13/10/2013: On Taxes, Debt & Equity

EU Commission published some interesting research into Tax Reforms across the EU. The paper is available here: http://ec.europa.eu/economy_finance/publications/european_economy/2013/pdf/ee5_en.pdf

One interesting topic covered relates to the substitution away from equity in favour of debt funding in corporate capital investment. A chart to start with:

Now, per above, the disincentives to equity investment and incentives in favour of debt seem to be the lowest (in euro area) in Cyprus and Ireland. Note that these countries are associated with aggressive brass-plating (Luxembourg) are distinct from countries with aggressive tax arbitrage activities (Cyprus and Ireland). And thus, behold the skew in the EU Commission analysis: MNCs investing into these countries do not use debt on-shoring (US MNCs do not borrow in these countries), but use registry of equity there (for example, in Irish case - due to FDI-booked investments, or equity investment by IFSC companies, ditto for old Cypriot banking system vis Russian corporates).

The EU admits almost as much:
"There is also evidence that the tax advantage of debt fuels international profit-shifting activities as
rules on interest deductibility differ between countries and there are mismatches in decisions on which instruments are considered debt financing. Several studies analyse the debt financing of multinationals with either parent companies or subsidiaries in the United States, Germany, Canada and the EU. The results of these studies suggest that firms use intra-group loans to adapt their financial structure and minimise their overall tax burden. By shifting debt to an affiliate located in a high-tax country, corporate groups are able to deduct interest payments against a higher statutory tax rate while the interest received by the lending affiliate is taxed at a lower rate. Taking data from 32 European countries between 1994 and 2003, Huizinga et al. (2008) find that a 10 % increase in the tax rate increases leverage by 1.8 %. The authors also show evidence of debt-shifting as, for multinationals with two equal-size establishments in two countries, a 10 % increase in the tax rate in one country leads to an increase in leverage of the company located in that country by 2.4 % and a decrease in leverage in the affiliated foreign company by 0.6 %."

However, overall the tax rates also play the role in this debt-shifting: "Two recent meta-studies by Feld et al. (2013) and de Mooij (2011a) review the existing empirical studies and find that ... a one percentage point higher CIT rate is associated with a 0.27 percentage point higher debt-asset ratio."

Two more major points raised in the paper:

1. Welfare costs: "The tax bias towards debt financing also creates welfare costs. Weichenrieder and Klautke (2008) estimate this cost at between 0.08 % and 0.23 % of GDP, while Gordon (2010) estimates it at about 0.25 % of GDP. As pointed by de Mooij (2011b), these estimates ...fails to take into account the heterogeneity of responses and hence the additional welfare costs due to misallocations. Existing studies also fail to include the larger welfare costs of the negative externalities of using debt, such as systemic risk, the probability of default and the social costs of business cycle fluctuations. Finally, they do not take into account the distortions created by debtshifting activities and misallocation due to international tax arbitrage and administrative and compliance costs (de Mooij, 2011b). Consequently, the welfare impact of the debt bias can be assumed to be higher than what has been found in the literature so far."
2. Banking Systems and Debt Shifting: "Keen and de Mooij (2012) ...show that taxes influence the capital structure of banks and that, despite capital requirement constraints, the size of the effects of corporate taxation on the financial structure of banks is close to those for non-financial firms." In other words: capital rules do not induce any significant changes in banks behaviour when it comes to funding of banking activities: debt incentives still drive leverage up. Furthermore, "Hemmelgarn and Teichmann (2013) have found that bank leverage, dividend payouts and earnings management (in terms of loan loss reserves) react to changes in the domestic statutory CIT (corporate income tax) rate. ...In the three years after a tax increase by 10 percentage points, the results predict an increase in leverage of 0.98 percentage points or a relative increase by about 1.1 % (in relation to the equity ratio it would mean a notable relative decrease, of 8.9 % of equity)." Core conclusion: "These results suggest that a reduction in the preferential treatment of debt would result in a significant decrease in bank leverage. In addition, the results also show that regulatory capital requirements in the banking sector alone do not seem to be a prime determinant of financial structure. ... the effect of taxation conflicts with the aim of current regulatory reform to increase capital in the context of Basel III."

