Democracy and inequality as a global foreign policy agenda

by Henry on February 11, 2019

[The below text is a short memo I presented for a workshop on a left-liberal financial foreign policy for the US last week.]

The US left is starting to come to grips with the relationship between democracy and inequality. This builds on a variety of academic work over the last several years – most prominently Thomas Piketty’s book, but also work by other academics such as Emmanuel Saez and Gabriel Zucman – which maps the growth in wealth and income inequality across rich countries, and how marked it has been in market-liberal countries such as the US. But these are no longer academic debates: they are being taken up by politicians within the Democratic party, creating a new dynamic of intra-party competition. Proposals by left-leaning politicians such as Bernie Sanders and Elizabeth Warren are not only notable in themselves, but in how they are shifting the center of gravity, so that more centrist politicians too are taking them up.

To date, most of the political attention has been on the domestic aspects of income inequality. What discussion of global trends there has been has focused on the fact that global inequality is falling as some developing countries catch up. I identify an alternative set of empirical findings that highlight how global networks shape patterns of inequality in the US and elsewhere. I argue that these findings have crucial implications for how we think (a) of inequality within the US, and (b) for the corrosive impact of inequality on democracy elsewhere. Finally, I suggest that there is an important policy agenda that might take up this work, and use it to start to reshape global structures so as to shore up and promote democracy.

Global structures reinforce domestic inequality

People think of economic inequality mostly as a domestic issue. They shouldn’t. Global economic structures play a key role in generating inequality of wealth and influence.

They affect who gets what in the global economy. For example, international rules on intellectual property, laid down in a variety of multilateral and bilateral treaties help ensure the continued dominance of businesses in the US and Europe. ISDS rules notoriously favor the interests of international corporate investors over those of citizens, strengthening the ability of business to extract political concessions. The political left has paid some attention to these problems (although certainly not enough).

They also affect who gets taxed on what they get and who does not. Corporations and the very rich are able to take advantage of a whole industry devoted to crafting tax shelters that are designed to slip between the loopholes of different countries’ rules, or exploit the willingness of some countries to harbor dodgy money. Some of this money stems not from tax evaders but from corruption and other forms of crime. Out-and-out tax havens have been criticized by rich powerful states looking to prevent leakage of money from their own jurisdictions. However, this grossly understates the problem. These problems are only beginning to be addressed by the US left.

Academic research is helping to map out the problem

Academic research suggests that the problem goes far beyond a small number of “tax haven” countries. Alex Cooley and Jason Sharman, for example, have carried out extensive research on kleptocratic corruption. They find that the standard picture of a world where there are relatively honest rich countries, and relatively corrupt poor ones, is quite wrong. Corruption and tax evasion is not a problem of bad countries but transnational networks. Different jurisdictions are connected together by the channels of (1) banks, (2) shell companies, (3) foreign real estate, and (4) second citizenship and investor visa programs. Notably, much corrupt activity is conducted by and through respectable banks, lawyers and accountants. In an experiment, Sharman and his colleagues pretended to be money launderers, corrupt officials, and terrorist financiers, and worked with specialist firms to set up shell companies to hide their illicit money. Sharman and his colleagues found that it was much easier to do so with firms based in Wyoming and Delaware than in notorious tax havens such as Panama.

Other scholars are trying to estimate how much money is hidden from authorities. Gabriel Zucman at the University of California in Berkeley has estimated that approximately 8% of global wealth, or US$7.6 trillion, is hidden in offshore arrangements, designed to either avoid or evade taxes.

These networks have stark implications for democracy in developing countries. As Branko Milanovic argues:

[the traditional] view that robber barons may demand the rule of law and the protection of property rights once they have acquired property seems reasonable—so long as we assume that there is no globalization. But with globalization, it is not necessary to fight for the rule of law in one’s own country. …  A much easier course of action is to take all the money and run away to London or New York, where the rule of law already exists and where nobody will ask where the money came from. A number of plutocrats from Russia, and increasingly from China, are taking this route.

