International Finance Organisations
International Monetary Fund
Build a framework for economic cooperation
avoid the competitive devaluations that
caused the great depression (this is where
countries reduce the value of their exchange
rate to make exports cheaper and gain an edge_
maintain economic stability of the international
monetary system
The World Bank
Made up of 189 countries
board of governors - policymakers
governors - ministers of finance or
development for member countries
set goals
decrease the % of people living on
USD 1.90 to <3%
fostering the income growth of the
bottom 40% for every country
helps countries who has no money, lender of last resort
more of a long term approach (eradicate poverty) so funds projects aimed at this
3 main current strategies
structural reforms
growth friendly fiscal policies
monetary policies
Balance of
Payments
Current Account - registers payments for imports/exports, goods/services, incomes and money transfers. (exchange of finished goods)
Capital Account - records all transfers of capital to and from abroad. (e.g. someone moves from UK to USA, their assets are a credit on USA capital account and debit on UK capital account)
Financial Account - Records financial inflows and claims on or liabilities to non-residents specifically with regard to financial assets (including direct investment, portfolio investments and reserve assets) (records payment flows related to the change of ownership in international financial assets and liabilities
Provides a record of payments/monetary transactions between a nation and other countries during a specific time period
useful glimpse into the economic relationship between various countries
allows identification of long term trends to put the country back on track
Current account surplus represents extra savings which can cause deficit countries to sell assets or reduce spending
Global Imbalance
Public/Private Sector Spending - Public pump money into the economy to restore public trust but this can lead to more saving in the private sector, negating the benefits
Surplus/Deficit Countries - Surplus countries force trading partners to tackle deficits through people, companies, and governments spending less. Resulting lower demand, lw investment and a longer recession.
Issues with fixing
reduce debt too fast and risk a slump in demand
reduce debt too slowly and risk further financial shocks
Multi-National Organisations
Pros - provide customers with innovative products (smartphones) and free services (google maps)
Cons - Size of these companies can create problems for example, concentration of power amongst few companies/people and/or tax avoidance
Policy making - increasingly influenced by lobbyists employed by multinationals to influence decisions on tax and other beneficial areas. Also issues with antitrust/monopolies forming by acquiring startups and potential rivals.
Reduces competition and can result in higher costs (both economic and social). Also issues with tax havens to hide profits.
key issues with MNs
can choose where they keep their cash
can choose the currency in which to store that cash
can choose where their expenses, and therefore profits, are recorded (e.g. via transfer pricing)
Taxes
On average it takes our case study company 251 hours to comply with its taxes, it makes 25 payments and has an average Total Tax Rate of 40.6%.
162 economies have a VAT system. The case study company files VAT on a monthly basis in 130 of them.
180 economies levied corporate income tax in 2015.
On average, it takes the case study company 16.7 hours to correct the error in the corporate income tax return, including responding to an audit if one is triggered. For economies where the correction process triggers an audit, it takes on average 17.3 weeks to complete the audit.
International Tax
Difficult to reform because
Tax policy is very complex and difficult to manage cross border
countries like to control their own tax legislation
Tax Avoidance via Transfer Pricing
Arms Length Principle
Arms Length Principle - Related companies should be trading with each other as if they were unrelated i.e. at arms length to avoid the possibility of transfer pricing.
Arms length principle difficult to implement even in ideal circumstances with the best intentions.
Alternative Approach
Unitary taxation with profit apportionment
Multinationals favour the arms length principle as the basis for determining transfer pricing, as it allows them a lot of leeway to minimise tax, an alternative approach is combined reporting with formulary apportionment and unitary taxation.
Involves taxing the various parts of a multinational based on what its doing in the real world
formula allocates profits based on various factors (sales, assets etc). Would prevent a one-man office in the cayman islands from shifting billions in profit around as it would allocate the cayman islands a very small portion based on payroll and assets.
The aim is to tax multinationals income without reference to their internal organisational structure
Obstacles
path dependency - great resistance to changing the way things are done but could be overcome gradually
Vested interests - multinationals have a significant interest in maintaining the status quo
Technical issues - tax law is complex especially when working across jurisdictions
similar to country by country reporting
developed by Richard Murphy
Would Require the following
from multinationals
1 The name of each country in which it operates.
2 The names of all its subsidiaries and affiliates in each country in which it operates.
3 The performance of each subsidiary and affiliate in every country in which it operates, without exception.
4 The tax charge included in its accounts of each subsidiary and affiliate in each country in which it operates.
5 Details of the cost and net book value of its fixed assets located in each country in which it operates.
6 Details of its gross and net assets for each country in which it operates.
OECD BEPS
GFC and austerity elevated international tax in the public agenda.
