TJN on the rule of law and the forthcoming OECD report on base-erosion

The OECD is expected to release its plan to implement its anti-base-erosion project this Friday, and the Tax Justice Network has issued a pre-emptive strike as it were, predicting that the OECD will do very little by way of fundamental reform. Instead, TJN predicts a patchwork of half-hearted measures that will be delivered through the toothless mechanism of non-binding recommendations, instead of a full-throated commitment to real change, which the TJN says would require endorsement of combined reporting & formulary apportionment for multinational companies. I am still not convinced combined reporting is a panacea, but I understand TJN's perspective that arms' length reporting probably isn't capable of delivering the result they seek with respect to taxing the profits of multinationals on a global basis. You can read TJN's whole report here.

But I wanted to note something that particularly struck me in this report, an issue that I worked through at length not too long ago and that has been bothering me for quite a while, and that is the recognition that for the international tax law system to work, we desperately need more transparency regarding what lawmakers actually do when it comes to international tax compliance. Here is what I said on the subject in an article called How Nations Share:

In the case of international income, it is [tax] disputes and their resolutions, and not the law on the books, that constitute the international tax regime. Yet it is all but impossible for citizens to observe exactly how, or how well, their governments navigate this aspect of economic globalization. [Tax treaties] provide only a design for allocating international income among nation states. It is the application of these agreements that determines how revenues are allocated in practice. This application has taken place over the years through hundreds of thousands of interpretive decisions, the vast majority of which are not accessible to the public. Instead, international tax disputes are mostly delegated to institutions that resolve issues in informal, “non-law” ways with minimal public access to the decision-making process and its outcomes. As a result, international tax law in practice features little or no “law.”

In the article, I explained that when actual decisions about the taxation of multinationals are made through processes that lack judicial oversight and feature no public access whatsoever, this creates a huge knowledge gap between the law as written (in legislation and in treaties among other documents) and the law in action (after the competent authorities make their decisions).

The OECD has exploited this gap to its own institutional advantage, by making itself a norm aggregator and filtering mechanism. It thus deliberately creates a non-legal alternative to direct access to legal decision-making. This is a major, even if not well-understood, impediment to the development of law in taxation that has serious consequences precisely because it shields from public scrutiny just how much base erosion is actually going on. We (the public) simply cannot know how big the base erosion problem really is because we cannot access the competent authority decisions that in fact allocate income internationally. The OECD presumably knows the answer but suits its own political and institutional purposes by publishing a highly-processed version of events in the form of reports, guidance, etc.

Because I view this as a major problem for the rule of law which is made ever more serious by being ignored as an issue altogether, I was very gratified to see TJN pick up on the theme and call for publication of competent authority decision-making:

Currently, the MAP [competent authority dispute resolution process] is very secretive, and decisions often involving hundreds of millions or even billions of dollars are not published. The secrecy of both MAP processes and APAs greatly increases the power of frequent actors in these processes, i.e. the international tax and accounting firms – to the great detriment of the system as a whole. Publication of both would be a great step towards a system which could both provide and more importantly be seen to deliver a fair international allocation of tax.

TJN's worries about the repeat-player advantage gained by tax and accounting professionals are well-founded, but I think what is most clearly articulated here is that this is fundamentally a rule of law matter. Moreover, TJN puts this issue third in line in terms of reform priorities but I actually think it is much closer to being at the top of the heap in terms of structures that cause intractable problems for international taxation. I will be very interested to see how the continued pressure TJN has been able to place on OECD decision-making to date plays out on this particular issue.

Davos: cocktail party, soft law generator

Davos is about as lucrative as it gets in terms of international networking, hence FT's headline: Davos is no conspiracy – it is infotainment. The assessment:

The fact that the World Economic Forum has been going since 1971 and can pull 2,600 professionals away from their desks without knowing precisely why they come is quite an achievement. Any event that can charge SFr22,000 ($23,600) per seat – and up to SFr500,000 for membership – has things to teach rivals.

 But here is the part of interest for those listening for signs of soft law in global governance:

...“It allows bankers or people in business to meet and make deals they couldn’t legally do in their offices,” says Richard Saul Wurman, founder of the Ted conferences.

Not stated: this includes with politicians, policymakers, people who might be closely scrutinized if they meet you in their offices at home, but whose ear you can command at a cocktail party without public scrutiny.  I talked about this phenomenon in this paper, and noted the problems for democracy and accountability in governance when epistemic communities take their deliberations off-line, that is, out of the observable paths of governance and into international networks. In these networks, what these private and public elites are doing doesn't look like lawmaking--they are having cocktails, they are listening to speeches--yet ultimately translates into just that. That is the power and the puzzle of soft law, and we can see hints of it in the FT article:

...Davos is serious – its participants discuss weighty topics and review the state of the world. They hear from policy makers and economists what is going on, and what they think will happen (rightly or wrongly). “Davos is a factory where the conventional wisdom is manufactured,” says David Rothkopf, the author of Power Inc. 

