A new study published by the IMF (International Monetary Fund) has found that $15 trillion of the world’s FDI (Foreign Direct Investments) are “phantom capital” – a term used to describe capital that is designed to avoid taxes of multinational firms.
FDI is an essential driver for genuine business activity, stimulating growth and job creation and boosting productivity. Phantom capital is financial and tax engineering that blurs the real state of business activity and to what many would consider moral fraud.
These types of investments have risen about 10% over the past decade, and are even starting to escalate – see inset chart. Luxembourg’s economy is the winning country, whose $4 trillion in FDI is laughable when looking at a country with only 590,000 people. This phantom capital makes up 40% of the world’s total FDI. Global assets under management is a little more than $100 trillion. Hence the $15 trillion in phantom capital is eye-popping.
So how does it work? There are various types of tax schemes. One is called the “Double Irish With A Dutch Sandwich.” The scheme involves sending profits first through one Irish company, then to a Dutch company, and finally to a second Irish company headquartered in a tax haven. Profits are shifted to other countries by assigning intellectual property rights (IPR) to subsidiaries abroad from a tax haven. The company in the high tax country is run at a near breakeven point (paying a little tax for good measure), and then paying the low tax country the real profits in IPR license fees. The capital in the offshore tax haven is not in the country for actual business activity, rather merely for tax purposes – phantom capital.
Is it legal? Sure, there are various tax laws that have been lobbied for that allow for this. Is it moral fraud? Obviously yes, as it shifts the tax burden onto local businesses and individuals who are being defrauded. These schemes also favor big companies over smaller companies. To set these schemes up is not easy, and requires a lot of legal and administrative expenses. But if your company is large enough, the scale makes it viable, as this becomes a very small part of business costs per product or service sold. It becomes legalized financial fraud.
News Forecasters asks, what will be done about this financial fraud? There will be various pushes by government entities (here is one from 8 years ago – how did it do?) to try to close some of these loopholes, but unfortunately, the lobbying by the benefactors of this fraud will largely keep it legal.
The “free markets” are not that free. Capitalism is under attack. The capitalists have gotten too greedy with their fraud; hence, the masses will then push for socialism, rather than maintain the principles of a fair and free market by fraud elimination. Both socialists and capitalists will be the losers for this in the future, though for different reasons – you reap what you sow.
A video presentation of this subject: