Stripe and the Next Wave of Digital Payments

The most successful players in the digital payments space are those that design their core products in such a way that recognizes the different functions of money and facilitate their execution. One of these is Stripe, a fintech firm that processes mobile and online payments on behalf of companies like Airbnb, Twilio, and GitHub. Early on, its business consisted of providing an API to e-commerce firms by linking them to card networks and banks. But Stripe has grown, and the company now offers a wider array of services including fraud protection, credit cards, and incorporation services.

Patrick Collison, Stripe’s CEO who co-founded the company with his brother John in 2010, argues that working with card networks has been the aim from the start, saying it was “always clear there was no viable independent strategy.” Last month, Stripe raised a $250m round at a valuation of $35bn, coming on the heels of many new product updates and international expansion. Stripe’s continued diversification, alongside aggressive growth and intelligent branding, are making the payments startup more competitive.

A hackable medium

In finance, the concept of money is frequently defined in terms of the three functions it serves. As a medium of exchange, money can facilitate transactions – and without it, bartering would be the primary method of exchanging goods and services. As a store of value, money can be stored for a given period of time and remain valuable in exchange at a later date. And finally, as a unit of account, money acts as a common measure of value for goods and services, recording debts, or making calculations.

Money and the notion of exchange through payments have both evolved drastically since their inception from barter to metal coins and banknotes, or bank accounts to e-wallets. The digital payments market is forecast to reach 7.64 billion USD by 2024, recording a CAGR of 13.7% in the period from 2019-2024. But in areas like payment security, concerns persist. Although the shift to EMV chip cards in the U.S. has led to a decrease in counterfeit card fraud, criminals are creating synthetic identities to apply for and receive EMV credit cards to defraud merchants and banks.

One answer could be contactless payments, which are set to emerge as a preferred option across the industry. Contactless has a higher rate of adoption in countries like Canada, the UK, Australia, and South Korea – with the latter having the highest rate of contactless cards in force at around 96% in 2016. The US, meanwhile, had less than 3.5% of such cards in force that same year, reflecting cost efficiencies on behalf of banks. With popular mobile tap systems like Apple Pay catching on (it controls 10% of the global smartphone market and half in the US), the mobile contactless user base has grown considerably, from 20 to 144 million in the 2015-17 time period.

Contactless payments operate thanks to short-range wireless technology like radio frequency identification (RFID) or near-field communication (NFC) to secure payments with a compatible point of sale terminal. Although such transactions are appealing due to their ease-of-use and speed (at around 1/10th of the time of a conventional electronic transaction), adoption has also proven slower in some countries due to security concerns. Consumers are worried that cybercriminals could compromise their card data; from Investopedia:

There have been stories in the media about criminals skimming card data using smartphones to read tap cards in consumers’ wallets. The range at which a card can be read is very short and, even if the criminal is close enough to grab data and do a transaction, he cannot create a copy of the card. This is not true of magnetic strip cards. That said, the chip and pin card is still the most secure, as they can’t be duplicated and they require data (your pin) that is not contained anywhere on the card.

Merchants and credit card companies are increasingly being considered liable for fraudulent activity if they lack chip technology. Fintech companies are taking note. In June, Stripe announced its Terminal product, consisting of “a set of SDKs, APIs, and pre-certified card readers,” extending the company’s payment system to allow for in-person payments. According to Devesh Senapati, a Product Manager at Stripe, the Terminal’s pre-certified card readers have built-in protection from counterfeit fraud for in-person transactions, and support both chip cards and contactless payments.

Another factor contributing to the digital payments boom has been an explosion in the Internet penetration rate, from 35% global penetration in 2013 to 57% this year. This is making optical QR codes, on which many e-wallet apps are increasingly reliant, a more appealing option. In China, where WeChat Pay and Alipay are the dominant players, QR codes are omnipresent in retail and convenience stores, restaurants, and even movie theaters. Implementing QR codes is a cheaper alternative to NFC technology, and its inherent security has made it the driving force in digital payments across the country, allowing consumers and sellers to interact without point-of-sale terminals.

Defining monetary value

When discussing money, how to define its function as a store of value? Is it somewhere to put one’s life savings (transferring purchasing power from the present to the future), and if so, what are the parameters? To help crystallize monetary value in the context of Stripe, let’s take a look at two examples and long-term initiatives within the company: digital currencies and access to money.

New money

There has been a longstanding debate around whether cryptocurrency fulfills the core functions of money. Bitcoin, for instance, can be used as a medium of exchange, although the fluctuations in transaction confirmation times and fees could make it less useful as a method of payment. There is less of a consensus that cryptocurrencies are a store of value, given their volatility – while Bitcoin can be saved and exchanged at a later date, there has been disagreement over the immutability of its network. According to William Wu, a Wharton Student Fellow, Bitcoin also fails at being a unit of account since it does not indicate the real value of an item, acting instead as “an intermediary between the item and the fiat currency with which it is being exchanged.”

