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Global economic growth and personal freedomare under attack by governments and internationalorganizations seeking to squelch financial privacyand tax competition. Privacy rights and interna-tional tax competition are beneficial constraints onthe monopoly power of governments. But high-taxnations and organizations such as the EuropeanUnion are pressing for international agreements toremove those limits on government power at theexpense of prosperity and freedom.Today, individuals hold substantial wealth andhave many financial relationships, so financial pri-vacy issues have become increasingly important.Unfortunately, many nations are passing laws toundermine financial privacy with initiatives suchas requiring banks to provide governments withpersonal financial data. In the United States theerosion of privacy started before September 11,2001, but the war on terrorism has increased gov-ernment intrusion and further eroded rights.A parallel series of intrusions on financial pri-vacy has occurred as governments have attempt-ed to gain more tax revenue. Several internation-al organizations, including the Paris-basedOrganization for Economic Cooperation andDevelopment, have launched initiatives to sup-press financial privacy in order to create a globalnet of high taxes on capital income.Efforts to thwart tax competition throughgovernment information sharing and other ini-tiatives have been prompted by the rise in globalcapital flows in recent years. Some countries,such as Ireland, have taken advantage of the newglobal economy and cut taxes to attract foreigninvestments. But the governments of many bloat-ed welfare states feel threatened by this globalreality and are taking unproductive steps todefend their high-tax economies.The war on terrorism has given governmentsthe green light to toughen intrusive laws at theexpense of individual financial freedom. The USAPatriot Act of 2001 expands requirements thatbanks report on their customers. Governmentofficials argue that bank secrecy is an obstacle tolaw enforcement efforts to prevent money laun-dering. Certainly, stopping money laundering byterrorists is an important strategy for combatingnational threats, but full frontal assaults onfinancial privacy have not been shown to aid lawenforcement. Indeed, casting a government infor-mation net too wide diverts law enforcementfrom concentrating on individuals engaging inreal criminal activities, while permanently under-mining the freedoms of law-abiding citizens.
Threats to Financial Privacy and Tax Competition
by Richard W. Rahn and Veronique de Rugy
_____________________________________________________________________________________________________
 Richard W. Rahn is an adjunct scholar and Veronique de Rugy is a policy analyst at the Cato Institute.
Executive Summary
No. 491October 2, 2003
 
Introduction
Global economic growth and personal free-dom are under attack by governments andinternational organizations seeking to squelchfinancial privacy and tax competition.Individual privacy rights and tax competitionbetween nations are beneficial constraints onthe monopoly power of governments. Buthigh-tax nations and organizations such as theEuropean Union are trying to remove thoselimits on government power at the expense of prosperity and freedom.In the United States, individual privacy isprotected by a variety of laws. For example, theFourth Amendment to the U.S. Constitutionprohibits unreasonable searches and seizures:The right of the people to be secure intheir persons, houses, papers, andeffects, against unreasonable searchesand seizures, shall not be violated, andno Warrants shall issue, but uponprobable cause, supported by Oath oraffirmation, and particularly describ-ing the place to be searched, and thepersons or things to be seized.Few provisions of the Bill of Rights grew sodirectly out of the experience of the Americancolonists as did the Fourth Amendment. Itdraws on the idea that “every man’s house ishis castle,” a maxim celebrated in England asrecognizing the right of individuals to theirproperty against unlawful entry by the king’sagents. In the modern information age, theFourth Amendment does not limit what datathe government may collect, but it does limitthe means by which they are collected. Forexample, information searches must be basedon probable cause. That is, government inves-tigators must have a rational belief that acrime has been committed and that evidenceof the crime can be found. When court casesarise, the issue is often framed as whether citi-zens had a reasonable expectation of privacy inthe place, papers, or information that govern-ment agents have examined or taken.Privacy is a precious commodity. Peopleshould be able to live their lives as they see fit,provided that they do not impinge on theequal rights of others. When the Framers of the Constitution struck the original balancebetween personal privacy and the needs of lawenforcement, remote listening devices, wiretransfers, and electronic bank accounts hadnot yet been invented. In his famous dissent in
Olmstead v. U.S.
(1928), Justice Louis Brandeiswrote: “The makers of our Constitutionsought to protect Americans in their beliefs,their thoughts, their emotions and their sen-sations. They conferred as against theGovernment the right to be left alone—themost comprehensive of the rights of man, theright most valued by civilized men.”
