After the Panama Papers: How Should Authorities React?

Pushing for greater transparency is an important first step.

People demonstrate against Iceland's Prime Minister Sigmundur David Gunnlaugsson in Reykjavik, Iceland April 5, 2016. Gunnlaugsson resigned on Tuesday in the fallout of the Panama Papers. (Reuters)

As the fallout from the document leak from the law firm Mossack Fonseca continues, one thing that remains murky is what meaningful reform would look like, given that many of the financial activities unveiled in the Panama Papers are entirely legal. As the journalist Glenn Greenwald has written, the leak has highlighted just how easy it is to set up identity-masking offshore companies and stay within the bounds of the law.

So governments around the world should try to make that illegal, right? That turns out to be a lofty (and likely untenable) aspiration, as there are some legitimate reasons to offshore wealth. But a powerful first step in reforming the current system would be to make these transactions visible, says Gabriel Zucman, an assistant professor in economics at the University of California Berkeley and the author of The Hidden Wealth of Nations: The Scourge of Tax Havens. Zucman’s estimate that $200 billion of tax revenue is lost annually due to tax havens has been cited in just about every article written on the Panama Papers.

“There's a continuum of tax-avoidance, tax-evasion strategies, so there are things that are clearly illegal—having tax and income and failing to report it on your tax return—and then there's a big gray area where you try to disconnect yourself from your wealth, like putting it in shell companies, trusts, and foundations,” says Zucman. He says that the legality of all this shouldn’t be the core question; rather, the focus should be on pushing for transparency in a system where taxes can be dodged so easily. “There's a whole tax-immunization industry. Whether it's legal or not, it's not really the important question,” said Zucman. “The important question is: Why's that possible for rich people to pay less taxes than the rest of us?”

The governments that should be most interested in reforms are the ones losing out the most on tax revenue, which often means the ones from countries whose elites and banks are fondest of offshoring wealth. According to the Tax Justice Network, at the top of this list are the U.S., Brazil, and Italy. Currently, there’s isn’t a global authority overseeing this matter, though the OECD has gotten countries onboard in signing an agreement to share tax information in recent years. But according to researchers, that effort has fallen short: Leonard Seabrooke and Duncan Wigan at the Copenhagen Business School found that the lack of power and resources of tax authorities to stay informed is a great hurdle—perhaps the greatest, since the whole point of a shadow company is to hide information—in regulating the offshoring system, as even the OECD’s information-sharing process is slow and bureaucratic.

As for a solution, Zucman recommends a global financial registry in which international assets can be tracked by tax authorities in different countries, as well as sanctions against financial institutions and countries that don’t comply. (This is also one of the proposals to come out of  the U.K. after the release of the Panama Papers.)

The other big problem with reform efforts is that it’s not enough for just one country to take action. The U.S. would have to be involved, but so would European and Asian countries. An international cooperative effort of this scale is not only logistically difficult, but there are incentives for many countries not to get onboard: The economies of small tax-haven countries, for example, sometimes rely on the money brought in by local companies that assist foreigners with offshoring .

In the months ahead, it will be up to tax authorities of various countries to figure out a way forward. On Monday, a spokesperson for the U.S. Department of Justice said that it would be reviewing the Panama papers to see whether there was evidence of corruption. According to Reuters, authorities in Australia, Austria, France, Sweden, and the Netherlands have announced similar investigations.“What's important is to have a comprehensive approach,” says Zucman.