Address At Auckland University Of Technology(AUT) Globalisation and Public Policy Conference

‘Globalisation and its impact onNational Revenue’

4.30pm, Tuesday 10 August Auckland

Thank you for the opportunity to address your conference on Globalisation and Public Policy.

I have been asked to speak about the impact of globalisation on national revenue.

Let me begin by defining what I mean by globalisation.

I see globalisation as meaning an increase in international trade, the flow of goods and services between countries; international capital flows; and the movement of people (especially those with skills) across national borders.

But above all, I view globalisation as the increased access we all have to information and ideas.

In the last 20 years this has exploded worldwide through the growth of the internet and the relentless march of technology.

Obviously, international trade, and the flow of capital, people and ideas is not new, although its pace has dramatically accelerated across the sweep of history, and in the last two decades in particular.

New Zealand’s history has been the classic example of this.

Our country has always been built on the migration of people.

From the first Maori migration to the present day immigrants, we have always benefited from a continuous inflow of innovative people from all over the world – from those who navigated here by canoe and the stars a thousand years ago, to those who come by jumbo jet and GPS today.

And in turn, our economy has been built on overseas capital invested here.

This has been so from the first canoe that landed and took produce back to Hawaiiki, through to the first sealers and whalers, to timber, gold, wool and dairy production to the various diverse export markets we have now established.

We have a proud history of adopting the latest ideas from overseas while making important contributions to the world of ideas and knowledge.

Indeed, we became so good at playing the old game of international trade in the days of imperial preferences and the like that we were able to enjoy in the 1950s and early 1960s one of the highest standards of living in the world.

It was a simple equation in those days – we grew the agricultural products our imperial master wanted, we harvested them and sent them on ships to the other side of the world, and in time received the big cheques, and the access at competitive prices to a range of British products to boost our standard of living, and foster our link to the “mother country”.

From the start of the frozen meat trade in 1882 through to Britain’s first attempts to join the European Common Market in 1962-63, globalisation for New Zealanders was exemplified by the “home boats” of the Conference lines coming and going from our ports on the long journey to Britain via the Panama Canal, and back via Suez.

And the rite of passage for many young New Zealanders of the time would have been the trip “home” on one of the legendary liners, like the New Zealand Shipping Company’s twins, Rangitiki and Rangitata, Shaw Savill’s Dominion Monarch, or P & O’s Oriana.

So when Britain eventually joined Europe in 1973, and left New Zealand to largely fend for itself, and then encounter the first global oil shock a few months later, it would have been very easy to have seen globalisation as nothing but a threat to our way of life, or our jobs, because in many ways it was.

But instead, successive New Zealand Governments took the far more optimistic – and at the time courageous – view that the onset of globalisation was an opportunity and the advent of a new reality we could not afford to ignore.

From the very start, we grasped the essential reality that the days of Fortress New Zealand – if they ever really existed – were well and truly over, and we had to make our way in the world by becoming more innovative in the deals we did for the products we sold.

We started talking to Iran in the 1970s about meat for oil deals, in the wake of the oil crisis, and even the Soviet Union about access for our sheep and dairy products in return for cars and machinery of dubious quality.

The transformation of our domestic economy lagged far behind, however, with the well-intentioned but excessively protectionist proclivities of the Muldoon era and the resultant Polish shipyard jibes a sad and painful reminder of the difficulty of giving effect to emerging international reality at home.

Since the economic reforms of the 1980s New Zealand has on the whole adapted well to globalisation.

Economically, socially and intellectually we have built our society around active involvement with the rest of the world.

We have in the process, in my view, contributed significantly to the international community in many spheres – from the innovation of Fonterra, and its predecessor the Dairy Board, as an international agricultural leader, through to the stunning success of Sir Peter Jackson and his team in the international motion picture market, and the establishment of the All Blacks, and Team New Zealand, and maybe now the All Whites, as international sporting brands.

I am in absolutely no doubt that this is the path we should continue to follow.

We need to continue to develop an open internationally competitive economy that offers New Zealanders one of the best lifestyles in the world, with opportunities for each of us to fulfil our aspirations here and on the world stage.

We should not, however, be complacent.

