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Converging or diverging policies?
Developing countries and the social
    nature of international tax
     Martin Hearson, London School of
       Economics and Political Science
    Critical Tax Conference, UC Hastings,
                  April 2013
A simplified model of
        international tax institutions

             OECD                      United Nations




Model TIEA          Transfer pricing         Model treaties
                    guidelines



Tax information
exchange            Domestic law             Double tax treaties
agreements
Double tax treaties:
        conventional understanding
• Purpose of treaty is primarily to alleviate double
  taxation, also to aid cooperation on tax evasion
• Developing country gives up tax revenue, but is
  compensated through greater inward investment
   – Some argue the treaty causes reallocation of capital from
     residence to source country
   – Others describe it as a competition effect – treaty gives a
     relative advantage over other source countries
• Hence developing countries seek tax treaties
• Evidence for effect on investment is mixed, because it’s
  hard to isolate the effects of individual tax treaties
Double tax treaties:
           critical understanding
• Treaty is unnecessary to alleviate double taxation,
  as residence states do so unilaterally
• Primarily a political settlement through which
  taxing rights are transferred from source to
  residence country
• A ‘badge of respectability’ to show that countries
  are part of an international economic club
• No evidence that they increase overall levels of
  investment in a country
Policy diffusion as a
              framework of analysis
• Defined as when policy in one country influences that
  in another
• Four diffusion mechanisms:
   –   Competition
   –   Learning
   –   Emulation
   –   Coercion
• Neumayer & Barthel (2012) find a role for competition
  in driving tax treaty diffusion.
• Emphasis now is on explaining heterogeneity:
   – National-level scope conditions
   – Regional variation
   – Non-linear patterns of diffusion
Double tax treaties:
      questions that are rarely asked
The literature tends focus on rationalist explanations, which
assume country preferences are fixed. I consider the role of
intersubjective understandings in preference formation.
• How are tax treaties understood by policymakers in
   developing countries?
• What motivates their tax treaty policymaking?
   – Almost certainly depends on the treaty partner
   – Do outcomes correspond to a clearly defined policy?
• Which stakeholders are involved in the decision?
   – Officials/ministers? Tax or investment promotion?
   – Role of business?
   – Outside organisations e.g. OECD, IMF?
• What is the role of the treaty partner (instigator/reactor?)
  and what are their preferences?
What am I trying to explain?
  (1) sub Saharan Africa




                               Source: author’s own analysis, based on IBFD data
What am I trying to explain?
       (2) Ghana
                                        Average
Treaty partner                  Year   WHT rate
United Kingdom                  1947
Denmark (not in force)          1954
United Kingdom (renegotiated)   1977
France                          1993        9.4
United Kingdom (renegotiated)   1993       10.6
Serbia (not in force)           2000
Germany                         2004        7.8
Italy                           2004        8.8
South Africa                    2004        8.8
Belgium                         2005        8.8
Barbados                        2008
Netherlands                     2008        7.3
Switzerland                     2008        7.8
What am I trying to explain?
1. A large number of tax treaties are not signed with
major sources of investment
2. The role of domestic political and administrative
factors
3. Different policy towards (and of) different kinds
of treaty partners
4. Variations in treaty content: preferences versus
negotiating capability
5. Triggers for new treaty signings - often in groups
6. Renegotiation, repudiation, stalemate
A word on transfer pricing and
          institutional reform
• Brazil, India, China have made unilateral moves.
  What do they want from OECD &UN?
  – Institutional reform versus content reform
• How does this change the context for smaller
  developing countries?
  – Is the dividing line OECD v non-OECD, or large
    economy versus small economy?
• What is driving the trend towards TP adoption?
• Why is there no heterogeneity in Africa?
Conclusions
• A lot has been written about developing
  countries’ international tax policy…but it’s rarely
  based on actually asking them.
• International relations research suggests that a
  model of policymaking should take into account:
   – Emulation, bounded learning, socialisation, coercion
   – Tax/investment policy may not always be the right
     lens through which to understand tax reforms
• Policymaking should also be seen in the light of
  unstable international institutions.

