Why We Should Be Really Worried About the Panama Papers
History shows us that tax evasion can have terrible effects, from economic inequality to societal collapse.
In a world seemingly inured to financial scandals, the Panama Papers leak has reminded us of their capacity to shock. This huge document dump, which has revealed thousands of offshore accounts held in the tax haven of Panama by the world’s new superwealthy class, has already shaken British Prime Minister David Cameron, pointed to Russian President Vladimir Putin and led to the resignation of Iceland’s prime minister. At its core, the affair provides a window into something we knew existed, but whose scale we couldn’t always imagine: offshore zones of total lawlessness that fuel kleptocratic governments and undermine the rule of law across the globe.
This kind of high-stakes tax evasion might appear to be a product of the new global economy, but at its heart, the problem is actually astonishingly old. Tax avoidance has a deep history, one as ancient as taxation itself—after all, whenever a tax is created, someone creates a way around it. And what this long history reveals is that the way in which societies confront tax evasion is integral to their survival: Large amounts of untaxed national wealth inevitably lead to income inequality and higher government deficits, in turn stirring popular discontent. Eventually, these ineffective tax systems can lead to violent revolutions and complete societal collapse. Given the recent economic and social instability in the European Union and Brazil, financial transparency and accountability are things the United States must be careful to consider.
Taxes have been around since ancient Mesopotamia. Over time, as tax systems grew more sophisticated, so too did the tools to avoid paying them. In Renaissance Florence, where modern banking was in part invented, government inspectors determined how to tax citizens and businesses by individually auditing their (often highly technical) account books. In reaction, citizens—particularly the wealthy ones—often kept two books: a libro segreto, or “secret ledger,” for internal use and a libro mastro for government audits and for public business.
Leaders of the Florentine tax administration knew that the books were often cooked. But because they could audit only the information citizens gave them, these inspectors devised a supplementary method of determining wealth: basing it on the state’s very detailed estimates of real estate values. This did not always work. Take the case of Andrea Bianchi, a silk-maker who in 1430 tried to hide the true value of his real estate holdings by putting fraudulent entries into his books. The tax inspectors recognized the fraud—they after all, had detailed state estimates of his property holdings—but felt it would be so much work to disentangle the accounts, that they simply let Bianchi off the hook that year. Bianchi didn’t come clean—but, not wishing to take further risks, he made sure to keep more careful secret and public books in future audits.
Estimation and the tacit acceptance of cheating were not ideal approaches, but they were better than what the great monarchies did to collect taxes. In France, the most populous country in 17th-century Europe, the wealthiest class avoided paying taxes altogether by virtue of their privilege. French aristocrats and the clergy made up less than 3 percent of the population, yet they controlled one-third of the land (that’s not including royal lands) and 50 percent of the wealth in France, which was an agrarian economy at the time. Nonetheless, this wealthy 3 percent clung to ancient privileges exempting them from paying taxes except on rare occasions, such as during war. Following the lead of the nobility, rich commoners could pay for the right to be exempt from taxes, often by buying titles of nobility from the crown.
As a result, taxation fell on the other 97 percent of the French population. This taxation took the form of dues to their lords, the crown and the church, as well as indirect taxes on products like salt. But it also included forced labor. Depending on one’s wealth, taxes were paid in small coinage or in goods, like bushels of wheat. For a peasant farmer, one year’s tax could add up to more than half the wheat harvest, not leaving enough to feed his family and maintain a farm. Soon enough, peasants and merchants came up with tax avoidance schemes too, by hiding their grain stores to avoid taxes on them. The government crafted ways around this, such as a simple head tax on each person. And the tax on salt—the infamous gabelle—meant that those who didn’t pay the tax could not preserve food or properly feed their livestock. Still, peasants in France—as well as England—found ways to avoid other taxes, such as those on hearths and windows; householders often bricked up their windows to avoid the latter tax (which explains the filled windows in 18th- and 19th-century buildings still visible today in France and England).