1
Financialprivacy concerns the ability to keep confiden-tial the facts concerning one’s income, expen-ditures, investments, and wealth. Withoutfinancial privacy, many other fundamentalfreedoms, such as the right to property andfreedom of speech, are endangered.Some nations, such as Switzerland, havehigher standards of financial privacy thandoes the United States. In 1934 the Swiss fed-eral parliament explicitly introduced criminalsanctions for the violation of secrecy aboutbank customers. Until then, various provi-sions in the Swiss civil and labor code coveredbank secrecy, but sanctions did not fall with-in the criminal domain. A number of factorsled to changes in the Swiss law. First, NaziGermany intensified its foreign exchangecontrols in 1931. Adolf Hitler promulgated alaw under which Germans with foreign capi-tal were to be punished by death. To enforcethe rule, the Gestapo began espionage onSwiss banks, as it was well known that manyGerman Jews had placed assets there. SomeGermans were put to death for holding Swissaccounts.
2
Then, in 1932, a list of 2,000 French citizenswho had deposited their holdings in a Swissbank was discovered and made public by theFrench police. Those clients included senators, aformer minister, bishops, and generals. TheFrench government jumped on the discoveryand announced that it would pressure the Swiss
2
Individual privacyrights and taxcompetitionbetween nationsare beneficialconstraints on themonopoly powerof governments.
 
in order to gain legal authority over the accountsof French citizens held in Switzerland.
3
Those two events had a strong impact onSwiss thinking. The increasing interference of statist foreign regimes in its affairs convincedthe Swiss government of the necessity of rein-forcing bank secrecy and defendingSwitzerland’s strong support of civil liberties.The Swiss government realized that a countrythe size of Switzerland could defend its inde-pendence only by means of clear and indis-putable laws that would prohibit the violationof bank secrecy even under foreign pressure.In the United States, passage of theSixteenth Amendment to the Constitution in1913 to allow the income tax triggered con-cerns about the right to financial privacy.Until 1913 the government did not have con-stitutional authority to invade financial priva-cy. Since 1913 U.S. courts have increasinglyplaced limits on financial privacy claims andpermitted laws that require financial institu-tions to automatically provide the govern-ment with personal information. For example,a 1976 Supreme Court decision found thatbank customers had no legal right to privacyof personal information held by financialinstitutions.
4
The rationale was that bank records are the business records of the bank,not the private property of individuals. Inessence, the individual waives the expectationof privacy by voluntarily doing business with afinancial institution.
5
In response to that diminution of privacyrights, Congress passed the Right toFinancial Privacy Act of 1978.
6
The law wasdesigned to protect the confidentiality of personal financial records by creating a statu-tory protection for bank records. The lawstates that “no government authority mayhave access to, or obtain copies of, the infor-mation contained in the financial records of any customer from a financial institutionunless the financial records are reasonablydescribed.”
7
It also requires that either thecustomer authorize access or there be anappropriate subpoena or summons, quali-fied search warrant, or written request froman authorized government authority.
8
Erosion of FinancialPrivacy Rights
The Right to Financial Privacy Act exhibitsboth the potential and the limitations of statutory privacy protections. Peter Swire, for-mer chief counselor for privacy in the Clintonadministration, explains that the “potential isthat the Act establishes fairly detailed proce-dures before federal officials can gain access tobank records.” However, the “limitations . . .are suggested by the rather short list of cir-cumstances where procedures are requiredbefore data about individuals, in the hand of other parties such as businesses, can be sup-plied to the government.”
9
Since the Right to Privacy Act was passed,its protections for individuals have beenweakened. In the 1980s the act was amendedto allow law enforcement to delay themoment when a bank account owner mustbe notified that his records have been seizedin investigations of drug trafficking and espi-onage. In addition, as a result of legislationand court rulings, financial information cannow be revealed on the basis of much weakerstandards than the Fourth Amendmentrequirement of probable cause.In the 1990s a new threat to financial pri-vacy rights was created by internationalefforts to squelch tax competition betweencountries. Such efforts typically involve gov-ernment sharing of individual financial andtax information. At the urging of high-taxnations, the Paris-based Organization forEconomic Cooperation and Developmentlaunched its “harmful tax competition” ini-tiative in 1998. That initiative is designed topressure low-tax countries, such asSwitzerland and Luxembourg, to weakentheir financial privacy laws. The EuropeanUnion has launched a Savings Tax Directivewith similar goals of weakening privacy byimplementing large information-sharing sys-tems between governments.Such initiatives are sometimes presentedas efforts to combat money laundering. But amuch more troubling purpose of informa-
3
In the 1990s anew threat tofinancial privacyrights was createdby internationalefforts to squelchtax competitionbetween coun-tries.
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