They have substantial, albeit less immediately dire implications for democracy in advanced industrialized countries, where they reinforce domestic financial and institutional arrangements that make it increasingly hard to trace money. Again, they make it easier for wealthy individuals in these countries to hide money from taxation authorities, weakening the state. In more recent estimates, Zucman and his colleagues find that a significant percentage of US GDP is held offshore (although far less than for some other countries; over 70% of the UAE’s GDP is held offshore). These estimates are at best rough, building as they do on known patterns of wealth holding and extrapolating from them. The fact that offshore wealth is so difficult to measure is a substantial part of the problem.

Such networks can have other negative consequences for democracy. Unexplained international money flows played a substantial role, for example, in supporting the “Leave” vote in Brexit. There is good reason to suspect that they play a significant role in the politics of other industrialized countries. There is much speculation about the role of Vladimir Putin and Russia in financing these flows: such speculation may or may not be correct, but is almost beside the point. The obscuring networks and structures that enable political manipulation are open to a wide variety of domestic and international actors, allowing oligarchic forces to exercise substantial political influence with little or no political accountability.

This research has strategic implications for the left

The scholarship on global wealth flows and illicit financial networks is highly imperfect. It shows that there is a problem and that it is a big one, and it sketches some of its contours. That is all it can do, given limitations of available data. It has clear strategic implications nonetheless.

First, and most obviously, it indicates that the problem of US wealth inequality is an international as well as a domestic one. If the left increases taxes on personal income, investment income or wealth in the US, it will surely lead to much greater efforts by those affected to minimize their tax burden. The existence of global networks – and of institutional arrangements in the US that greatly facilitate these networks, such as shell corporations – will help them do this. Therefore, reforming international networks is an urgent domestic challenge.

Second, such networks have wide implications for global democracy outside the US too. Before the Trump administration, the US made great noises about its commitment to spreading democracy. However, the US ‘liberal order’ also involved the massive expansion of global financial arrangements that have very plausibly undermined democracy and the rule of law in developing countries (by allowing political elites to expatriate their wealth to jurisdictions where they can enjoy security, rather than developing such institutions in their own home countries). In short, elements of this order were mutually contradictory – extensive global financial exchange aided oligarchs to stash money overseas, undermining their commitment to the rule of law.  A new left that is genuinely committed to supporting and spreading democracy worldwide must necessarily also be committed to the root and branch reform of the international financial system that the US has done so much to support.

Third – the left has options – especially in the US and Europe. The US has developed a very extensive set of tools intended to gather information from global economic networks and to use them to prevent actors from engaging in various forms of behavior that the US disapproves of. There is no reason in principle that such tools cannot be employed e.g. to gather information on global tax evasion and to punish financial actors that engage in it. Such tools have been used in limited ways to prevent US tax evasion (e.g. by punishing Swiss banks), but could be employed at scale in pursuit of a broader agenda of shoring up democracy. As Nicholas Mulder notes in a recent article for The Nation, there are enormous problems associated with economic sanctions. However, as he also says, the world would be quite different if the US went after international tax cheats with even a little of the fervor it has dedicated to pursuing businesses selling microchips to Iran. At a minimum, stronger data gathering could provide a much better sense of the extent of the problem – and its particular characteristics than is currently available, allowing better crafted policy measures. More ambitiously, they could be the seeds of a different and more politically robust international financial architecture. Obviously, such powers could be overused, provoking their own counter-reactions – they should be viewed as the building blocks of a different international order, based unlike the current one on liberal democracy rather than free market liberalism.

{ 29 comments }

1

michael 02.11.19 at 1:05 pm

Ironically but aptly published by The Nation, here’s a similar argument advanced by a friend of mine:
https://www.thenation.com/article/economic-nationalism-brexit-trump-globalization/

2

Chris Bertram 02.11.19 at 2:05 pm

A quibble: the “rule of law” as used here by you Henry and by Milanovic seems to mean little more than a state of affairs where most private property is secure against arbitrary confiscation by the executive. As used in a broader sense, where the rule of law includes the ability of individuals to defend themselves against arbitrary state action, to know in advance the rules one will be subjected to etc, the rule of law is already badly eroded or even gone in many advanced capitalist democracies, at least for poor people and especially for poor people who lack citizenship or who cannot prove their citizenship.