Compared with France, England—notable for not having a revolution—devised a taxation system that was much fairer and more efficient. Taxes had to be agreed upon by Parliament, and arbitrary taxes were often repealed. Because England was a more industrialized country, the tax burden was higher than in France overall, but it was spread more evenly throughout a more prosperous society; landowners paid a tax, for instance. In 1643, England also introduced the Excise Office, a professionalized and relatively efficient taxation bureau.
In France, the greatest burden fell on the poorest agricultural workers, who, making up the majority of the population, rightly felt their system unjust. The government sold licenses to officeholders known as tax farmers, who were ordered to come up with a certain amount of money. This mandate led not only to rampant corruption among the tax farmers, who kept a large portion of the tax receipts for themselves, without reporting it to the central government; it also led to irregular and abusive tax collection, which often brought about famine and violent uprisings by hungry peasants and townspeople furious at being squeezed by unscrupulous tax collectors for unsustainable and arbitrary taxes.
All the while, the nobles escaped taxes until the French crown fell into a series of war-related near-bankruptcies in 1695, when the crown began taxing the nobles and the clergy with a head tax. Yet once the threat of war was over, nobles, with their legal, social and economic dominance, managed to repeal the taxes. Indeed, the French Revolution began, in part, because the crown could not pay its debts, and so called an Estates-General meeting in 1789 to persuade the nobles to pay some tax. The exercise failed when furious representatives of the people—the Third Estate—claimed that the nobles were not part of the nation because they refused to financially support it. Several months later, on August 4, 1789, nobility, and its tax privileges, were abolished in France. Feudalism collapsed, and Europe began a long and violent period of revolution that resulted, among other things, in much more effective tax collection. While it could be said that the American Revolution was caused by taxation without representation, the French Revolution was caused, in part, by something much more familiar today: No taxation due to too much representation.
That’s the lesson of the Panama Papers. More often than not, governments can squeeze the poor for taxes. The challenge has always been taxing the rich, especially when they have an outsize voice in the political system. While taxation itself always yields some form of tax avoidance, the French Revolution is a reminder that countries can face grave danger when too many members of society—or, worse, the nation’s leaders—find ways to avoid massive amounts of taxes, often legally. Already, we’ve seen resignation of a prime minister and the Spanish minister of industry. And if economic conditions in Russia deteriorate further, Putin’s connections to offshore accounts could someday become a red-meat issue for angry, impoverished Russians (if the Russian press dares to discuss those connections). In Brazil in particular, where the national tax agency is looking into the undeclared assets of members of seven political parties found on the list, it feels like the dirty money is leading to real political instability and insurrection.
In America, the problem is a little different. The challenge brought to light by the Panama Papers is not so much off-shore tax havens—it’s the odd absence of Americans on the list. The reason they aren’t stashing their money in Panamanian havens is that Americans don’t need them. They have alternatives at home in Delaware, Nevada and Wyoming, which legally promote tax evasion by those who can afford their shelter schemes. And then there’s the fact that many American companies avoid taxation, and many wealthy Americans pay very low taxes on capital gains. Private equity and hedge funds benefit from other favorable tax loopholes. Without a doubt, wealthier Americans still carry the greatest tax burden, but there is a profound sense among many angry citizens that the wealthy are not paying their fair share—whether legally, or illegally. This evasion, many believe, is at the root of the country’s problems—from the dwindling middle class, crumbling public services and spiraling national debt.
Cases like the Panama Papers only reinforce the resentment and lack of trust—which is already driving the popularity of candidates such as Donald Trump, who has even encouraged political violence. Whether we like it or not, the specter of political instability is upon us. And, as it was in 18th century France, an unjust tax system is part of the problem. It seems time for a serious national conversation about how much tax avoidance we will allow on our own soil. The stakes of a fair and transparent taxation system are, as history shows, very high indeed.