We are, after all, still a small, isolated trading country at the extremities of the world’s trade routes; which, even in areas such as agriculture where we have a strategic advantage, is still a price taker, not a price maker.

At the same time, of course we need to recognise that with globalisation comes problems and risks.

We should bear these in mind and respond appropriately to them.

All of the above is reflected in the area of taxation.

I am informed that a focus of this conference is the risks that international capital and labour flows pose to the revenue base.

The question seems to be: can a small open economy like New Zealand participate in the world and capitalise on the great opportunities that offers, while maintaining the tax revenue needed to invest in our social and physical infrastructure?

My answer is yes – but only provided that we are clever and sensible in the way we do it.

We need tax polices that make New Zealand attractive to international investment; enable New Zealand firms to grow internationally; and attract the highly skilled labour we need.

The present Government has been very deliberately and systematically developing and implementing tax policies to meet these objectives.

While I have been Minister of Revenue we have – in order to make New Zealand a more attractive place to invest in – lowered the company tax rate from 33% to 30% and from 1 April 2011, to 28%.

However, this is not low by international standards.

Ireland’s company tax rate is 12.5% - albeit supported by a hefty capital gains tax.

Our 28% rate will still be higher than the rate in Singapore or Sweden.

In 2008, the average company tax rate for small sized OECD countries was 23.6%

Since New Zealand adopted a then low 33% company tax rate in 1989, the international trend has been for company tax rates to be reduced.

In the OECD area as a whole, the average statutory company tax rate has reduced from 33.6% in 2000 to 26.6% in 2008.

New Zealand, however, does not need the lowest company tax rate in the world - we cannot afford to do that - but we do need a company tax rate that is competitive with comparable countries.

Even if international investment is not highly sensitive to different tax rates, the evidence is that where profits are allocated can be quite sensitive to the corporate tax rate.

So if New Zealand has a much higher tax rate than Australia, even if investment is unaffected, it is likely that much of our profits, and hence our tax base, will flow to Australia.

The 28% rate will be competitive, especially by comparison with Australia, whose current rate is 30%, reducing to 29% in 2013.

With the same policy objective in mind, we have revised our Double Tax Agreement position with new treaties with the United States and Australia reducing, and in some cases eliminating, non-resident withholding tax on dividends.

Our current tax policy work programme is considering measures to remove non-resident withholding tax on interest in some limited circumstances as well as changes to our laws that will facilitate portfolio investment from non-residents into managed funds.

These and similar measures aim to reduce the cost of capital to New Zealand businesses, so increasing investment and therefore jobs and wages.

Our international tax reform programme, first initiated under the previous Government, is removing New Zealand tax on active business investment offshore.

This brings New Zealand rules more into line with Australia and will better position New Zealand firms to grow internationally.

We want to attract skilled labour to New Zealand, but our primary challenge is to retain the skilled labour our education system has invested in.

The personal tax rate reductions announced in this year’s Budget will assist with this.

By October this year, the bottom tax rate will have fallen nearly 50% in the last five years to 10.5%.

And the threshold at which it applies will have gone up by nearly 50%, from $9,500 to $14,000.

Overall, nearly three quarters of tax payers will face a marginal tax rate of no more than 17.5%.

In this regard it is important to note that OECD studies show that New Zealand has one of the most mobile labour forces in the world.

Amongst the OECD, only Ireland and Luxembourg have higher proportions of their skilled workforce living outside their national boundaries, but in their cases, many of them are living elsewhere with the European Union.

We have relatively high immigration and also emigration levels.

Nearly one in five – just over 17% - of New Zealanders with high levels of skills are living and working overseas.

The reasons for this are many.

The overseas experience is still part of our culture, even though its pattern and duration may have changed from the 1950s and 1960s heyday.

Our high labour mobility is also attributable to our free labour market with Australia.

Yet Australia by contrast has one of the least mobile labour forces in the OECD

Tax policy textbooks tend to assume that international capital is mobile and hard to tax efficiently, whereas labour is immobile and less costly to tax.

But when considering tax policy in New Zealand, one needs to assume that both capital and labour are internationally mobile.

We need therefore to look at all our policies in this area.

In the past our Student Loan Scheme could burden New Zealand graduates on OE with such enormous penalties they were effectively barred from ever returning to New Zealand.