3

Chris Bertram 02.11.19 at 2:12 pm

And an addendum to my last: for those poor, foreign, people, we actually need some strengthening of transnational norms to reduce their vulnerability to deportation.

4

Ion D 02.11.19 at 3:27 pm

5

LFC 02.11.19 at 3:44 pm

It would be good if people w technical and legal expertise on e.g. shell corporations, and other aspects of the institutional arrangements rightly criticized here, would lend their knowledge to making detailed policy proposals.

But then would come the problem of how even a progressive Dem president, working w congressional majorities from his or her own party, could get such proposals enacted. The existence of an entire industry of law firms and lobbying firms devoted to protecting the interests of those who benefit from these arrangements is a problem without an immediately obvious solution.

There is a further question involving whether these arrangements benefit some “ordinary” voters, not just the very wealthy. People can be persuaded sometimes to vote against their narrow economic interests in favor of a larger goal such as reducing inequality, but it requires a more than usually careful effort to explain the issues, esp when they are somewhat technical as these are.

All that said, the main point of the OP, namely the need to focus on the connections between the operations of the international financial system and domestic inequality, is very important and correct.

6

Anarcissie 02.11.19 at 5:18 pm

Have social structures involving finance and bypassing the nation-state even been imagined in concrete detail? I ask this because I think the present retreat into Left nation-statism is at least partly driven by the perception that one can do nothing about such supranational structures as the EU and the international financial order created and operated by the United States ruling class. Whereas on a nation-state level, at least some countries might (at a long shot) be able to move toward different social arrangements. Much of what I’m reading here and in related discourse seems to require the problems of inequality and authoritarianism to be solved by the very people and institutions which created the problem in the first place and continue to benefit from it.

7

Dipper 02.11.19 at 5:50 pm

as Branko Milanovic argues … “A much easier course of action is to take all the money and run away to London” …. where you will be hit with an unexplained wealth order. So there are laws, and they can be used.

“Unexplained international money flows played a substantial role, for example, in supporting the “Leave” vote in Brexit.”. No they didn’t. They played a minor role. Remain outspent Leave.

8

eg 02.11.19 at 6:24 pm

@Anarcissie

“I think the present retreat into Left nation-statism is at least partly driven by the perception that one can do nothing about such supranational structures as the EU and the international financial order created and operated by the United States ruling class. Whereas on a nation-state level, at least some countries might (at a long shot) be able to move toward different social arrangements.”

I concur — the actors who operate the international bodies are beyond the reach of “the little people” who are only able to hold their own elected officials accountable, and even then that only with difficulty.

We have to walk before we can run …

9

Semanticleo 02.11.19 at 7:27 pm

Adam Smith defaulted to the Invisible Hand for course correction on human avarice. Human nature studies were ignored in favor of making Capitalism the apex of societal evolution. What a joke

10

wpjames 02.12.19 at 4:39 am

It looks like Anarcisse is confronting that most perennial of issues around reform: the only agents that can practically reform the institutions we need are within those very same institutions, and in the absence of proper incentives they won’t ever get around to doing so, and therefore we’re screwed.

11

Jason Weidner 02.12.19 at 5:40 am

Most analysts of the drug cartels and drug trade in Mexico have been making this argument for a long time: American and international financial actors are deeply embedded in, and receive massive revenues from, the drug trade.

12

bad Jim 02.12.19 at 9:03 am

American real estate is a prized asset. I have a nice house, a large lot, and frequently receive mail and phone calls from realtors. One message that made its way to my answering machine told of a client who had purchased a property nearby and was interested in acquiring another. It would seem that people are actually playing Monopoly in my neighborhood.

Downtown, on the boardwalk, I hear a variety of voices and struggle to identify their languages. Spanish predominates, of course, and at a guess Chinese is the next most common tongue. There are far more speakers of Russian than I can explain by demography or the particular attractions of my town. It’s not just that I took Russian in college so it’s more recognizable than Armenian or Dutch, I think; I also took German and have a smattering of French and Italian … and I hear more Russian. Maybe they’re more uncomfortable with English than most Europeans. Um.