20/6/2013: Some facts about income inequality in Ireland and across OECD

Here's an interesting chart from the OECD's latest analysis of income inequality changes during the crisis:

Chart: Market income inequality rose considerably (Percentage point changes in the Gini coefficient of household market and disposable incomes between 2007 and 2010)

While Ireland ranks 1st in terms of overall gross income inequality increases during the crisis (primarily driven by the changes in the employment composition by tenure during the recession and the asymmetric recovery/price dynamics in assets markets between property and equities), we rank 9th in terms of after-tax disposable income inequality. Put differently, tax hikes did impact disproportionately those better off, so much so, they offset asymmetric income changes (including for income from assets).

This effect is partially reflected in the chart below:

Chart: Taxes and social transfers mitigated falls in market income in most OECD countries (Annual percentage changes in household disposable income between 2007 and 2010, by income component)

As things stood in 2010 (major caveats apply here), Ireland's levels of income inequality are actually below the OECD average:

Chart: There are large differences in levels of income inequality across OECD countries (Gini coefficient of household disposable income and gap between richest and poorest 10%, 2010)

Although our income inequality is above that for all EU countries, save Italy, Estonia, Greece, Spain, UK, and Portugal. In comparative across the English-speaking OECD states, we are ranked in the 1st place in terms of having the lowest levels of income inequality.

Loads of fascinating analysis on the topic here: www.oecd.org/els/soc/OECD2013-Inequality-and-Poverty-8p.pdf

15/5/2013: What IMF assessment of Malta has to do with Ireland?

Here's an interesting excerpt from the IMF Article IV conclusions for Malta, released today (italics are mine):

"In the longer term, regulatory and tax reform at the European or global level could erode Malta’s competitiveness. The Maltese economy, including the financial sector and other niche services, has greatly benefitted from a business-friendly tax regime. Greater fiscal integration of EU member states and potential harmonization of tax rates could erode some of these benefits, with consequences on employment, output, and fiscal revenues."

Now, Ireland is a much more aggressively reliant on tax arbitrage than Malta to sustain its economic model and has been doing so for longer than Malta. One wonders, how come IMF is not warning about the same risks in the case of Ireland?


Another thing one learns from the IMF note on Malta: "The largest banks will be placed under the direct oversight of the ECB from 2014. The MFSA should work closely with the ECB to ensure no reduction in the supervisory capacity of these banks."

Wait, we've all been operating under the impression that direct oversight from ECB is designed to increase quality and quantity of oversight. Quite interestingly, the IMF is concerned that it might reduce the currently attained levels of supervision.

16/8/2012: Financial Repression - Round 2

Financial repression continues to gain speed in Ireland: link here.

Basic idea: having raided actual pensions funds, the Irish Government is to issue special annuities (priced accordingly to reflect State's 'grudging acceptance' for now of the pensions tax break) for insurance and pensions providers.

The good part of the idea is, as Fitch points in the note, added funding stream for the Government.

The bad parts are, as Fitch does not bother to note:

• Deleveraging economy means that funds will be taken out of the already diminished private investment stream, should the annuities be successful in raising such funds;
• Risks of claims exposure to Ireland for Ireland-based providers will now be amplified by more assets tied to Ireland (de-diversification);
• The new funding is debt, priced more expensively than what we can avail of from the Troika programme and subsequently from the ESM (at least access to and the cheapness of the ESM funds was the Government-own rationale for convincing the voters to back the Fiscal Compact earlier this year - something that the rating agencies have confirmed, as I recall);
• The new funding is still debt, which means that the new 'source' is not going to help restoring Irish public finances to sustainability path;
• Payments on these annuities will be subject to the same seepage out to imports (consumption of recipient households) as any other income and thus will have lower impact on our GDP, and an even worse impact on our GNP, than were the annuities structured using foreign governments' bonds;
• Share of the Irish state liabilities held by domestic investors will rise, which automatically implies riskier profile for both: Exchequer future funding and pensions;
• The latter (pensions funding risk profile deterioration) will also induce higher expected value of future unfunded liabilities (basically, as risk of pensions funding rises, probability of claims on state in the future to fund public pensions rises as well), and so on.