A measure soon to be introduced will reduce the penalties to address this issue.

Of course we want many of our young people to go overseas and have those great life experiences. But we also want to attract them home so they can employ their new found skills here and return to their extended families.

As Minister of Revenue I have been looking at ways to improve our student loan rules, especially as they apply to those offshore.

Work in this area is continuing, but we can no longer ignore the fact that many student loan holders are overseas with outstanding loan balances, and the incentives for them to return are not that strong.

All of the above respond to global pressures by reducing taxes.

But if that was our only approach we would eventually starve the Government of the revenue it needs for social and physical infrastructure investment.

We have, and need, a more balanced approach that takes a broader perspective.

Tax reductions need to be targeted and appropriate.

We need to be clever in our policy design and tax administration.

So we need to recognise that government investment funded by taxes produces benefits that are attractive to investing firms and to skilled labour.

It is simply not true that people want to invest or live in the country with the lowest tax rates, regardless of other factors.

A skilled professional also wants a good education for his or her children, reliable health care and safe streets.

Our taxes help pay for these things – in some senses, they are the fee we pay to belong to civil society.

It would therefore be foolish to reduce taxes at the cost of such benefits.

We need to remember it is not just tax rates that matter.

Good tax policy also matters.

Our GST is internationally recognised as the best designed consumption tax in the world.

It allows us to raise significant revenue at relatively low cost.

That was a material consideration in the decision to raise the GST rate made in this year’s Budget.

It is a competitive advantage, along with our other tax policies and tax policy processes, that we have and that we can take advantage of.

All of that makes a mockery of the present clamour to diminish the integrity of the GST system, which others envy, by taking various items out of the GST net.

While, as I have previously noted, the global trend has been for reductions in company tax rates, that has not necessarily flowed through to a trend towards reduced corporate tax collection.

On average, in the OECD, corporate taxes have risen as a share of GDP over the last 30 years, despite the company rate cuts I have previously mentioned.

That is mainly because countries have been broadening their tax bases to pay for reduced rates.

New Zealand has followed this trend in an exemplary way.

We collect more tax from companies as a percentage of GDP than almost any other OECD country.

That is because along with competitive tax rates we have few tax concessions.

There is a strong argument that high-ish company tax collections are sustainable in New Zealand’s case.

That is because many international firms operate here to service the local market. They cannot move their investment offshore and keep making those profits.

Those profits can only be made by a presence in New Zealand and we can therefore, to a large extent, continue to tax this income without undue economic cost.

Take the example of our trading banks.

In an average year (not the last couple) they contributed about $1 billion of revenue to the Government.

It is difficult to see the economic benefits that could arise to New Zealand by a significant reduction in those tax collections.

So, it is not true to say that in the globalised world we should not or cannot tax capital returns in all cases.

A key focus of the Government’s economic policy is building a world class tax system.

Part of this is a world-leading tax administration.

The speed, certainty and honesty of tax administration can be more important to investment and location decisions than tax rates or policies.

In this area New Zealand is already well placed.

In 2008 the World Bank ranked New Zealand the second easiest country in the OECD for companies to pay taxes.

Only Ireland was ranked as easier.

Australia ranked 14th out of 30 countries.

This is a competitive advantage we can and should build on.

One of my priorities as Minister of Revenue is to progress work underway to transform the way Inland Revenue operates.

Much of this is about maximising the effectiveness to be gained from electronic, as opposed to paper, communications.

This is not just about being more efficient in the way Inland Revenue has always operated.

It means changing the way IRD operates to make it a smarter organisation.

The recently released discussion document Making Tax Easier is part of this transformation story.

Enforcement is the other side of tax administration.

Globalisation is creating challenges for tax authorities throughout the world.

One aspect of this is the growth of tax-haven activity.

This has not been as big an issue for New Zealand as it has for many other countries, possibly because of the legacy of the Winebox episode.

The international response has been to require, as an international standard, greater transparency of country tax laws and greater international co-operation, especially in the area of information exchange.

Work in this area was led by the OECD, but with United Nations support.

Little progress was made until the global financial crisis of the last couple of years.

The crisis made the old position whereby international banks, operating through tax havens, undermined the tax systems of countries quite unsustainable.