Although it ended its support of Bitcoin in 2018 (largely for the reasons listed above), Stripe has long been supportive of cryptocurrencies more broadly. John Collison, Stripe’s president and co-founder, expressed excitement for crypto’s potential at Recode’s Code Commerce conference in 2018, saying “if we want to offer easy APIs to pay out to long-tail countries, we think there could be a bunch of interesting ideas there.” For regions lacking well-functioning payment systems, Stripe sees significant potential in digital currencies as a medium of exchange. It also provided seed funding for a crypto network called Stellar early last year.

There have been some bumps along the way. On October 2nd, the Wall Street Journal reported on that Stripe (alongside PayPal, Visa, Mastercard, and many others) would back out of its membership in Libra, the cryptocurrency-based payments network created by Facebook. Critics and regulators alike have argued that Libra could be used for illicit purposes like money laundering, with Treasury Secretary Steven Mnuchin calling the project “a national security issue,” and the head of the Federal Reserve expressing similar reservations.

One of the primary reasons Stripe reconsidered its involvement in the Libra project was the heightened level of regulatory scrutiny, made clear in a letter from Sens. Brian Schatz (D-HI) and Sherrod Brown (D-OH). In it, the lawmakers argued that Facebook has failed to provide a plan for how it will avoid facilitating activities like terrorist financing, monetary policy intervention, or destabilizing the global financial system. They argue this will compound the issues currently faced by the social network; from the letter:

Facebook is currently struggling to tackle massive issues, such as privacy violations, disinformation, election interference, discrimination, and fraud, and it has not demonstrated an ability to bring those failures under control. You should be concerned that any weaknesses in Facebook’s risk management systems will become weaknesses in your systems that you may not be able to effectively mitigate. […] If you take this on, you can expect a high level of scrutiny from regulators not only on Libra-related payment activities, but on all payment activities.

The external pressures on Facebook itself were made clear in a series of tweets by David Marcus, who heads the Libra project:

Although there are regulatory hurdles around the deployment of Libra, it’s unclear whether the project’s members would have been committed with more lax regulation. Given Facebook’s record on user privacy and security, many partners are dubious that the social network could act entirely independently from its cryptocurrency project. In his testimony at the House Financial Services heading on Wednesday, Facebook CEO Mark Zuckerberg said that the company could even be forced to leave the Libra Association if U.S. regulators did not approve.

Stripe will not be waiting on lawmakers. In February, the payments company led a funding round for Rapyd, a “fintech as a service” startup which offers services ranging from funds collection to currency transfers and ID verification. Although Rapyd doesn’t currently offer support for crypto, CEO Arik Shtilman said they are looking into such services down the line – providing Stripe with a hedge against Facebook and potentially circumventing the regulatory pressures of such initiatives.

Financial inclusion and access

Any truly global payments network should also aim to enable financial inclusion. This notion refers to the process whereby vulnerable groups – or regions – are ensured access to financial products and services, according to the RBI, “at an affordable cost in a fair and transparent manner.” As of 2017, around 1.7 billion adults worldwide remain unbanked, according to the World Bank – that is, without an account tied to a financial institution or through a mobile money provider; from Global Findex:

Since many traditional payments systems never reach people in countries with underdeveloped banking systems, fintech firms have penetrated developing markets through a different medium. Although 90% of Bangladeshis do not have bank accounts, around 75% have access to mobile phones, providing most with the capacity to make digital payments. This has led to the rise of firms like bKash, a payments system that processes around 5 million daily transactions across Bangladesh. bKash, through which customers can open accounts that run on a fully encrypted platform, is facilitating digital payments nationwide.

One of Stripe’s main objectives is democratizing access to money. It recently launched Stripe Capital, a service to make instant loan offers to customers on its platform. Through this service, cash advances – which are a staple for competitors like PayPal and Square – are repaid out of future sales through Stripe’s payment platform, with the customer’s transaction activity acting as a basis for loan amounts and repayments. As with credit cards, the aim of Stripe Capital is to provide customers with “quick (next-day) access to funds to help both with daily liquidity as well as to invest in growth,” which could be of particular use in the developing world.

William Gaybrick, Stripe’s CFO, is eyeing Southeast Asia’s digital payments market. According to the South China Morning Post, the lack of dominant digital payment providers and low credit card penetration are key reasons for the push. Stripe’s continually expanding offering make the expansion a no-brainer, and its existing partnerships with WeChat Pay and Alipay have already unlocked a market accounting for half of total worldwide mobile wallet spending.