13

Z 02.12.19 at 9:21 am

Interesting post and comments.

the world would be quite different if the US went after international tax cheats with even a little of the fervor it has dedicated to pursuing businesses selling microchips to Iran

That’s it, though. We know full well that the US (and most other powerful countries) has the ability; what is lacking is obviously the will. Of course, the globale ultra-élite will never willingly turn off the infinite revenue stream. So the question is how to make them do it and about that question, LFC’s remark is I think perceptive

The existence of an entire industry of law firms and lobbying firms devoted to protecting the interests of those who benefit from these arrangements is a problem without an immediately obvious solution.

The main problem is not that these firms are effective at protecting the interests of those who benefits (they are, sure, but Iran sanctions among many other cases demonstrate that no company on Earth can withstand the scrutiny of a willing state), the main problem is that these firms themselves benefit. So there is a whole ecosystem of lawyers, accountants, financial analysts then the people these people employ, the people building and maintaining the apartments they buy, the restaurants they go to, the doctors that treat them, the teachers that teach their children etc. which has some degree of dependence with this system of global tax evasion and global inequality, though these people are far from being themselves in the global élite.

So it is not so much that you cannot stop hedge funds to invest in tax havens (you can, it is quite easy), it is not so much that the 99% is weaker than a couple of ultra-rich oligarchs (they are strong, but not that much), the problem is to convince the first-grade teacher in a Manhattan private school that her interests are not aligned with her pupils’s parent’s boss’s boss, and that is not as politically easy as it may sound. Or nurses in Paris. Or plumbers in Zürich. Or flight attendants in London. Or academics at left-leaning blogs, for that matter.

Anarcissie I ask this because I think the present retreat into Left nation-statism is at least partly driven by the perception that one can do nothing about such supranational structures as the EU and the international financial order created and operated by the United States ruling class.

I agree with this analysis and would in fact go further: explicit Left nation-statism has been entirely driven by this perception, meaning that I don’t know of any significant Left political force that would not be overjoyed to work at the EU or global level; it’s just that very few still believe it can be done, and those which followed the “global track” so to speak tend to be in danger of political extinction. On the other hand, the movement of electorates and populations (as opposed to organized political parties) in the direction of nation-statism (for lack of a better term) seems to me to be socially endogenous and not at all a consequence of this political perception.

14

MFB 02.12.19 at 9:34 am

The idea that the left has suddenly discovered economic inequality is rather strange considering that it has been the main focus of the left since the eighteenth century or earlier.

The idea that the left could do something about the problem by persuading the most corrupt intelligence agencies in the world to use their power against the rich people whose interests they serve is — well, it’s interesting, but it doesn’t suggest any sense of realism, does it?

15

Dipper 02.12.19 at 6:02 pm

“Sharman and his colleagues pretended to be money launderers, corrupt officials, and terrorist financiers, and worked with specialist firms to set up shell companies to hide their illicit money. Sharman and his colleagues found that it was much easier to do so with firms based in Wyoming and Delaware than in notorious tax havens such as Panama”

On this specific point, Anti-money Laundering legislation makes it a crime to tip off people that they are under suspicion. Hence legally I would expect Sharman and colleagues to be welcomed, but I would also expect the relevant authorities to be informed of what was happening. I’m not sure if the investigation went as far as ascertaining whether or not red flags had been raised?

16

Sashas 02.12.19 at 6:53 pm

@Dipper 7 The amount spent on Remain is not relevant. If a quarter of all money spent on the Leave campaign came from unexplained international money flows, then I hope we would all agree that those flows played a substantial role in Leave’s support regardless of how much Remain spent.

I obviously don’t know the actual numbers or I would quote them here. There’s a potentially interesting debate to be had about what fraction of funding can be dark and/or illicit before it becomes a problem, and I don’t feel like I have a position on that yet.

17

casmilus 02.13.19 at 7:24 am

I guess the American Left are finished now Rod Dreher has got a new book deal attacking the evil of socialism.

18

Birdie 02.13.19 at 4:57 pm

Have social structures involving finance and bypassing the nation-state even been imagined in concrete detail? 