...Third, it is a club. Entrance is tightly restricted and it plays to people’s vanity to be invited, or even permitted to join. ... people pay to be with other people they want to become peers with, or whom they admire. The currency of a club is its members. 

...Corporate membership, star guests, personal contact, intellectual stimulation and parties make a potent combination. The network effect is hard to break, even with reverses such as the anti-globalisation protests of the 1990s. Once a quorum of the elite signed up, Davos grew until everyone complained it was too big.

So, a network of elite normmakers and the elites who want to influence them. If you care about the rule of law and how legal principles and institutions develop through power and influence, you will pay close attention to Davos. However you must concentrate not on what you see but what you don't see.

Transfer pricing: Neither Science nor Law

TJN quotes François Vincent who says transfer pricing is systematically imprecise, not only not an exact science but not a science at all, and moreover, due to its systemic treatment through competent authority decision-making, constitutes "taxation by negotiation rather than taxation by legislation."  The latter is the main argument of my article, How Nations Share, forthcoming (draft here).  Vincent calls the outcome of taxation by negotiation "a secret body of law" but I maintain it is not really "law," at all.   By amalgamating the confidential experiences of the competent authorities of its member countries into "guidelines' and statements on best practices, the OECD functions as an institutional filter between the transfer pricing regime as it actually plays out and public perception about what the law should or does require.  That's no way to make law, but it is remarkably effective at influencing practice.  


Hobbes described "law" as having four core components: it must have certain institutional properties to create binding legal obligations: it must have a known author with recognized lawmaking authority; it must have authentic interpretation; and it must be made known to those subject to it.  (L xxvi. 8-23, 174-81).  The global transfer pricing regime lacks all four components.  That should be very troubling, as I argue in my paper, because it hides a very important legal regime--maybe even the most important tax law regime--from public view.  I am glad to see that people like Mr. Vincent, who know the regime inside and out, are beginning to acknowledge this as a big problem for global tax governance.

The flawed, insensible, unworkable arm's length standard

TJN will host a conference on transfer pricing in Helsinki, June 13-15 2012, to analyse the OECD Transfer Pricing Guidelines and suggest alternatives.  Info here together with a new paper by David Spencer on the subject, "Transfer Pricing: Will the OECD Adjust to Reality?"  Spencer is understandably critical of the OECD arm's length standard:

[An] OECD Staff  Report [published on Oct. 20 2011] defended the OECD’s arm’s length principle described in the OECD’s Transfer  Pricing Guidelines for Multinational Enterprises and TaxAdministrations of July 2010 (“OECD Guidelines”), in particular for developing countries.  ... The OECD Staff Report ... begins by quoting the OECD Guidelines (paragraphs 1.14-15), that “the arm’s length principle is sound in theory .... The main weakness of the OECD Guidelines is that there is no such “sound theoretical basis.” According to Michael Durst, who from 1994 to 1997 served as Director of the U.S. Internal Revenue Service’s Advanced Pricing Agreement (APA) Program, there is “a gaping conceptual hole at the heart” of the OECD Guidelines....

...Michael Durst has in effect implied that the OECD’s arm’s-length standard exists precisely because it is unenforceable and that is why business lobbyists, in the United States and other countries, have supported it so energetically.

Spencer then documents a litany of criticisms of arm's length by such notables as Martin Sullivan ("The arm’s length method is seriously flawed in both theory and practice"), Reuven Avi-Yonah and Ilan Benshalom (arm's length's "central assumption defies reality, and it is not surprising that a system of
“arm’s length” pricing cannot yield sensible results"), David Rosenbloom ("the arm’s-length system as it operates today [is] fundamentally unworkable"), Stephen Shay ("there is evidence of substantial income shifting through transfer pricing"), and so on.  In conclusion, Spencer asks:

[W]hy should the OECD, a club of 34 rich countries, representing only 18  percent of the number UN member countries, and with a declining share of world trade and investment, be the arbiter, the rule maker, of such a “consistent global transfer  pricing system?” Why should the OECD try to impose its transfer pricing rules on major  developing countries such as Brazil, China and India, and other developing countries?