All that led to was those same international banks requiring massive government bailouts, putting fiscal pressure on many countries.

Things had to change.

The G20 meeting in London in April 2009 made it clear that it (with strong support from Brazil, Russia, India, China and South Africa) would require transparency and information exchange in the future.

Since then OECD countries have signed 164 Tax Information Exchange Agreements with tax havens.

As at this month, New Zealand has now signed 17, with more forthcoming. This demonstrates a trend.

In the foreseeable future, there will be no more safe overseas havens as the challenges posed by globalisation to tax administrations are met by increased co-operation between tax administrations.

Our tax administration has been part of this trend.

In particular, co-operation between the IRD and the Australian Tax Office continues to expand across the board.

This is helped by close personal links.

For example, the previous New Zealand Commissioner of Revenue, David Butler, is now a Second Commissioner at the Australian Tax Office.

Apart from tax havens, another impact of globalisation on tax enforcement is the growing importance for firms of intellectual property.

Increasingly the real value of a multi-national enterprise is not to be found in its manufacturing expertise, which is increasingly outsourced.

Instead it is in the brand name and marketing of the product, which is its intellectual property.

This IP is where the profits are.

In the past IP was integrated with manufacturing and selling in the local market.

That is less and less the case.

Increasingly, the IP and profits can be located anywhere in the world and quite separate from manufacturing and selling activities.

Obviously where the profits are located is where the tax base is located.

An increasing challenge for revenue authorities of countries in which goods and services are sold or produced is to ensure that a reasonable proportion of IP profits are attributable to, and taxable in, their countries.

Again this will require liaison between tax jurisdictions to ensure that multiple levels of tax are not levied by different countries on the same profits.

In other words, the rules for determining where multi-national profits are located are becoming less clear as these enterprises become more global.

Ensuring tax is still levied, but at an appropriate level, will require increased international co-operation between tax authorities and increased levels of sophistication by tax authorities.

New Zealand is well placed to build a world-leading tax administration to meet these challenges, although for developing economies the challenges are immense.

For that reason, international organisations such as the UN, OECD and IMF, as well as non-government organisations such as the International Tax Justice Network are putting increasing emphasis on capacity building of tax administrations in aid programmes.

Effective domestic tax systems are seen as essential not only to raise finance for development but also, and probably more importantly, to develop the essential relationship between the citizen and the state, which is the foundation of a healthy society.

When we consider the challenges we face we should always reflect gratefully on the strong foundations on which we can build our future.

Globalisation offers tremendous opportunities for New Zealand and New Zealanders.

We can access capital from savers in China to build our firms; we can trade with most of the world; we can access the world libraries on our computer; we can get to the other side of the world in just over 24 hours.

For a small isolated country we need to make the most of this.

That is our challenge.

Another challenge is to manage the risks involved.

Can we participate in this world and still raise the tax revenue required to fund a decent level of government services?

For all the reasons I have already given, I believe so.

But we must have tax policies and a tax administration that are intelligent, sensible and tuned to the particular circumstances we in New Zealand face.

We must also be flexible.

In this global environment things change, and when they do change, they change fast, and we must be prepared to respond. We have to be quick on our feet.

For example, the Australian Henry Review outlined a future in which Australia might reduce tax on capital and increase tax on labour income.

Similar changes may not be in New Zealand’s best interests.

As I noted previously, we have a high internationally mobile labour force. Australia does not.

We must follow, however, these debates and consider their relevance and consequences for us here in New Zealand.

Finally, on the topic of Australia and the Henry Review, the New Zealand Government made a submission to that review, calling for mutual recognition of company imputation credits.

Such a reform would enable firms to operate on both sides of the Tasman with company taxes paid in either Australia or New Zealand available to offset shareholder tax on dividends.

Whether this reform proceeds is up to the Australian Government.

I and other Ministers of this Government will continue to advocate for it strongly.

Without mutual recognition, neither New Zealand nor Australia will see the full benefits of the Single Economic Trans-Tasman market which should be the basis for both countries to operate in the global economy.

Thank you once again for inviting me to share my views on tax policy within the context of globalisation trends.

I wish you an informative and productive time for the remainder of your conference.

ENDS

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