The Hidden Wealth of Nations

by Gabriel Zucman

  Out of all financial wealth, it does not take into account the bank notes held in vaults in Switzerland or the Cayman Islands. At the beginning of 2013, the global value of $100 bills in circulation reached $863 billion, and that of €500 bills, $290 billion (more than the annual production of a country like Greece). In both cases, bank notes in circulation have increased greatly since the beginning of the financial crisis. It is well known that most of the high-denomination notes belong either to defrauders, drug traffickers, or all sorts of criminals—how many times have you used a €500 note?

  The problem is that it is difficult to know exactly where they are held. In the United States, the best estimates available indicate that around 70% of the $100 bills are found outside the American territory.16 But we also know that a large percentage is circulating in Argentina and Russia (the two countries that, since the 1990s, have been clamoring the most for Benjamins) rather than in the British Virgin Islands; similarly, a large number of €500 notes are in Spain. Thus it seems unlikely that the liquidity in tax havens goes beyond $400 billion total—on the order of a twentieth of what I estimate to be the total amount of offshore wealth.

  Defrauders can also take out life insurance policies from Swiss or Luxembourg establishments. Unlike what happens in private banks, all the money entrusted to insurers is accounted for in their books. In particular, stocks and bonds held in unit-linked life insurance contracts—in which investors can choose the type of investments they want to make and bear all the risk—are legally owned by the insurers, hence appear as assets in the balance sheets of insurance companies, and ultimately in the balance sheets of the countries where the insurers are domiciled. Thus they do not cause any anomaly in the international positions of countries and are excluded from my estimate.

  The available data suggest that the wealth entrusted to offshore insurers is still modest today. Unit-linked life insurance contracts are not terribly useful: their main function is to add a layer of opacity between financial wealth and its true owners, a function well fulfilled today by shell corporations, trusts, and foundations, often for much less money. As for regular life insurance policies—in which the insurers guarantee a given amount regardless of the vicissitudes of the financial markets—they are useful but generally offer small returns. In spite of that, the most recent statistics show that Luxembourg life insurance is booming, and who knows? In 2020 the insurers of the Grand Duchy will perhaps serve the same functions as Panamanian shell corporations do today in the great world network of wealth management.

  Last, my estimate says nothing about the amount of nonfinancial wealth in tax havens. This includes yachts registered in the Cayman Islands, as well as works of art, jewelry, and gold stashed in freeports—warehouses that serve as repositories for valuables. Geneva, Luxembourg, and Singapore all have one: in these places, great paintings can be kept and traded tax-free—no customs duty or value-added tax is owed—and anonymously, without ever seeing the light of day. High net-worth individuals also own real estate in foreign countries: islands in the Seychelles, chalets in Gstaad, and so on. Registry data show that a large chunk of London’s luxury real estate is held through shell companies, largely domiciled in the British Virgin Islands, a scheme that enables owners to remain anonymous and to exploit tax loopholes. Unfortunately, there is no way yet to estimate the value of such real assets held abroad.

  None of the forms of wealth that my estimation process misses are negligible. But my method captures the bulk of offshore wealth, for one simple reason: at the top of wealth distribution—that is, for fortunes of dozens of millions of dollars and more—on average most of the wealth takes the form of financial securities. It is rare that someone invests all of his wealth in a yacht. It is one of the great rules of capitalism that the higher one rises on the ladder of wealth, the greater the share of financial securities in one’s portfolio. Corporate equities—the securities that confer ownership of the means of production, which leads to true economic and social power—are especially important at the very top.

  In the end, the order of magnitude that I obtain—8% of the financial wealth of households—is likely to be correct, although one might imagine that the true figure, all wealth combined, is 10% or 11%.

  The Post-Crisis Dynamic

  In a summit held in April 2009, the leaders of the G20 countries declared the “end of bank secrecy.” Since then, offshore tax evasion has been high on the policy agenda, and some progress has been made in curbing banking secrecy, as analyzed in the following chapter. Yet six years after the start of this effort, offshore wealth has grown a lot. In Switzerland, foreign holdings are almost at an all-time high; they have increased 18% from April 2009 to early 2015. In Luxembourg, according to the data recently disclosed by the statistical authorities, offshore wealth grew 20% from 2008 to 2012, the latest available data.17 The growth is stronger in the emerging Asian centers, Singapore and Hong Kong, so that globally, according to my estimate, offshore wealth has increased about 25% from the end of 2008 to the beginning of 2014.

  The post-2009 growth reflects both valuation effects—world equity markets have largely recovered from their trough in 2009 and in some places now exceed their 2007 peak—and also net new inflows. In turn, inflows seem to be coming largely from developing countries: as their share of global wealth rises, so, too, does their share of offshore wealth.

