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Marcuard's Market update by GaveKal Research
The Cahuzac affair in France has conveniently emerged just as the search for possible scapegoats to Europe’s quandary was intensifying. Thanks to the former French budget minister’s secret Swiss bank account, Europe can now move from its war against finance (Hollande declaring that finance was his enemy, the financial transaction tax, capping of bonuses, etc) to an outright war against tax havens (letting Cyprus sink, arm-twisting Luxembourg into abandoning its banking-secret policy, etc). Leaving aside the EU’s increasing penchant for forcing members to adopt policies that blatantly go against national interests (like the Tobin tax in the UK), yesterday’s announcement by Luxembourg of an “open-book” policy raises the question of whether the EU is cutting off its nose to spite its face. If tax havens have existed and thrived for so long, they must have some sort of economic justification.
Beyond the debate on the "morality" of hiding one’s wealth, let us simply focus on the possible consequences of closing down havens. First assume that there are two kinds of deposits in these jurisdictions: the perfectly legal kind, and the illegal kind (such as the ones that Jerome Cahuzac had in Switzerland). For an economist, there is no reason to differentiate between the two. Combine them and the amounts get large. Large enough to offer both types of investors economies of scale, a large array of financial services needed, etc.
Now the reality for most tax havens is that their economies are far too small to absorb the excess savings that pour into their countries. Their banks thus end up being large buyers of assets outside of the country. All else being equal, this should be good news for “foreign assets”. If, for example, a Luxembourg bank decides to buy French or German bonds with the deposits of a Belgian dentist, then the yields in Germany and France will be lower than they would have otherwise been. If that account is now closed and moved to Singapore to buy SGD bonds (probably a smart trade anyway), then interest rates in France and Germany will move higher, while they fall in Singapore.
Or to put it another way: when it comes to the illegal deposits, the economic net effect of Mr Cahuzac hiding his money in Switzerland was for this “gentleman” to have a lower tax rate. If the governments of the world now succeed in getting these deposits in the open, it will be equivalent to a tax increase, no more no less. And increasing taxes massively, when tax rates are already unbelievably high, would be a sure recipe for sending the struggling economies into a tailspin. Look at it this way: with their domestic economies already circling the drain, can the French, Italian or Spanish entrepreneurs stomach a tax increase? Once again, a war on tax havens is (at least for an economist without any moral compass) nothing but an attempt to increase taxes to prop up bankrupt welfare states; i.e., yet another attempt to send good money after bad to continue feeding the leviathan.
As the 19th century Frederic Bastiat used to say, in any economy, you have what you see and what you do not see. In this case, we see the evil tax havens which allow corrupt French politicians to hide their wealth from the confiscatory taxes they impose on the rest of the population. What we do not see is that tax havens may be a key part of an age-old equation which allows small, risk-taking entrepreneurs to produce profitably. Who is to say that, if we close the tax havens, a number of French, German, Italian, etc, entrepreneurs will not simply decide to head to the beach and call it a day?
So, at the risk of sounding like a Burkian conservative, we would have hoped that Eurocrats would tread carefully when attempting to shift social contracts and economic infrastructures for the already struggling European entrepreneur. As things stand, Europe’s welfare states are already on the brink. In this position of weakness, going out all guns blazing after rich people and their wealth strikes us as sheer madness; or, perhaps, simple desperation? With every day that passes, Europe continues to make itself less entrepreneur- and investor-friendly. European banks rallied hard yesterday after their -22% post January drop—any such rallies should be sold, just as any dip in Singaporean banks should be bought.
Disclaimer: This information may not be construed as advice and in particular not as investment, legal or tax advice. Depending on your particular circumstances you must obtain advice from your respective professional advisors. Investment involves risk. The value of investments may go down as well as up. Past performance is no guarantee for future performance. Investments in foreign currencies are subject to exchange rate fluctuations. Marcuard Cyprus Ltd is regulated by the Cyprus Securities and Exchange Commission (CySec) under License no. 131/11.