But, hey, why would the Irish State bother with any of these concerns when they've found another quick fix to €3-5 billion of our cash?

And on a more macro level, financial repression is back on the EU agenda too. The latest spike in French rhetoric about the need for 'own-funding' of the EU operations (link here) is just that, have no doubt. The idea is to give EU some central taxation powers so, as claim goes, it reduces the 'burden' on national governments. So far so good? Not exactly. Neither the French, nor any other Government in Europe at this stage is planning to 'rebate' (or reduce) internal tax burdens to compensate for EU new tax burden. In other words, the Governments ill simply pocket the 'savings'. Which, to put it simply, means the new 'powers' will simply be new taxes for the already heavily over-taxed and recession-weakened economies of Europe.

All in the name of deleveraging the State at the expense of the real economy. And that is exactly what the financial repression is all about.

Updated: And just in case we need more 'creative' thinking, here's an example of financial suppression: It turns out Nama (Irish State Bad Bank - don't argue that SPV thingy, please) should use public purse to suppress normal price discovery processes in Irish property markets. Right... you really can't make this up. Irish elites are now so desperate for relevance, they are fishing that Confidence Genie anytime anyone is feigning some attention to what they have to say.

12/07/2011: Irish Tax Rates in International Perspective - Part 2

More tax comparatives, courtesy of OECD dataset. Note, these refer to 2009 tax returns.

In the previous post (here), I provided some assessments of the overall taxation burden in Ireland compared to EU27, plus Norway, Israel and Switzerland. Now, let's look at components of the total taxes.

First - taxes on production:
What this chart above tells us is that we are not distinct from the sample average in terms of our taxes on production expressed as a function of GNP, while we are below average when expressed in terms of GDP:

• Total production and imports tax revenues in Ireland stood at 14.0% of GNP and 11.5% GDP in 2009. Sample average stood at 13.1% (median 13.0%) and +/- 0.5 STDEV band is (11.0, 14.4). So Irish taxes on production and imports as a share of GNP were above sample average. Again, for comparison : Switzerland was at 6.8% of GDP, while Sweden at 19.0%.
• Total production and imports tax revenues are broken down into Taxes on Products, and Other Taxes on Production. Taxes on Products in Ireland yielded 12.4% of GNP and 10.2% of GDP against sample average of 11.6% (median 11.3%), with +/- 0.5 STDEV band around the mean of (10.6,12.7). Again, Irish tax yields here were within the band when expressed in terms of GNP and below the mean when expressed against GDP. Other Taxes on Products (other than Vat, Import Duties and direct taxes on products) accounted for 1.3% of GDP and 1.6% of GNP - against the mean of 1.5% and the +/- 0.5 STDEV band of (0.9,2.1). Neither GDP nor GNP comparative here was out of line with the mean.
• Taxes on Products mentioned above can be further broken down into Vat, Taxes & Duties on Imports (ex-Vat), Taxes on products ex-Vat & Import taxes. VAT in Ireland in 2009 accounted for 6.4% of GDP and 7.8% of GNP. Sample average here was 7.3% with +/- 0.5 STDEV band around the mean of (6.6,8.0), median of 7.4, which means that Irish Vat receipts were in line with the sample average in terms of GNP, but below the mean in terms of GDP. In terms of Taxes on products ex-Vat & Import taxes, the same picture holds. In terms of taxes and Duties on Imports ex-Vat, Irish receipts were above the mean (statistically significantly) for both GDP and GNP measures.
  