Professor Mike McIntyre, a vigilant observer of the follies of arm's length and a champion for the viable alternative of combined reporting with formulary apportionment, also responded to the OECD's Oct. 20 report, here, and will present at the TJN conference. He says:

[T]he arm’s-length system promoted by the OECD, after years of tinkering and major reforms has worked poorly or not at all for both developed and developing countries. The great sign of the general failure of the arm’s-length system is that it has permitted multinational enterprises to divert uncounted billions of dollars annually to tax havens.

Prof. McIntyre addresses the various critiques of CR/FA by those who support arm's length (such as the oft-made claim that CR requires a common tax base--no more true than for arm's length), and concludes:

If the goal is simply to eliminate double taxation, then the OECD can claim success. That goal, however, is rather unambitious. A far more worthy goal would be to make multinational enterprises report something close to the income they actually earn in each country in which they operate. The OECD’s arm’s-length approach does not come close to achieving that goal...In contrast, a combined reporting system with formulary apportionment is designed specifically to achieve that goal.

...The arm’s-length method simply is not working, and 50 years of tinkering and major revisions have revealed that it cannot be made to work.  ... Combined reporting remains the best hope of the world for moving past the failed system based on the arm’s-length principle to a system that actually apportions income exclusively to the countries where meaningful economic activity occurs.

It should be an interesting conference.

Book on International NGOs & Lawmaking

The Normative Position of International Non-Governmental Organizations under International Law: An Analytical Framework, by Rephael Harel Ben-Ari:

The activities of International Non-Governmental Organizations give rise to multifaceted questions of legality and legitimacy. The normative position of INGOs within the 'international community' has proved to be acutely controversial, demanding a fundamental reconsideration of the concepts of the nation-state and of international organizations of all kinds. There is manifestly a crying need for a comprehensive framework against which the capacity of international law to comprehend these complex issues can be measured. This book explores contemporary approaches towards INGOs, those based on criticism of the doctrine of international legal personality as well as those adopting a functional-constitutional perspective. It engages in a stimulating and thorough interdisciplinary evaluation of the theoretical and practical potential of these theories to generate solutions for the problems produced by the exercise of unregulated authority outside the state-system. The book investigates the main concepts put forward by international lawyers within 'postmodern' discourse, among them 'global civil society', 'globalization' and 'governance', and examines their consistency with existing institutional arrangements, and the century-old attempts to standardize the status of INGOs.

This is of interest to those studying the international tax institutions and thinking about whether there ought to be more participation from NGOs in drawing up international tax norms.  Groups like Action Aid and Global Witness are beginning to emerge in international tax discussions along side the more established quasi-governmental OECD and the business NGOs like the OECD's BIAC, the Intl Fiscal Association and the Int'l Chamber of Commerce.  The exercise of authority outside of the familiar state-based "hard law" structure presents normative challenges we haven't developed sufficiently in tax.

Arbitration and Jurisprudence in the Investment Treaty Regime

I'm not a true believer in tax treaty arbitration because I have read some of the literature on investment treaty arbitration that grapples with the many of jurisprudential issues we seem to be all but ignoring in tax.  Susan Franck's latest paper, Managing Expectations: Beyond Formal Adjudication, is a case in point.  It uses the "guidance and clarity on standards" gleaned from arbitration decisions to talk about the jurisprudence of the investment treaty regime, an approach that would be impossible in the international tax regime arbitration structure.  Here is the abstract:

The international investment system has depended heavily on international arbitration to provide guidance and clarification on the standards contained in international investment agreements. In order to assess the system realistically, this commentary discusses unpacking stakeholder expectations by recognizing where expectations may have been overly optimistic and thinking systematically about the mechanisms through which to capture and manage regulatory discretion. This article evaluates ideas expressed by Anne van Aaken and Bart Legum, which consider different ways to achieve regulatory and commercial balance, and offers a lens for thinking systematically about managing stakeholder expectations in the international investment system. A critical issue for international investment law relates to cognitive psychology and how to manage the expectations of differently situated stakeholders. This commentary explores different methods to managing stakeholder expectations and investment treaty conflict such as education and different doctrinal opportunities such as administrative law's model of formal and informal rule-making and adjudication. This commentary concludes that an evidence-based nuanced analysis allows consideration of specific dynamics about stakeholder objectives, enabling a more realistic assessment of the international investment regime.

