Redrawing the Map of Global Capital Flows: The Role of Cross-Border Financing and Tax Havens

Because global firms raise capital through subsidiaries incorporated in tax havens, official residency-based statistics attribute those securities to the haven rather than to the parent’s country; this paper matches the universe of traded securities to their ultimate parents and restates bilateral investment positions, finding developed-market financing of large emerging market firms to be dramatically larger than reported and China’s net creditor position to be roughly half its official size. The scale of the problem is set by two numbers: the corporate sector globally raises 7 percent of its equity and 9 percent of its bond financing through foreign subsidiaries located in tax havens, and CPIS records $3.9 trillion of foreign portfolio investment in the Cayman Islands in 2017 against a Cayman GDP of $5 billion. The method has three steps. First, combining seven commercial data sources, the authors map each issuer of the 26 million stocks and bonds in CUSIP Global Services’ master file to a single ultimate parent, reallocating more than 90 percent of the corporate bonds and equities issued in each of Bermuda, Curacao, the Cayman Islands, the Channel Islands, Luxembourg, Macau, Panama and the British Virgin Islands. Second, merging that mapping with Morningstar security-level holdings of 61,000 funds reporting over 11 million positions worth $32 trillion as of December 2017, they build “reallocation matrices” giving, for each investor country, asset class and year, the share of residency-based holdings in each country that belongs to each other country on a nationality basis. Third, they apply those matrices to two public residency-based datasets – the US Treasury’s TIC and the IMF’s CPIS – for nine developed investor economies with adequate fund coverage. Two patterns dominate the redrawn map. Bond positions in the BRICS are far larger: US corporate bond holdings in the BRICS rise from $19 billion to $126 billion, a 560 percent increase, and euro-area holdings from $152 billion to $389 billion, because emerging market corporates issue through haven affiliates partly to spare foreign bondholders withholding taxes that are 15 percent in Brazil and 20 percent in Russia but zero in the British Virgin Islands, the Cayman Islands, Luxembourg and the Netherlands. Equity exposure to China is far larger still: US holdings rise from about $150 billion to almost $700 billion, the euro area’s from under $100 billion to over $300 billion, overwhelmingly reflecting Variable Interest Entities listed in the Cayman Islands. Because foreign claims on VIEs enter China’s accounts as intercompany positions valued without reference to listed share prices, China’s reported net creditor position of $2.1 trillion at end-2018 is overstated by $1.1 trillion. The paper is careful about what it does and does not establish. Its central identifying assumption is that reallocation matrices built from fund holdings are representative of all security investment, which it tests against US insurance-company and Norwegian sovereign-wealth-fund holdings, obtaining best-fit slopes of 0.98 to 1.00 with R-squared of 0.95 to 0.98. On China’s accounts it states that it has “corresponded with China’s statisticians and have no reason to believe their treatment of these FDI positions is inconsistent with official guidelines” – the claim is one of mismeasurement relative to market value, not of misreporting. And it insists there is no single correct restatement: alongside the baseline it offers full-nationality, guarantor-based and sales-based alternatives, since “the most appropriate concept in accounting for these positions will depend on the question at hand.”

Antonio Coppola | Macro Paper Warehouse

Redrawing the Map of Global Capital Flows: The Role of Cross-Border Financing and Tax Havens