What happens when you allow enough tax avoidance February 28, 2010 at 2:16 pm

Sun at SeaWhat’s the common thread between the Russian default of 1998 and the Greek travails of 2010? Tax avoidance of course. As Bloomberg says, tax dodging is common is Greece:

Prime Minister George Papandreou’s drive to tackle the European Union’s biggest budget deficit and pacify investors who have dumped Greek assets may hinge on convincing more people … to abandon this tax-dodging tradition. Papandreou says that Greek workers and companies have skirted tax worth 31 billion euros, more than 10 percent of gross domestic product.

This was the root cause of the Russian problems, too. As Chiodo and Owyang say

… [A] weakness in the Russian economy was low tax collection, which caused the public sector deficit to remain high.

In fact the Russian situation was worse in that the tax collecting authorities collaborated with tax avoidance in some cases:

The majority of tax revenues came from taxes that were shared between the regional and federal governments, which fostered competition among the different levels of government over the distribution. … this kind of tax sharing can result in conflicting incentives for regional governments [who collected most of the taxes] and lead them to help firms conceal part of their taxable profit from the federal government in order to reduce the firms’ total tax payments. In return, the firm would then make transfers to the accommodating regional government.

The lesson is clear. The sun will set on those states that can’t persuade their citizens, especially their high-earning citizens, to pay tax. As Ruth Sutherland said in an excellent article in the Guardian recently

Paying tax has terrible PR. But it is actually a good thing to pay the right amount of tax… The contempt for taxpaying of the past few decades has gone hand in hand with greater inequality, strained public services and an unthinking faith in the market, ideas that are now discredited. As we head towards an election, it’s time for a new way of thinking.

Quite right, especially as the alternative may well be default.

Update. We can start here with Lord Ashcroft. It is outrageous that the biggest donor of a UK political party is in the words of Chris Huhne, `a tax dodger from Belize’. He, like anyone with a prominent role in national life, should be taxed in the UK on his full global income.

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