Next, Irish Times / ESRI / Trade Unions' favorite taxes on Income and Wealth:
Remember, we allegedly have very low taxes on these and more needs to be extracted out of the 'Irish rich' :

• Total current taxes on income and wealth in Ireland stood at 10.7% of GDP and 13% of GNP. This compares against the sample average of 11.9% of GDP (median of 10.8%) with +/- 0.5 STDEV band around the mean of(9.3, 14.5). In other words, our taxes were slightly (but statistically insignificantly) above average in terms of GNP and also slightly (and again statistically insignificantly) below average in terms of GDP.
• The above can be broken down into Taxes on Income, and Other Current Taxes. Taxes on income yielded 12.5% of GNP and 10.3% of GDP. Both are within sample average range: sample average was 11.3%, +/- 0.5 STDEV band around the mean was (8.8,13.8) and median was 10.4%. Other current taxes were small at 0.4% of GDP and 0.5% of GNP, but also within the range of the mean of 0.6% of GDP.
• Capital taxes came in within the mean range in terms of both GDP and GNP comparatives.
• Total income tax related receipts and capital taxes accounted for 22.4% of GDP and 27.2% of GNP in Ireland in 2009. The sample average was 25.2% and the median was 24.4%. +/- 0.5 STDEV band around the mean was (22.0, 28.5), which means that our income and wealth taxes were solidly within the range of the mean for both GDP and GNP measures. An interesting coincidence - Swiss and Netherlands' taxes in this heading were bang on identical as a function of GDP to ours.
  

Social Contributions taxes:
Now, keep in mind that social contributions are meant to pay for social protection services. For which we, in Ireland, should have lower demand than in other states of EU due to younger population, but the demand on social welfare side does offset this due to a spike in unemployment. Social protection taxes in Ireland have also been dramatically increased in Budget 2011 - not reflected in the data above.

• Social Contributions is the largest component of the tax receipts here, with Irish contributions accounting for 7.0% of GNP and 5.8% of GDP. The mean was 10.6 and the median 11.2, while +/- 0.5 STDEV band around the mean was (8.7,12.5). This means Irish Social Contributions overall were below the mean in terms of GDP and GNP.
• Let's take a look as to why. Our Employers' contributions (at 3.3% of GDP and 4.0% of GNP against the mean of 6.3% and band of (4.9, 7.7)) fell short of the mean in terms of GDP and GNP. The same was true for our Contributions by self- and non-employed (o.2% of GDP and GNP against the average of 1.1% with the median of 0.7% and the band of (0.6, 1.6)).
• The above 'below average" performance was offset slightly by the Employees Contributions which came in at 2.3% of GDP and 2.8% of GNP against the mean of 3.2% with the median of 3.1% and +/- 0.5 STDEV band around the mean of (2.4, 4.1). In other words, our Employees Contribution is within the average for GNP metric, but below the average for GDP metric.

So now on to the overall tax burden in this economy. As highlighted in the previous post, our total tax revenue stood at 35.9% of GNP and 29.6% of GDP. The average for the sample was 36.5% against the median of 35.9%. The +/- 0.5 STDEV band around the mean was (33.5, 39.6) which means that our overall tax burden

• expressed as a function of GNP was bang on with the median, and statistically indistinguishable from the mean;
• ex pressed as a function of GDP was statistically significantly below the mean.
  

Again, folks, the data above shows that by virtually all comparisons, we are a country with average tax burdens - not a low tax economy.

10/07/2011: Irish Tax Rates in International Perspective

Some interesting international comparisons for tax revenues across the EU27, plus Israel, Norway and Switzerland (no Iceland, sadly), courtesy of the OECD dataset - last updated April 27, 2011. I added Ireland's tax ratios relative to GNP based on CSO data for all the years 1999-2009.

