Hamish McRae: Power balance shifts to the private sector and away from governments

Economic View

Your tax incentive is my tax loophole. There is an obvious irony that Britain should be introducing a new corporate tax break at the very moment that we should be supporting an international effort to reduce corporate tax avoidance.

True, our tax break is to encourage fracking, which, by its very nature, takes place within our territory, while the G20 finance ministers are in Moscow this weekend discussing an Organisation for Economic Co-operation and Development (OECD) report aimed at stopping companies shuffling profits to offshore locations where they have little or no physical presence. But the basic point that countries are competing for business by creating attractive tax regimes is undeniable. Exploration for oil and gas is expensive and cut our tax rate because we want the giant companies that do this to explore and develop supplies here rather than somewhere else.

This is about power and in particular the power balance between governments and business. Governments are powerful within their own territory, though they have to operate within constitutional arrangements and comply with broadly accepted international norms. If they don't, they pay a price – revolution and/or poverty for their people. Outside their jurisdiction, however, they are not that powerful at all, and the smaller the country the less power it has.

Thus the US government has a fair degree of leverage because of the size of its market. Companies and countries want access to it. But that power has limits, and if it imposes conditions that are thought to be too onerous, then they withdraw. For example, Americans abroad are finding it harder to get wealth-management services from non-US advisers because extra-territorial regulations make them unattractive customers. China is similarly in a strong position (though less strong than the US) because companies want access to its market.

Europe is more complicated because it is not a country. Some of the power relationship applies. Europe has a fair degree of leverage over the UK because our companies want access there, but this is tempered because European companies want access here. Smaller European countries have rather more power within Europe than you might expected as they have political leverage. Ireland can give a US company access to the European market and combine that access with a very low corporation-tax rate. Luxembourg and the Netherlands have similarly "gamed" their EU membership cleverly to attract business.

Businesses are powerful because they employ people and governments are desperate for jobs. They also get things done. No government, however competent, can build an aircraft or develop an oil field. It can, as we are seeing, run a bank, but we also see how much it hates so doing.

So each need the other. But the relationship between companies and governments has changed over the years for two reasons. First, globalisation: a generation ago people mostly bought products that were made in their own country. Now you don't know where something is made.

Second, the added value of a product is not in its manufacture but rather in the intellectual capital that has gone into it: the patents, the design, the marketing, the brand.

The combination of these two features means the power balance between governments and companies has shifted – and towards companies. Their ability to shift profits around used to be limited by their physical business and by agreements on transfer pricing (the price at which companies charged other parts of the business in another country for components). You could also see what was physically transported where. But if the added value is in intellectual property then it is much harder to price – and track.

The result is that it is much harder to tax companies than it used to be, and inevitably, abuses have arisen. The purpose of these new rules is to try and curb that. The aim of the OECD plan is to stop companies avoiding tax by putting patent rights into shell companies, charging interest in one country without reporting taxable profit in another, and forcing them to disclose where they do report their income.

This makes a lot of sense. As the German finance minister, Wolfgang Schäuble, said in Moscow: "Without fair burden sharing, in the end we will destroy even a global, open economy."

But governments should not kid themselves that it will be easy to establish what is fair.

Look at the graph, which shows the proportion of GDP that company taxation raises. Germany is at the bottom of the league – it is very bad at extracting money from its corporate sector. Norway, thanks to its oil, is at the top, and other natural-resource producers such as Australia and Canada also do well. Luxembourg is successful thanks to its financial-centre business (and it is a small economy) and the UK is above the middle of the pack. Ireland and the Netherlands both have successful regimes in the sense that a lot of companies base their international operations there, but proportionately they don't extract a lot of money.

Actually we as individuals can help – simply by not buying goods and services from companies that abuse the system. But that only takes us so far: we can do without Starbucks coffee but not without a Google search.

Start your day with The Independent, sign up for daily news emails
PROMOTED VIDEO
ebooks
ebooksA year of political gossip, levity and intrigue from the sharpest pen in Westminster
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Selby Jennings: Oil Operations

Highly Competitive: Selby Jennings: Our client, a leading European Oil trading...

The Jenrick Group: Night Shift Operations Manager

£43500 per annum + pension + holidays: The Jenrick Group: Night Shift Operatio...

SThree: Trainee Recruitment Consultant - LONDON

£20000 - £25000 per annum + OTE £40,000 + Car + Pension: SThree: SThree are a ...

SThree: Trainee Recruitment Consultant

£20000 - £25000 per annum + OTE £35K: SThree: We consistently strive to be the...

Day In a Page

Isis in Iraq: Yazidi girls killing themselves to escape rape and imprisonment by militants

'Jilan killed herself in the bathroom. She cut her wrists and hanged herself'

Yazidi girls killing themselves to escape rape and imprisonment
Ed Balls interview: 'If I think about the deficit when I'm playing the piano, it all goes wrong'

Ed Balls interview

'If I think about the deficit when I'm playing the piano, it all goes wrong'
He's behind you, dude!

US stars in UK panto

From David Hasselhoff to Jerry Hall
Grace Dent's Christmas Quiz: What are you – a festive curmudgeon or top of the tree?

Grace Dent's Christmas Quiz

What are you – a festive curmudgeon or top of the tree?
Nasa planning to build cloud cities in airships above Venus

Nasa planning to build cloud cities in airships above Venus

Planet’s surface is inhospitable to humans but 30 miles above it is almost perfect
Surrounded by high-rise flats is a little house filled with Lebanon’s history - clocks, rifles, frogmen’s uniforms and colonial helmets

Clocks, rifles, swords, frogmen’s uniforms

Surrounded by high-rise flats is a little house filled with Lebanon’s history
Return to Gaza: Four months on, the wounds left by Israel's bombardment have not yet healed

Four months after the bombardment, Gaza’s wounds are yet to heal

Kim Sengupta is reunited with a man whose plight mirrors the suffering of the Palestinian people
Gastric surgery: Is it really the answer to the UK's obesity epidemic?

Is gastric surgery really the answer to the UK's obesity epidemic?

Critics argue that it’s crazy to operate on healthy people just to stop them eating
Homeless Veterans appeal: Christmas charity auction Part 2 - now LIVE

Homeless Veterans appeal: Christmas charity auction

Bid on original art, or trips of a lifetime to Africa or the 'Corrie' set, and help Homeless Veterans
Pantomime rings the changes to welcome autistic theatre-goers

Autism-friendly theatre

Pantomime leads the pack in quest to welcome all
The week Hollywood got scared and had to grow up a bit

The week Hollywood got scared and had to grow up a bit

Sony suffered a chorus of disapproval after it withdrew 'The Interview', but it's not too late for it to take a stand, says Joan Smith
From Widow Twankey to Mother Goose, how do the men who play panto dames get themselves ready for the performance of a lifetime?

Panto dames: before and after

From Widow Twankey to Mother Goose, how do the men who play panto dames get themselves ready for the performance of a lifetime?
Thirties murder mystery novel is surprise runaway Christmas hit

Thirties murder mystery novel is surprise runaway Christmas hit

Booksellers say readers are turning away from dark modern thrillers and back to the golden age of crime writing
Anne-Marie Huby: 'Charities deserve the best,' says founder of JustGiving

Anne-Marie Huby: 'Charities deserve the best'

Ten million of us have used the JustGiving website to donate to good causes. Its co-founder says that being dynamic is as important as being kind
The botanist who hunts for giant trees at Kew Gardens

The man who hunts giants

A Kew Gardens botanist has found 25 new large tree species - and he's sure there are more out there