Tax Haven Cash Rising, Equal To At Least 10% Of World GDP

Cross-border wealth management first developed in Switzerland in the 1920s, but until the 1980s there was no other country where one could easily hide assets.

Tax Haven Cash Rising, Now Equal To At Least 10% Of World GDP

Kenneth Rapoza , CONTRIBUTOR

I cover business and investing in emerging markets. 

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The Russians and Arabs prefer Switzerland. The Americans prefer the Caribbean. While not illegal, tax havens are now stores of greater financial assets than ever imaged. The world's one percenters, therefore, own a larger percentage of global wealth than we thought.

That's because the equivalent of at least 10% of the world's GDP is in offshore banks, and that number is probably higher due to the opaqueness of the world's global tax havens, according to a research report release this month by the National Bureau of Economic Research. In other words, there is much more money out there than economists thought, and it is increasingly concentrated in the hands of the world's richest people.

The percentage of household wealth held in offshore accounts ranges widely from country to country from the equivalent of a couple points of GDP in China, to about 15% in Europe, and as high as 60% in some Persian Gulf and Latin American countries, report authors found. The study uses these estimates to construct a revised series of top wealth percentage holders in 10 countries, which has their net worth equal to about half of the world's GDP, the NBER study states.

"Because offshore wealth is very concentrated at the top, accounting for it increases the top 0.01% wealth share substantially in Europe, even in countries that do not use tax havens extensively," the report abstract says. Offshoring is huge in Russia, where the vast majority of wealth is held in foreign bank accounts. The paper suggests national economists look beyond tax and census survey data to truly understand wealth accumulation among the world's one-percenters.

The data is not entirely complete.

Offshore banks and countries known as tax havens rarely publish informative statistics about their account holders. It is not entirely clear if most of the wealth held offshore is owned by rich Westerners, or if it belongs to rich people from developing countries with a history of economic instability and high inflation. If so, as last year's Panama Papers data dump revealed, the question is how much of it belongs to corrupt politicians and is derived from criminal sources? How much belongs to a broader segment of the population just looking for tax relief? Is most of it off shore just to hide it from tax authorities, or are people setting up these accounts for non-tax reasons, such as preparing to set up a presence in another country, or for buying real estate.

For the report's authors, tax haven wealth is a key issue that helps understand the rise of income inequality. It is likely to become even more important in the future, as trends in global wealth and stateless entities are rising. As these trends increase, so will the use of off shore banking.

After the Sept. 11 terrorist attacks in the U.S., President George W. Bush and congress signed the USA Patriot Act to crack down on offshore tax havens. It had some impact on traditional shelters that did not report account holders assets to tax authorities: Switzerland is not as big as it once was, as other offshore centers provide it with ample competition. The Patriot Act has not put a dent in off-shoring capital.

National Bureau of Economic Research. 

The gulf states prefer Switzerland due to historical factors. During the early discovery of oil there, Switzerland was the only European market that had a welcome mat out for foreign clients looking for professional money management. Russia NEO is an alternative estimate by NBER report writers, accounting for the possibilities of net errors and omissions in the balance of payments as calculated by other economists.

Switzerland And Beyond

The Swiss central bank has been publishing a country-by-country breakdown of the wealth owned by foreigners in Swiss banks annually since the 1970s. The data cover all the banks located in Switzerland, including the subsidiaries of foreign banks, but excluding the subsidiaries of Swiss banks abroad. But they only provide information on a specific type of account, known as fiduciary deposits. These are large accounts and believed to be representative of the offshore wealth managed by Swiss banks.

The problem with cracking this number is that a large fraction of the money held in Switzerland belongs on paper to shell companies, trusts, foundations, and personal holding companies incorporated in other tax havens. A significant percentage of the offshore wealth managed by Swiss banks belongs to people whose primary accounts, or entities, are based in the British Virgin Islands, Panama, or Jersey.

The use of shell companies increased after 2005 following the EUs Savings Tax Directive, a tax on interest income earned by EU residents in Switzerland and other tax havens. Because the tax did not apply to accounts nominally owned by shell companies, savvy investors were advised to shift their assets into shell companies.

The biggest Swiss bank account holders are nationals of: Russia, Saudi Arabia, United Arab Emirates, Spain, France, Belgium, Argentina, Venezuela, Egypt and Jordan.

Most tax havens compile statistics on who owns the money. For instance, Switzerland worked with Brazil law enforcement to provide evidence that accounts held in family names belonged to a top congressman named Eduardo Cunha. He had lied about having $5 million in that account, money that was earned through a bribe scandal. He is now in prison.

In 2016, many off-shore centers authorized the Bank for International Settlements to disseminate bilateral banking statistics -- like the amount of deposits owned by Brazilians in Switzerland. This series of data is retrospective, and goes back in most cases to the early 2000, giving researchers enough evidence now as to how much the rich own in terms of world wealth.

As of August 2017, Guernsey, Hong Kong, the Isle of Man, Jersey, Luxembourg, Macao, and Switzerland reported bilateral current and historical banking statistics through the BIS. A number of offshore centers still did not, most notably the Bahamas, Singapore, and the Cayman Islands.

National Bureau of Economic Research. 

Despite the USA Patriot Act trying to put a dent in tax havens due to money laundering, use of tax shelters has increased. Having an offshore bank account is not illegal. "Our estimate" refers to NBER report authors. And BCG stands for Boston Consulting Group.

Cayman is a favorite of U.S. high net worth individuals, and is used as a holding company base for U.S. companies, the NBER report states.

Taking offshore wealth into account increases the rise in inequality seen in tax data. All the available evidence suggests that once offshore wealth is factored in, the top one percent of wealth share is now significantly higher than previously thought.

The NBER report was conducted by three professors from the University of California at Berkeley, the University of Copenhagen and the Norwegian University of Life Sciences.

Tax havens barely existed before World War I, when the direct taxation of income and wealth was in its infancy and top marginal tax rates did not exceed a few percentage points. Cross-border wealth management first developed in Switzerland in the 1920s, but until the 1980s there was no other country where one could easily hide assets. Now there are many, and all of them are flourishing despite the political rhetoric, and even political will, to at least crack down on money laundering and
serial tax evaders.

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