Corporate tax avoidance (estimated to cost countries up to US$250 billion annually) is a concern to developed and developing countries.
New Requirements
from 2016
Country-by-country reports – Details on each entity, organised by country; data to include revenues, profits, taxes, assets, employee numbers and costs, capital, accumulated earnings, and intercompany payments, filed in the headquarters’ jurisdiction.
Master file – Standardised information for all group members: global organisational structure; description of business; Intellectual Property (IP) development, use, and transfers; intercompany financial arrangements; and financial and tax positions, led in each country with operations;
Local files – Transaction details between local entities and affiliates, such as the local management team, business strategy, and restructurings or IP transfers, led in each country with operations.
Foreign Exchange Market
For UK businesses, a falling pound helps British businesses that export abroad by making their goods relatively less expensive. However, it also increases the cost of imports, potentially pushing up the cost of inflation. Reading 6 discussed how a high exchange rate against the euro has been a big problem for many small- and medium-sized enterprises.
Demand for pounds from aboard - comes from foreign actors who wish to change their currency into £ to buy UK products. Expensive pounds mean less demand.
Supply of pounds to the foreign
currency market - if the value of the £ goes up, then its buying power increased and foreign goods are cheaper to obtain. increase in the value of the pound should lead to an
increase in the quantity demanded of foreign products.
Reaching equilibrium in the currency markets - In a free market the price of the currency will adjust until quantity supplies equals quantity demanded
Shifts affecting things
Shifts in demands - An increase in demand will shift the demand curve outwards and will usually lead to a higher exchange rate. The demand for pounds may increase due to...
increase in UK interest rates relative to the returns available elsewhere which attracts foreign investors searching for high returns in UK banks
a belief by speculators that the pound will increase in value in the future (can be a major factor)
increase in overseas incomes - the more income elastic demand is, the greater the shift will be
click to edit
Shifts in supply of the currency
to the foreign market
An increase in supply of pounds to the foreign currency market may be due to
Increase in UK income leading to more demand for imports
Increase in overseas interest rates leading money to flow from the UK to abroad in search of higher returns
Speculators selling £ in the belief that it will fall in value (can be self fulfilling prophecy)
Changes in supply of and demand for a
currency
An increase in demand for a currency will lead to an increase in price and an increase in the equilibrium, assuming that supply is upward-sloping A decrease in supply of a currency will lead to an increase in price, butafall in the equilibrium quantity (see Figure 4b).
Why do Exchange Rates Changes matter?
low £ value compared to foreign currency means more exports so businesses can grow (if price remains steady in the £)
or, prices can be maintained with respect to foreign currencies (if contracts negotiated in the foreign thing or prices printed etc) which means higher profits
OR if the price in £ remains the same AND the £ rises in value, there will be reduced sales. can also keep foreign price the same, so reduced profit margin
overcoming exchange
rate problems
target markets that use the same currency
operate in multiple overseas markets to reduce risk by spreading out potential pitfalls
buy currency in advance at a pre set price so they guarantee the exchange rate (futures market)
speculate in currencies to try to offset unfavourable movements
set contracts in their own currency
Impacts on a business
The impact of a change in exchange rate will depend on:
what proportion of its sales are exported
what % of inputs are imported
degree of competition from overseas businesses
value and direction of how much value the currency has changed against the currencies in its import/export markets
price elasticity of demand for exports and imports
availability of alternative markets to export to or other suppliers to switch to
Government Intervention - governments may want to fix their exchange rate (as opposed to market forces derived "floating" exchange rate). They can do this by...
Buying its own currency using foreign currency reserves previously acquired
Increase interest rates (attracts investors but lowers domestic demand due to high borrowing costs)
EUROZONE
Benefits
no transaction costs from converting one currency to another
no need to worry about currency fluctuations within the eurozone, making planning easier and providing greater stabilitty
easier to compare price of suppliers
negatives
giving up your own currency can be politically unpopular
accepting eurozone interest rates which may not be aligned with the wishes of all countries (ie. give up control of domestic interest rates)
accepting a currency value determined by countries behaviour that isn't yours