big Four accounting firms identified in chapter 1; by taxpayer-guaranteed international banks; or by the one-and-only Fédération Internationale de Football Association (FIFA), the super-wealthy international governing body of world football.

  The global headquarters of most major players in all these highly profitable industries are located offshore, most especially in Switzerland—directly against every notion of economic efficiency. FIFA, for example, used its monopolistic position in 2010 to force poor South Africa to place it in a special “tax bubble” for the 2010 World Cup, shifting its revenues from a poor African nation to that of the company whose luxurious $200 million Zurich headquarters happens to lie just a few hundred meters from where I am writing this chapter.

  Offshore is not only about tax, of course. When it comes to failures of regulation, the simplest, and commonest, argument that tax havens make is to deny responsibility and use the “just a few rotten apples” defense: The system is basically clean, but occasionally bad ones get through. Immediately after the collapse of BCCI the president of the Cayman Islands Bankers Association, Nick Duggan, said: “BCCI, is a unique worldwide situation and does not reflect on the local banking community at all.”35

  Another argument is like the one on tax: Offshore promotes “efficiency” by driving financial innovation and being what the offshore writer William Brittain-Catlin calls a “seller of novelties on the financial market, a sweetshop for capitalism, developing new flavours.” The financial crisis exposed what most of this financial “innovation” really involves. Innovative forms of abuse are to be resisted, not encouraged.

  The next offshore regulation argument involves deflection. Anthony Travers, chairman of the Cayman Islands Financial Services Authority, uses this technique widely. In a 2004 article in The Lawyer entitled “Framing Cayman,”36 he sought to explain why some of the biggest economic scandals in world history—BCCI, Enron, and Parmalat, in each of which Cayman played a pivotal role—were in fact not the Caymans’ fault at all.

  Parmalat was brought down by its Cayman-based finance subsidiary Bonlat Financing, which had fraudulently claimed to hold nearly 4 billion euros in assets. According to Travers, the missing Bonlat billions “never existed at all, save in a document forged in Italy by a corrupt Parmalat executive. If that is the nature of the fraud in relation to Bonlat, how precisely is the ‘part’ of the Caymans ‘substantial’?” In other words, though the Caymans was central to the fraud, it is blameless because the fraudsters were actually elsewhere. He said a similar thing about BCCI. “Had BCCI not been so licenced [as a deposit-taker] by the Bank of England, at a time when the Caymans banking regulator was on secondment from the Bank of England,” Travers wrote, “its subsidiary would not have been licenced in the Caymans.” As for Enron’s 692 opaque Caymans subsidiaries: “These were on balance sheet consolidated subsidiaries which owned the overseas Enron operating assets, thereby lawfully deferring US taxation,” their profits “properly accounted for and audited.” Enron’s Caymans limited part
nership LJM No. 2, Travers continued, was “a victim and not a perpetrator”—the perpetrators were Delaware limited partnerships. In other words, the frauds were carried out elsewhere. And he added, “None of the financial recklessness that has brought about much of the current global crisis occurred in or involved the Cayman Islands.”37

  The breathtaking chutzpah of Travers’s claims is leavened by the fact that his arguments contain a truth: The frauds could not have happened only in the Cayman Islands. They required culprits elsewhere too. “The charlatans responsible for this type of behaviour,” Travers notes, “are far closer to Westminster than the Caymans.”

  Quite so. But he is deliberately missing the point: This is how the offshore system works. Offshore structures always serve citizens and institutions elsewhere—so the beneficiaries are always elsewhere. This is why it is called “offshore.” Plausible deniability is the whole game. The fraudsters may well be elsewhere, but offshore is what makes the fraud work. Secrecy jurisdictions are to fraudsters what fences are to thieves. These arguments from the Caymans are like those of one who is caught fencing stolen property blaming the police for not stopping the thieves who stole the property in the first place.