  While offshore assets are rising, there is evidence that the number of clients is falling, and so the average wealth per client seems to be booming. Since the financial crisis, the main Swiss banks have been refocusing their activities on their “key private banking” clients, those with more than $50 million in assets. The banks know that ultra-high net-worth clients—as they call them—are prospering: a number of establishments publish annual world wealth reports where fortunes of dozens of millions of dollars are described as rising much faster than average and are projected to continue to do so in the future.18 Bankers adapt to this new trend. Offshore banking is also becoming more sophisticated. Wealthy individuals increasingly use shell companies, trusts, holdings, and foundations as nominal owners of their assets. This is apparent in the Swiss data, which show an ever-rising fraction of wealth held through shell companies, as well as in Luxembourg, where official statistics show that “assets are moving to legal structures such as family wealth-holding companies.”19

  $200 Billion in Lost Tax

  The large and rising offshore wealth translates to substantial losses in fiscal revenue. By my estimate, the fraud perpetuated through unreported foreign accounts each year costs about $200 billion to governments throughout the world (see fig. 4). Of course, not all the wealth held offshore evades taxes: some taxpayers duly declare their Swiss or Cayman holdings. But contrary to what Swiss bankers sometimes claim, most offshore accounts are still to this day not declared to tax authorities. I am not speaking here of the accounts of cross-border workers (many French nationals, for instance, work in Luxembourg and have accounts there for this reason), nor of those that many people keep after they have lived abroad. None of those are included in my figure of 8%, and most are declared as they should be. I am speaking of the investment accounts held in countries that cooperate little with foreign authorities, accounts from which one buys stocks or into investment funds.

  Figure 4: The global cost of offshore tax evasion (2014). In 2014 fraud through unreported offshore accounts cost about $190 billion to governments around the world.

  Source: Calculations by the author (see online appendix to chapter 2, www.gabriel-zucman.eu).

  The key source of information on what fraction of offshore wealth is declared versus being invisible to tax authorities comes, again, from Switzerland. Since 2005 Europeans who earn interest on their Swiss accounts have had a choice: to declare their assets or to maintain their anonymity but be taxed 35% directly by the banks. Now, according to the latest figures published by the Swiss tax authority, only 20% of the assets are voluntarily declared—for the rest, the depositors
refuse to reveal their identity. And as we shall see in chapter 3, the 35% tax that was supposed to penalize those who prefer to remain anonymous is easy to avoid, so that at the end of the day about 80% of the wealth held by Europeans in Switzerland seems to still be untaxed. On the assumption of a like basis for other tax havens, this means that $6.1 trillion were not declared globally in 2014.

  What is the loss in tax revenue caused by this dissimulation? In most countries, there are no annual wealth taxes: only the dividends, interest, rents, and capital gains that wealth generates are taxable. It is fitting here to debunk another myth that is very widespread, according to which the money held in Switzerland and elsewhere earns little or nothing (hence governments don’t lose much). Yes, the return on Treasury bonds is negligible today, but this is not the preferred investment of millionaires—and it is not at all representative of the returns that can be earned on one’s wealth.

  On a global level, the average return on private capital, all classes of assets included—stocks, bonds, real estate, bank deposits, and so on—was 5% per year during the last fifteen years, and it has only slightly decreased since 1980–90, when it was closer to 6%. This is a real rate—after adjusting for inflation—including interest, dividends, rents, and capital gains. This figure, calculated by using the national accounts data of the leading economists,20 constitutes a good point of departure to determine the returns on offshore accounts. Using tax havens, defrauders for the most part invest in mutual funds that, in turn, buy a bit of capital throughout the world: Asian stocks, American bonds, London real estate, commodities. Now, the real rate of 5% is consistent with what we know of the rate of returns of the big diversified collective investment schemes sold by asset management firms such as Vanguard. In the course of the last ten years, prudent funds—those that have at least 40% low-risk bonds—have earned on average 6% per year before adjusting for inflation. Those who invest more in international stocks have returned more than 8%. As for hedge funds, reserved for the ultra-rich, their average performance has exceeded 10%.

  On the basis of a real return of 5% and taking into account the tax rates in countries around the world, tax evasion on the investment income earned on offshore accounts reached $125 billion in 2014. I am adding to this figure two other forms of wealth-related evasion: tax fraud on inheritances and on the stock of wealth. Around 3% of the assets held in tax havens changes hands each year, and these large estates should on average be taxed at a rate of 32% (with important variations among countries, some having completely given up taxing inheritances). Thus there is the substantial loss of $55 billion per year. Some countries do have annual wealth taxes—such as the solidarity tax on wealth in France—and thus undergo a third loss (on the order of $10 billion). In total, due to tax havens, the loss to government coffers rises to $190 billion per year.

  These costs, calculated on the basis of conservative hypotheses, include only one type of fraud, that on wealth and the income that wealth generates. A part of the money that lands in Switzerland and elsewhere comes from activities that are themselves not declared—black-market work, drug trafficking, bribes, false billing, and others. I do not factor in the losses caused by these activities and focus only on those that come out of the dissimulation of wealth, even though the two types of losses cannot be dissociated: the certainty of being able to hide the profits of their crime can only encourage criminals. From a practical point of view, there is unfortunately no way of knowing the origins of funds held offshore and, in particular, of isolating the proportion coming from illegal activities such as drug trafficking from that which comes from the fraud of ultra-high net-worth individuals. Similarly, the losses calculated here do not take into account the costs of the fiscal optimization of multinationals, which pose different problems and will be discussed in chapter 5.