Let's run some comparisons:

• In 1999, total tax revenues in Ireland were 33.2% of GDP and 38.9 GNP which compares to 37.% of GDP for the simple average of 30 countries in the sample and 37.2 median. There was a slight (0.3) skew in the data. With a standard deviation of 7.0 that year, Irish tax/GNP ratio was well within the average, which is confirmed by the rank attained by Ireland as 12th highest tax economy in the group.
• In 2003, total tax revenues in Ireland were 30.3% of GDP, which of course would be consistent with FF/PDs 'low tax' policies the Left is keen of accusing them of. Alas same year total tax revenue in Ireland stood at 35.9% GNP which compares to 36.7% of GDP for the simple average of 30 countries in the sample and 36 median. So as Irish tax revenue as a share of economy declined, so did the sample average. The new skew was 0.2 lower than in 1999. Hence, with a standard deviation of 6.5 that year, Irish tax/GNP ratio was again well within the average - actually even closer to the average - which is confirmed by the rank attained by Ireland as 16th highest tax economy in the group.
• Now, note that within both of the above years, in terms of GDP comparative, Irish taxes were ranked 22nd and 26th highest in the sample.
• Zoom on to 2007 when Irish tax revenues accounted for 32.0% of GDP and 38.8% of GNP against the sample average of 38% of GDP and a standard deviation of 5.8. There was zero skewness that year. Once again, there was no statistical difference between Irish tax rates and the average. Ireland ranked 25th highest tax economy in comparison against GDP and 14th in comparison to GNP.
• 2009 is the latest year we have comparatives for and in that year, Irish Government tax revenue accounted for 29.6% of GDP and 35.9% of GNP, which (GNP figure) again was statistically indistinguishable from the mean which was 36.7% (with standard deviation of 6.1 and skew of 0.2).

So now, let's map the above data:
Notice the following features of the above chart:

• Irish tax returns as a function GDP are more volatile than in terms of GNP - in fact historical standard deviation for Irish tax revenues in terms of GDP is 1.406 against that for GNP of 1.210. The median standard deviation for the sample of 30 countries is 0.736.
• Irish tax returns as a function of GDP are always statistically significantly different from the average, but our tax returns as a function of GNP are never once outside the average. In other words, folks, our tax burdens are average. Not low, not high - average.
• Only within the period of 2001-2003 did our tax returns as measured in relation to GNP fall statistically significantly below those for Euro area (EA17).

Let's put our tax revenues against some comparable countries. I divided the following two charts into Small Open Economies that are members of the Euro area and those that are not:
Interestingly, for the Euro are countries, Sweden, Belgium, Austria and Finland have tax burdens in excess of the average (note they are above the 1/2 STDEV band relating to the mean. Notice that all of the countries in that group, with exception of debt-ridden Belgium, are experiencing declines in their tax burden since 1999. Apparently, to the chagrin of our friends in the Trade Unions, Tasc and Irish Times - the ones so keen on shouting about the FF/PD coalition tax policies - the Nordics too were run by right-wing free-marketeers.

Next, notice the countries within the trace band around the mean - these are the Netherlands, Lux, Slovenia, Ireland (GNP), Portugal and Czech. Greece has dropped below the average range around 2004. It's an interesting neighborhood we are in, which includes highly aggressive tax competitor such as the Netherlands.

Lastly, we have a truly aggressively competitive Slovakia.

So again, there is no evidence in sight that Ireland is or was a low tax haven.

Now, for non-Euro countries:
Speaks for itself, but let me cover one little point. Switzerland has ranked within lowest 5 tax economies in 10 out of 11 years between 1999 and 2009. The country with functional public services and great public infrastructure has managed its affairs on the average tax revenues of just 29.3% of its GDP against the average of 31.7% of GDP and 37.5% of GNP for Ireland. So, really, folks, cut this crap about 'low taxes have ruined Irish economy/society'. The Swiss do it on less than us, better than us and achieve great social cohesion, civility and cultural development while using three languages where we can't master two. It's not in how much you spend, it's how you spend it.