To read, on topics of legal pluralism

Three recent items of interest:

Joost Pauwelyn & Jan Wouters, Informal International Lawmaking: An Assessment and Template to Keep it Both Effective and Accountable:

This paper summarizes the findings of a two-year research project on "informal international lawmaking" (IN-LAW), that is, cross-border normative activity involving non-traditional actors, processes and outputs. We evaluate the likely reasons for the rise of IN-LAW and weigh possible options in response. We then assesses the legitimacy of both new forms of cooperation and traditional international law, also tackling the questions of whether new forms benefit powerful actors and how to keep activity accountable. Finally, focusing on the short to medium term, we question whether some of the new outputs of international cooperation could already be seen as part of traditional international law and how traditional and new forms are (or could be) interacting before international courts and tribunals. In this respect, we propose certain procedural meta-norms against which new cooperation forms ought to be checked, which we refer to as 'thick stakeholder consensus' imposing limits in respect of actors (authority), process, and output. Intriguingly, this benchmark may be normatively superior (rather than inferior) to the validation requirements of traditional international law, coined here as 'thin State consent'.

Paul Schiff Berman, Global Legal Pluralism (Cambridge University Press 2012):

We live in a world of legal pluralism, where a single act or actor is potentially regulated by multiple legal or quasi-legal regimes imposed by state, substate, transnational, supranational, and nonstate communities. Navigating these spheres of complex overlapping legal authority is confusing, and we cannot expect territorial borders to solve all these problems because human activity and legal norms inevitably flow across such borders. At the same time, those hoping to create one universal set of legal rules are also likely to be disappointed by the sheer variety of human communities and interests. Instead, we need an alternative jurisprudence, one that seeks to create or preserve spaces for productive interaction among multiple, overlapping legal systems by developing procedural mechanisms, institutions, and practices that aim to manage, without eliminating, the legal pluralism we see around us. Such mechanisms, institutions, and practices can help mediate conflicts, and we may find that the added norms, viewpoints, and participants produce better decision making, better adherence to those decisions by participants and non-participants alike, and ultimately better real-world outcomes. Global Legal Pluralism provides a broad synthesis across a variety of legal doctrines and academic disciplines and offers a novel conceptualization of law and globalization.

Kenneth W. Abbott & Duncan Snidal, Taking Responsive Regulation Transnational:

Ayres and Braithwaite's Responsive Regulation (RR) has opened up important new ways of thinking about regulation in the 20 years since its publication. But RR was envisioned as a tool for domestic agencies. Thus, although RR focused on encouraging business self-regulation, it was designed for a setting in which agencies had clear jurisdiction, full regulatory capacity and extensive information, and could (contingently) deploy stringent sanctions against well-defined private targets. Since 1992, however, the locus of many regulatory problems has shifted to the transnational arena, characterized by multiple regulators, public and private, with limited capacities, authority and information and modest sanctioning ability. As production has globalized, moreover, targets have become diffuse and difficult to identify.
RR holds important lessons for transnational regulation, but it must be adapted to these challenging conditions. Some components of transnational RR are already emerging. These include many private and public-private schemes that regulate (and self-regulate) business through voluntary norms: "transnational regulatory standard-setting" (TRSS). Acting alone, however, TRSS schemes face serious limitations. International organizations (IGOs) are the best-positioned transnational responsive regulators, but lack agency-like authority.
To adapt RR to the transnational context, IGOs should focus on strengthening and working with the nascent TRSS system. Two techniques are particularly promising. In "regulatory collaboration," IGOs engage with business to promote self-regulation, much as in RR. IGOs have limited ability to escalate in response to defection, but can deploy reputational and market sanctions (negative and positive). In "orchestration," IGOs catalyze, support and steer intermediaries, including TRSS schemes and NGOs (PIGs), which use their own material and ideational capacities to regulate and promote self-regulation. Orchestration cumulates regulatory competencies and creates avenues of escalation. It also provides many benefits of RR "tripartism:" deterring capture, promoting contestability and experimentation, empowering societal groups and disciplining "zealous PIGs." Orchestration can also be applied internationally in regulating states, and domestically in regulating business.

Borders among Activists

International Law blog points us to Borders among Activists: International NGOs in the United States, Britain, and France, by Sarah S. Stroup (Cornell Univ. Press 2012).  Abstract:

In Borders among Activists, Sarah S. Stroup challenges the notion that political activism has gone beyond borders and created a global or transnational civil society. Instead, at the most globally active, purportedly cosmopolitan groups in the world—international nongovernmental organizations (INGOs)—organizational practices are deeply tied to national environments, creating great diversity in the way these groups organize themselves, engage in advocacy, and deliver services. 

Stroup offers detailed profiles of these "varieties of activism" in the United States, Britain, and France. These three countries are the most popular bases for INGOs, but each provides a very different environment for charitable organizations due to differences in legal regulations, political opportunities, resources, and patterns of social networks. Stroup's comparisons of leading American, British, and French INGOs—Care, Oxfam, Médecins sans Frontières, Human Rights Watch, Amnesty International, and FIDH—reveal strong national patterns in INGO practices, including advocacy, fund-raising, and professionalization. These differences are quite pronounced among INGOs in the humanitarian relief sector, and are observable, though less marked, among human rights INGOs. 