John Collison has long framed Stripe as a “[provider of] infrastructure for the Internet economy,” going beyond merely processing payments and adapting to the changing dynamics of the retail landscape by making smaller companies more competitive. But whether Stripe succeeds in the next wave of digital payments will depend on how its services leverage the core functions of money as a medium of exchange, store of value, and unit of account.

The OTA, Anti-Intellectualism, and Congressional Lobbying

In the 2018 Congressional hearings of Facebook CEO Mark Zuckerberg, Sen. Orrin Hatch (R-UT) illustrated a lack of expertise around digital business models when he asked how Facebook could sustain a business in which users don’t pay for their service. After being told that the social media platform is essentially supported by ads, Hatch was derided by many news outlets for his perceived disconnect with technology. He was nonetheless resolute on social media following the hearing, claiming that his central argument still stood and that his main concern was a very real one: the Cambridge Analytica scandal illustrated that Facebook had not been transparent. From the hearing:

Nothing in life is free. Everything involves trade-offs. If you want something without having to pay money for it, you’re going to have to pay for it in some other way, it seems to me. And that’s what we’re seeing here. And these great websites that don’t charge for access, they extract value in some other way. And there’s nothing wrong with that, as long as they’re being upfront about what they’re doing. In my mind, the issue here is transparency. It’s consumer choice. Do users understand what they’re doing when they access a website or agree to terms of service? Are websites upfront about how they extract value from users or do they hide the ball? Do consumers have the information they need to make an informed choice regarding whether or not to visit a particular website? To my mind, these are questions that we should ask or be focusing on.

This context is only somewhat helpful to Sen. Hatch’s case. Whereas the questions pertaining to Facebook’s terms of service and transparency more broadly are important ones, Hatch takes some liberties with the fundamental assumptions around digital services trade-offs. If businesses offering a free tier of service always find a way to extract value from end users (whether monetary or data-driven), stricter terms of service and clarity around data-sharing will not instantly reduce users’ suspicion around corporate practices. This also raises the issue of regulation. If lawmakers have trouble articulating their reservations around the impact of new and emerging technologies, it doesn’t inspire widespread trust they can set the parameters for digital activity.

But the inability of lawmakers to ask questions more thoughtfully is only half the problem. Congressional representatives and staffers receive opinions from a wide range of sources including think tanks, lobbyists, and academic institutions. This is not an ideal situation. It’s not sufficient for lawmakers to receive a wide array of industry knowledge according to Zach Graves, the Head of Policy at the Lincoln Network, a tech nonprofit. Members and staff also lack the proper knowledge to choose which experts to consult and receive advice from. Graves argues that the choices are not always neutral: “A lot of these experts have other motives. Think tanks have donors and ideologies, and having worked in that space for a while, the quality of work is very inconsistent.”

As a result, the current debate is just as much about the issue of Congressional independence as providing regulators with a wider array of technical material. With the continued decline in congressional staff pay over the past few decades, the main source of technical or scientific knowledge is increasingly originating from corporate lobbyists. Google disclosed that it spent a record $21.2 million on lobbying the U.S. government in 2018 alone, which comes alongside increasing scrutiny into issues like user privacy, data security, taxation, or anticompetitive practices. When lawmakers start to consider whether and how they should regulate tech companies, they should probably not be reliant on lobbyists for an overview of the relevant technical terminology.

Education and accountability

In his last interview in May 1996, renowned American scientist and educator Carl Sagan made his views on science and government very clear, bemoaning both anti-intellectualism among lawmakers and its potential for taking off across society at large; from Charlie Rose:

CS: There’s two kinds of dangers. One is what I just talked about, that we’ve arranged a society based on science and technology in which nobody understands anything about science and technology – and this combustible mixture of ignorance and power, sooner or later, is going to blow up in our faces. I mean, who is running the science and technology in a democracy if the people don’t know anything about it? And the second reason that I’m worried about this is that science is more than a body of knowledge. It’s a way of thinking; a way of skeptically interrogating the universe with a fine understanding of human fallibility. If we are not able to ask skeptical questions to interrogate those who tell us that something is true, to be skeptical of those in authority, then we’re up for grabs for the next charlatan, political or religious, who comes ambling along. It’s a thing that Jefferson laid great stress on. It wasn’t enough, he said, to enshrine some rights in a constitution or a bill of rights. The people had to be educated and they had to practice their skepticism and their education. Otherwise, we don’t run the government. The government runs us.

Grim view, but not inaccurate. Sagan was lamenting in particular the recent loss of the Office of Technology Assessment (OTA), which from 1972-95 evaluated a range of technology issues and provided Congress with information and policy proposals on the impact of new and emerging technologies. At the time, the OTA had three divisions: energy, materials, and international security; science, information, and natural resources; and health and life sciences. In this time, it produced approximately 750 reports on a wide array of subjects, from the United States banking system and telecommunications to genetic engineering, climate change, and even space-based weaponry.

