Exponential Growth

Regulating Disruptive Technologies

New technological developments not only disrupt traditional economic and social status quo, but they also require a new order to be established and comprehensive set of regulations to be designed. As we watch technologies emerge, develop and disrupt with the speed of exponential advancement, one aspect along with many remains unresolved: Regulation.

The existing regulatory framework, which at the time was defined for the tangible economy and its products and services, as well as the institutions enforcing them may not only fall short of responding to the needs of the digital economy, but may also hinder its advancement. We need to lay out a new regulatory framework and ensure that the abundance of opportunities and progress continue to flourish, yet at the same time promote and protect interests of public and individuals.

In his recent article titled “the Great Reconstruction”, Klaus Schwab writes, “This time, however, the challenge is not just geopolitical and economic. We are experiencing a fundamental change in how individuals and societies relate to each other. And by understanding this change, we can positively influence its outcome.”, emphasizing that the world demands a new framework for global cooperation to overcome the great disruption we are facing today.[1]

Online platforms that are changing the business landscape by way of proposing new business models have already invented their own unique order, in the absence of applicable regulations. “That order is subject to growing doubts – and mounting challenges. Barring a course correction, the risks that today’s order will yield to a world economic non-order will only intensify.” suggests Mohamed El Erian in his article titled “The Risk of a New Economic Non-Order”.[2]

We are witnessing a substantial paradigm shift in the regulatory framework, from what was designed in consideration of tangible assets of the economy to an intangible economy that is completely digital. We need to find a way to somehow bring those two worlds together.

Fair Taxation of the Digital Economy

One of the most important dimensions of this challenge that the world attempts to offer a comprehensive solution to, is taxation. This issue mainly arises from the fact that the current taxation regime of countries, and of the Union fail to cover and provide for the digital economy. European Commission clarifies why it constitutes a problem:

“Today’s international corporate tax rules are not fit for the realities of the modern global economy and do not capture business models that can make profit from digital services in a country without being physically present. As a result, there is a disconnect – or ‘mismatch’ – between where value is created and where taxes are paid. In the digital economy, value is often created from a combination of algorithms, user data, sales functions and knowledge. For example, a user contributes to value creation by sharing his/her preferences (e.g. liking a page) on a social media forum. This data will later be used and monetized for targeted advertising. The profits are not necessarily taxed in the country of the user (and viewer of the advert), but rather in the country where the advertising algorithms has been developed, for example. This means that the user contribution to the profits is not taken into account when the company is taxed.”

In an effort to respond to this challenge, on 21 March 2018, the European Commission proposed two new legislations to ensure that digital business activities are taxed in a fair and growth-friendly way in the EU. The first legislative proposal aims to introduce a common reform to tax rules so that profits are registered and taxed where businesses have significant interaction with users through digital channels; while the second one responds to calls from several Member States for an interim tax which covers the main digital activities that currently escape tax altogether in the EU. This proposal would enable Member States to tax profits that are generated in their territory, even if a company does not have a physical presence there.[3]

Soon after, the Federation of German Industries, BDI, published an opinion on the two Proposals, stating that BDI rejects the digital tax proposed by the European Commission. According to BDI, EU’s unilateral action will lead to double taxation of companies and harm industries. BDI further suggests that the debate on internationally agreed standards for legally compliant taxation of company profits must continue at OECD / G20 level.[4]

BDI’s calls must have been heard; as last week, OECD announced that the international community has made important progress toward addressing the tax challenges arising from digitalization of the economy and has agreed to continue working multilaterally to reach a long-term solution in 2020.  OECD’s policy note brought together 264 delegates from 95 member jurisdictions and 12 observer organizations. With a scope, covering and also growing beyond the EU, OECD eliminates the critics that its proposal will cause additional harm. Jurisdictions participate OECD’s efforts to bring a solution to the ever- growing questions of how digital economy can be taxed in a fair and comprehensive manner.

“The international community has taken a significant step forward toward resolving the tax challenges arising from digitalization,” said Pascal Saint-Amans, director of the OECD Centre for Tax Policy and Administration. “Countries have agreed to explore potential solutions that would update fundamental tax principles for a twenty-first century economy, when firms can be heavily involved in the economic life of different jurisdictions without any significant physical presence and where new and often intangible drivers of value become more and more important.” [5]

Guide to Regulators and Policy-makers

A joint paper, which sets forth the principles for regulating emerging technologies, suggests five principles to guide the future of regulation:[6]

  1. Adaptive regulation: Shift from “regulate and forget” to a responsive, iterative approach.
  2. Regulatory sandboxes: Prototype and test new approaches by creating sandboxes and accelerators.
  3. Outcome-based regulation: Focus on results and performance rather than form.
  4. Risk-weighted regulation: Move from one-size-fits-all regulation to a data-driven, segmented approach.
  5. Collaborative regulation: Align regulation nationally and internationally by engaging a broader set of players across the ecosystem.

Each and every single one of those principles require the contribution of all authorities; public, private sector and also the academia, necessitates them to work together in cooperation to find a legal remedy. In this endeavor to adopt the trends and rulesets of the already-changed world to meet the needs of today’s rapidly changing and growing digital economy, regulators shall remember that the world strives for an urgent solution that is fair, global and foreseeable.

Klaus Schwab makes a significant remark, urging the global actors to take action: “After World War II, the international community came together to design a set of institutional structures that facilitated collaboration in pursuit of a shared future. Now, it must do so again.”

References:

[1] https://www.project-syndicate.org/onpoint/the-great-reconstruction-by-klaus-schwab-2019-01?barrier=accesspaylog

[2] https://www.project-syndicate.org/commentary/world-bank-imf-meetings-global-economic-order-by-mohamed-a–el-erian-2017-09?barrier=accesspaylog

[3] https://ec.europa.eu/taxation_customs/business/company-tax/fair-taxation-digital-economy_en

[4] https://english.bdi.eu/publication/news/taxation-of-digital-business-models/

[5] http://www.oecd.org/tax/beps/international-community-makes-important-progress-on-the-tax-challenges-of-digitalisation.htm

[6] https://www2.deloitte.com/insights/us/en/industry/public-sector/future-of-regulation/regulating-emerging-technology.html

 

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