At the low end there’s halawa sytem which is not only imagined but operational, and also under sustained attack from nation-states. Probably not unlike the top end globalist system of money transfer in relying on personal relationships of trust. Ie, in Nation-State world, the rich get richer and the poor get crickets.

19

MisterMr 02.13.19 at 7:09 pm

In my opinion, “capitalism” has a natural dynamic that leads to the concentration of wealth and income in the hands of few people.

This tendency was partially contrasted by various forms of state intervention, like high marginal taxes and similar.

These countervailing interventions though are disappearing since the 80s, in part because of various forms of regulation arbitrage, in part because of political choices.

The various nationalist or localist movements though, included many on the left, sort of assume the opposite, that capitalism would be more egalitarian normally, but the exogenous forces of globalization make it unequal.

This is IMHO a very bad error, specially because globalization to a certain degree is due to technology (economies of scale) so it can’t be rolled back completely.

Furthermore, many localist parties do not really think in terms of redistribution (take something from the local rich and give to the local poor), but rather are based on the idea that some exogenous entity is stealing our lunch, and we have to take it back.
This is evident in Brexit cakeism but also in Italian politics.
So the argument for nationalism wins because it dodges the issue of class conflict, and attracts people both from the left and the right (but in a spurious deluded way).

20

reason 02.15.19 at 8:04 am

MisterMr is right. 100% right. It simply won’t work without redistribution – and in my view a reform of IP and the introduction of public options in certain markets (finance and pharmaceuticals for a start).

You could put it simpler – it is in certain people’s to invent a foreign scapegoat to avoid people looking at them too closely. And they are taking advantage of the gullibility of a large proportion of the population.

21

reason 02.15.19 at 8:12 am

Just as an aside. It is worth remembering where the current globalization came from historically.

It started with the 1970s inflation, (caused partly by the oil crisis) and the coincident abuse of monopoly power by a number of unions (please those on the outer left don’t try to pretend it didn’t happen, it did).

Uncle Milton came along with plausible sounding solutions (monetarism and increasing foreign competition). Increasing foreign competition worked for a while – until the mergers starting being international and industry concentration increased on an international scale (and so was harder to combat).

Uncle Milton has since been proved wrong about almost everything. His one big idea that never got tried (negative income tax – which could implemented more simply and effectively as a universal basic income) ironically is the only one I think was good.

22

Rapier 02.15.19 at 12:22 pm

Taxes are after the fact. The vast chasm of wealth, which is measured in the mark to market price of assets held, between the top 1% and everyone else, in the West at least, has been the huge inflation of asset prices. The entire financial/banking structure, the “market” as they say, and to a large extent the economies beneath them have been designed in order to inflate those assets. (All ‘markets’ are not the same. Market outcomes are dependent upon market structure) The concentration at the top continues apace because of the self reinforcing virtuous circle where the very wealthy continue to bid up and acquire assets. Often with ultra cheap credit in vast amounts.

There is a universal binary view that if the wealthy give up some of their wealth the rest will share it. This is incorrect. Much of the wealth is ephemeral. Again based on the mark to market prices of assets, which are inflated.

Taxes can alter this via taxes on transactions and especially on the capital gains. At this point however this is a political impossibility. Only the deflation of asset prices will do the job but you don’t want to be here when that happens. In the meantime central banks are getting ready to print in vast quantities again to bid up the prices of financial assets. Until last month it was assumed they would not do this until there was a deflationary event in the capital markets. Well forget that. Soon enough the Fed and the ECB will be printing again. Presumably in waves that it seems possible could continue for decades. During which time all taxes on capital gains and incoherence will be eliminated.

Presumably in 10 or 20 years discussion will continue on how to capture and redistribute said wealth.

23

Antonin 02.15.19 at 6:00 pm

“Have social structures involving finance and bypassing the nation-state even been imagined in concrete detail?”

Lovecraft is probably the closest aesthetic referent in trying to imagine that particular mix of multitudinous, faceless historical agency. Cyclonopedia covered similar imaginative grounds but regarding the oil industry.