Stroup finds that national origin helps account for variation in the "transnational advocacy networks" that have received so much attention in international relations. For practitioners, national origin offers an alternative explanation for the frequently lamented failures of INGOs in the field: INGOs are not inherently dysfunctional, but instead remain disconnected because of their strong roots in very different national environments.

She also contributed a chapter entitled "National Origin and Transnational Activism" to Power and Transnational Activism, which compares US, French, and Japanese NGOs and concludes that their home state policies and practices shape their ability to be influential on a global scale; she also has a paper up on SSRN from a couple of years ago that I managed to miss, and that I am reading right now, called There’s No Place Like Home: National Origin, Networking, and Advocacy at International NGOs, with a short and sweet abstract:

"It is amazing to witness the number and scope of organizations today that claim to be “without borders.” Doctors, reporters, architects, lawyers, librarians, mothers, chemists, clowns, acupuncturists, and even bees now have organizations that claim be with “without borders” or “sans frontières.” This enthusiasm for expressing global sympathies and taking global action has also taken hold in the academic community. The vast and growing literature on international non-governmental organizations (INGOs) reveals that these organizations can change state policy and shape social practice in many places around the globe."

 Fascinating body of work she's developing.

Controlling policy debate on trade & development

UNCTAD has issued a letter decrying attempts by the OECD to silence it as a voice in the international economic development debate:

"Since its establishment almost 50 years ago at the instigation of developing countries, UNCTAD has always been a thorn in the flesh of economic orthodoxy.  Its analyses of global macro-economic issues from a development perspective have regularly provided an alternative view to that offered by the World Bank and the IMF controlled by the west.

Now efforts are afoot to silence that voice.  It might be understandable if this analysis was being eliminated because it duplicated the work and views of other international organizations, but the opposite is the case - a few countries want to suppress any dissent with the prevailing orthodoxy. 

...At time when pluralism is finally being meaningfully discussed in the election of the  President of the World Bank, it is ironic that OECD countries are endeavouring to stifle  freedom of speech within another multilateral organization."

The letter is signed by a long list of people, including Dani Rodrik.  The Tax Justice Network posted the letter along with this disturbing addendum:

John Burley, who worked for UNCTAD for many years in senior positions, and who coordinated the letter, gave a presentation in Geneva in which he provided some background information (supplemented with a couple of comments in an email):

"An attempt is going to be made there, on the basis of what we hear ... at the moment, to change UNCTAD's mandate by denying the organisation the right to continue – and I emphasise: to continue – to analyse and report on global macroeconomic issues, including the role of global finance in development.
. . . This is not a matter of money: it is an attempt to dilute the mandate of UNCTAD to work on macro-economic and global finance issues."

... Why is the UNCTAD message so unwelcome? The fact that UNCTAD has no formal responsibility for the global management of the international economy and none of its own funds to dispense means that its analysis is free of vested interests. ... 

... And it is precisely in its analysis of interdependence that UNCTAD brings added value to an understanding of how the functioning of the global economy impacts on the majority of the world's population who live in developing countries. Given the current pressure on the organisation and its secretariat, that contribution could now be gone for good (our emphasis).
. .
The developed countries in Geneva have seized the occasion to stifle UNCTAD's capacity to think outside the box. This is neither a cost-saving measure nor an attempt to "eliminate duplication" as some would claim."

This is not about tax policy per se though quite clearly tax policy is a major part of trade-based development initiatives.  So it is worth connecting this to the OECD's control of rhetoric over international tax.  The OECD likes to call itself a "market leader in tax policy," a self-assessment I often refer to as an understatement because there is not much competition in this market, if any, and the OECD seems to work rather diligently to ensure that remains the case.  India's response to the OECD's position on transfer pricing is a current example, as TJN notes in their post; they also point us to this guest post by David Spencer that outlines the ongoing tension between the OECD and UN tax committees.

There are high barriers to entry in the international tax policymaking market--you've got to have the right infrastructure and resources so you can hold conferences in attractive locations and get important people to show up and network together, and you need to be able to display some indication of your ability to influence national legislatures to adopt norms you develop.  The institutions that can do that, like the OECD, can only keep doing that so long as people don't start to think they fail to represent consensus, sufficiently to erode the influence of their ideas in political discourse.  As we know, high barriers to entry are good for the established monopoly, and the case seems no less true for the production of ideas, judging by the many efforts to eliminate competition.