  We should also note that these estimates are based on the tax rates currently in force all over the world. Now, governments have tended to cut taxes on capital income, inheritances, and wealth over the course of the last few decades, especially in Europe, in order, precisely, to stop the fleeing of capital to tax havens. Obviously, this hasn’t been enough, and so governments are being hit twice: they pay the price of tax fraud, but at the same time bring in less tax on the assets that aren’t hidden. My calculations do not take into account this additional cost, which is far from negligible both from the point of view of fiscal revenue itself and from that of equality—the decrease in taxes on capital have above all benefited the wealthiest among us.

  Ultimately, the costs calculated here are net of any social benefits accrued through the wealth-management activities of tax havens, for such benefits are almost nonexistent. From the point of view of rich countries, the offshore private banking industry creates no value: establishments domiciled in Switzerland do the same thing as those located in New York, the main difference being that the former sometimes steal from the governments of other countries. If the same standards of financial transparency and effective cooperation applied in offshore havens as in the leading onshore banking centers, there would be no appreciable difference between having an account in Paris or Geneva. Arguably, for developing countries that don’t have a well-established banking network, banks in offshore financial centers provide services that would otherwise be inaccessible (such as access to international financial markets); therefore, they are not completely useless.

  The Price of Tax Havens

  The government revenue loss that I estimate—$200 billion—is the equivalent of about 1% of the total revenues raised by governments worldwide. Should we care about that form of tax evasion? I believe so, for a number of reasons.

  First, although 8% of the world’s financial wealth (and 1% of government revenue) might seem like relatively low figures, these are global averages that conceal substantial heterogeneity: some economies take a much heavier hit than others. Given the proliferation of tax havens in the territory of the Continent, Europe’s economy is the one that pays the highest price in absolute terms. According to my calculations, about $2.6 trillion, or 10% of European wealth, is held offshore, translating into government revenue loss of about $78 billion in 2014. But in relative terms, it is developing countries that are most affected: for them the fraction of wealth held abroad is considerable, ranging from 20% to 30% in many African and Latin American countries, to as much as 50% in Russia.

  Table 1: Offshore wealth and tax evasion: regional estimates (2014) (Europe and developing countries are hit particularly hard by offshore tax evasion.)

  Offshore wealth ($ bn)

  Share of financial wealth held offshore

  Tax revenue loss ($ bn)

  Europe

  2,600

  10%

  78

  United States

  1,200

  4%

  35

  Asia

  1,300

  4%

  34

  Latin America

  700

  22%

  21

  Africa

  500

  30%

  14

  Canada

  300

  9%

  6

  Russia

  200

  52%

  1

  Gulf countries

  800

  57%

  0

  Total

  7,600

  8.0%

  190

  Source: Calculations by the author (see online appendix to chapter 2, www.gabriel-zucman.eu).

  Even where offshore wealth reaches less extreme proportions, it is important to note that this form of evasion benefits almost entirely the wealthiest. In the United States, according to my estimate, offshore evasion costs about $35 billion annually. For comparison, the top 0.1% highest income earners paid about $200 billion in federal income taxes in 2014. Assuming that all unrecorded offshore wealth belongs to the top 0.1%, eradicating offshore evasion would thus raise as much revenue as increasing the top
0.1%’s federal income tax bill by close to 18%.

  Public Debt, Hidden Wealth

  Collecting more tax is certainty not a goal in itself, especially in countries like France, where taxes are already high. If the struggle against fraud is essential, it is because it would make it possible to lower the tax that is imposed on the vast majority of taxpayers—those who do not have wealth to hide and benefit little or not at all by tax loopholes—and would contribute to reestablishing the balance of public finances, with the added benefits of more growth and social justice.

  This issue is again particularly relevant for Europe, where many countries are entrapped in the spiral of austerity. Growth has tended to be anemic since the financial crisis of 2008–9, pushing the ratio of public debt to GDP up; in response, governments have tended to slash spending, which has depressed demand, further reducing growth and increasing debt. Battling offshore tax havens would help reverse this deadly spiral. Greece wouldn’t have to impose as much austerity on its citizens to satisfy the demands of European authorities if the government could bring its elites to heel. France would have more leeway to stimulate its economy without upsetting the Germans.

  Imagine, for instance, that French hidden wealth suddenly becomes taxable. Any form of amnesty for defrauders would be out of the question, as it would be unacceptable for the law not to be applied to the rich and powerful. Ideally, the tax authority should treat each case on its own merits, establish fines according to legislation (in function of the amount of tax owed, the duration of the fraud, et cetera) and carry out any necessary legal actions. In many cases, this might result in total levies (past taxes owed, penalties, fines) of 100% or close to 100% of the total amount of wealth previously hidden. Spain has recently adopted a law applying sanctions potentially even higher than 100% of hidden assets—in addition to losing their accounts, the defrauders could have their house seized, for example.