24

Dipper 02.15.19 at 7:38 pm

just to drone on about this, there are good reasons for having low-tax jurisdictions, such as avoiding double taxation. Typically investment funds are based offshore so all profits accumulate tax free and then the investors pay tax when the money is brought onshore. Investors will typically include the pension funds of public sector employees such as the Ontario Teachers’ Fund. If the Ontario Teachers’ Fund was based in a high-tax location, then Ontario teachers would have lower pensions. Is that desirable? Also, whilst most of us live in democratic societies with a strong rule of law, and hence the notion of letting the state know how much money you have may be at most irritating, in other parts of the world you may get shaken down if the authorities find out you have money, or worse. Hence there are legitimate reasons for not broadcasting your wealth.

We do, however, have a clear example of large-scale money laundering. The laundering of Russian money through the Estonian Branch of Danske Bank.. The particular legal vehicle of choice selected to anonymise the beneficial owners was the Scottish Limited Partnership, a vehicle “originally created for the purpose of managing agricultural tenancies”.

Ciminals will use whatever is to hand. Many criminals use cash-heavy business to launder drug money or other illicit money, such as restaurants. But restaurants as a class of businesses do not exist to enable money-blundering to take place, they have a main function which is legal and beneficial, and the same goes for international financial arrangements and organisations of businesses.

It’s easy to go international finance blah blah City of London blah blah dirty Russian money blah blah, but the Danske Bank case is an example, the largest in legal history, in an identified geographic jurisdiction (the EU) and involving the use of legal arrangements from an actual country (Scotland). It’s illegal, and the authorities are on the trail of it. So what is your point? What is your recommendation?

25

mpowell 02.15.19 at 9:10 pm

Given the vulnerability of American politics to private wealth through a multitude of paths, I don’t think this is very surprising. Technically, the problem of wealth in politics in the US could be substantially improved without doing anything about inequality (it is really a chicken or egg type question though), but what I would really like to understand is how the situation is in the EU? There, from what I understand, campaign financing and advertising works with much less opportunity for malign influence by the extremely wealthy. Are these government bodies worried about tackling international tax dodging, havens or cheats? If not, why? If yes, are they being stymied by a lack of cooperation within the EU or by the US?

I don’t know why you would want to talk about international IP treaties and personal/corporate tax dodging at the same time though. They really seem like orthogonal issues to me.

26

Paul Harrison 02.15.19 at 10:35 pm

I’m puzzled by something. How does the idea of “hidden money” make any sense? Modern money exists by fiat. Money a government doesn’t believe exists therefore does not exist.

In other words, couldn’t we just stop believing that some people are rich?

27

Lupita 02.15.19 at 11:03 pm

As you all well know, since December 1, 2018, the left holds power in Mexico in the person of López Obrador as president and his movement, Morena, as majority in congress. He won by a landslide on an anti-corruption platform.

Two weeks into his presidency, he went after corruption in Pemex, the state oil company, specifically, the theft, distribution and sale of stolen gasoline worth 3 billion per year. He closed the pipelines and left Mexico without gasoline. While the posh media berated him for improvising and causing chaos, his popularity soared to over 80%, the highest of any head of state in the world. Two weeks later, stolen gasoline decreased by 90% with the pipelines reopened.

López Obrador has said that foreign corporations, states, and organizations have been complicit in Mexico’s corruption and that it will stop. He said that to Spain’s prime minister and to the UN’s secretary while they were in Mexico. Meanwhile, Bloomberg published an article today that states that US bankers expect Mexico’s sovereign debt to be downgraded to junk. Moody’s had already declared as much.

The revolution will not start in the US. It already started in Mexico.

28

Collin Street 02.16.19 at 12:39 am

What is your recommendation?

That you seek ongoing support for your cognitive and emotional problems.

29

sidd 02.16.19 at 4:35 am

Zucman latest:

http://gabriel-zucman.eu/files/Zucman2019.pdf

I liked this paper by Kades on propagation of dynastic wealth and gutting of rules against perpetuities:

https://scholarship.law.wm.edu/cgi/viewcontent.cgi?article=2937&context=facpubs

sidd

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