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Developing countries and the social nature of international tax

  • 1. Converging or diverging policies? Developing countries and the social nature of international tax Martin Hearson, London School of Economics and Political Science Critical Tax Conference, UC Hastings, April 2013
  • 2. A simplified model of international tax institutions OECD United Nations Model TIEA Transfer pricing Model treaties guidelines Tax information exchange Domestic law Double tax treaties agreements
  • 3. Double tax treaties: conventional understanding • Purpose of treaty is primarily to alleviate double taxation, also to aid cooperation on tax evasion • Developing country gives up tax revenue, but is compensated through greater inward investment – Some argue the treaty causes reallocation of capital from residence to source country – Others describe it as a competition effect – treaty gives a relative advantage over other source countries • Hence developing countries seek tax treaties • Evidence for effect on investment is mixed, because it’s hard to isolate the effects of individual tax treaties
  • 4. Double tax treaties: critical understanding • Treaty is unnecessary to alleviate double taxation, as residence states do so unilaterally • Primarily a political settlement through which taxing rights are transferred from source to residence country • A ‘badge of respectability’ to show that countries are part of an international economic club • No evidence that they increase overall levels of investment in a country
  • 5. Policy diffusion as a framework of analysis • Defined as when policy in one country influences that in another • Four diffusion mechanisms: – Competition – Learning – Emulation – Coercion • Neumayer & Barthel (2012) find a role for competition in driving tax treaty diffusion. • Emphasis now is on explaining heterogeneity: – National-level scope conditions – Regional variation – Non-linear patterns of diffusion
  • 6. Double tax treaties: questions that are rarely asked The literature tends focus on rationalist explanations, which assume country preferences are fixed. I consider the role of intersubjective understandings in preference formation. • How are tax treaties understood by policymakers in developing countries? • What motivates their tax treaty policymaking? – Almost certainly depends on the treaty partner – Do outcomes correspond to a clearly defined policy? • Which stakeholders are involved in the decision? – Officials/ministers? Tax or investment promotion? – Role of business? – Outside organisations e.g. OECD, IMF? • What is the role of the treaty partner (instigator/reactor?) and what are their preferences?
  • 7. What am I trying to explain? (1) sub Saharan Africa Source: author’s own analysis, based on IBFD data
  • 8. What am I trying to explain? (2) Ghana Average Treaty partner Year WHT rate United Kingdom 1947 Denmark (not in force) 1954 United Kingdom (renegotiated) 1977 France 1993 9.4 United Kingdom (renegotiated) 1993 10.6 Serbia (not in force) 2000 Germany 2004 7.8 Italy 2004 8.8 South Africa 2004 8.8 Belgium 2005 8.8 Barbados 2008 Netherlands 2008 7.3 Switzerland 2008 7.8
  • 9. What am I trying to explain? 1. A large number of tax treaties are not signed with major sources of investment 2. The role of domestic political and administrative factors 3. Different policy towards (and of) different kinds of treaty partners 4. Variations in treaty content: preferences versus negotiating capability 5. Triggers for new treaty signings - often in groups 6. Renegotiation, repudiation, stalemate
  • 10. A word on transfer pricing and institutional reform • Brazil, India, China have made unilateral moves. What do they want from OECD &UN? – Institutional reform versus content reform • How does this change the context for smaller developing countries? – Is the dividing line OECD v non-OECD, or large economy versus small economy? • What is driving the trend towards TP adoption? • Why is there no heterogeneity in Africa?
  • 11. Conclusions • A lot has been written about developing countries’ international tax policy…but it’s rarely based on actually asking them. • International relations research suggests that a model of policymaking should take into account: – Emulation, bounded learning, socialisation, coercion – Tax/investment policy may not always be the right lens through which to understand tax reforms • Policymaking should also be seen in the light of unstable international institutions.