Although the OTA was created as a bipartisan agency, some Republican lawmakers viewed it as “duplicative, wasteful, and biased against their party,” according to Science magazine. In 1995, the office was defunded (and essentially abolished) by House Speaker Newt Gingrich, who said in a radio interview that he felt the OTA had been “used by liberals to cover up political ideology with a gloss of science,” and he “constantly found scientists who thought what [the reports] were saying was not accurate.” This is largely anecdotal. In all likelihood, the advice being offered on key scientific or technological issues ran counter to the party’s ideology, which would prove inconvenient.

To curb the influence of lobbyists on lawmakers and contend with increasingly nuanced technology issues, presidential candidate Sen. Elizabeth Warren (D-MA) on September 27th proposed its revival. Members of the House have previously called for the OTA to be reinstated, but Warren’s proposal differs in two important ways. First, she argues that lawmakers’ reliance on corporate lobbyists only partially reflects vested interests. It should instead be attributed, per Warren, to a largely successful “decades-long campaign to starve Congress of the resources and expertise needed to independently evaluate complex public policy [issues].” Warren also proposes a modernization of the OTA to deal with increased partisanship and allow for greater focus on interdisciplinary issue areas.

There are several considerations to this proposal. If the OTA were to be reintroduced, it would have to amend its prior structure and priorities in light of the radical transformations in both the digital and scientific space over the past two decades. One clear example of this is environmental; the IPCC has reported that carbon emissions need to be cut approximately in half by 2030 to meet the scale and ambition of mitigating the effects of climate change. But it also applies to lawmakers who struggle to ask questions around more technical concepts, like end-to-end encryption, algorithmic bias, or location tracking.

It’s also not clear what the role of the reinstated OTA would be. Agencies like the Government Accountability Office (GAO) have taken a more prominent role in the past few decades, made clear by the recent creation of the Science, Technology Assessment and Analytics (STAA) group. Its stated role is varied, from providing in-depth reports to policy makers to auditing STEM programs at federal agencies, or even creating an “innovation lab” focusing on exploring and deploying analytic capabilities and emerging technologies. With more programs and groups trying to fill the void left by the OTA, Congress is lacking a singular authoritative source of objective facts.

It should be noted that bringing back the OTA is also not a catchall solution to educating lawmakers; from Grace Gedye in the Washington Monthly:

The other half [of the problem] has to do with the overall congressional workforce. The Gingrich revolution not only wiped out the OTA; it also decimated congressional staff ranks, and their numbers have never fully recovered. That’s a major reason why Congress has become so dysfunctional. Staffers shape what information their bosses get, take meetings with interest groups, and participate in important negotiations. But congressional staff these days tend to be young, low-paid, and thinly spread — And those with technology backgrounds are as uncommon as, well, flip phones. To deal with an ever more technologically complex world, Congress needs a critical mass of staffers who bring science and tech experience to the table.

Any actual fix to the Congressional knowledge deficit must include provisions on improving the conditions of staffers. Having access to an abundance of reports is helpful, but only when staffers can use them to advise policymakers – most of whom have no background in STEM fields. Currently, staffers in Congress are not being paid according to the General Schedule which, coupled with a consistent decrease in their pay over the past two decades, makes the private sector a far more appealing option. This would also contribute to reducing Congressional dependence on the policy teams from Amazon, Google, or Facebook.

Lobbyism’s fair market value

Although Warren has been accused of overstating the market power of companies like Facebook and Google, it is nonetheless clear that a large portion of all Internet traffic goes through sites owned or operated by a small number of tech firms. This raises concerns around the degree of Congressional independence from tech firms given the current federal antitrust investigations being conducted by the Department of Justice (DOJ) and the Federal Trade Commission (FTC) into anti-competitive practices.

If lawmakers are receiving key technical terminology from corporate lobbyists, their ability to critically assess whether antitrust law is being violated diminishes significantly. In my piece on Microsoft, I discussed how many of the decisions made after the antitrust battles from the late 1990s came down to basic definitions, like the distinction between an ‘upgrade’ and a ‘product’. The absence of the OTA was certainly felt in the eventual settlement between Microsoft and the Department of Justice, which a number of states argued failed to curb the company’s anti-competitive practices; from the New York Times:

In a broad reading of the appeals court decision, appropriate remedies might include forcing Microsoft to put its Internet explorer browser in the public domain, require Windows to include Java technology created by a competitor, and to remove other middleware products like Microsoft’s media player and instant messaging software from Windows. In recent weeks, Microsoft rivals urged the Justice Department to include such sanctions in any settlement deal.

Yet the Bush administration adopted a narrower reading of the appeals court decision — more in line with the position of the Microsoft legal team and some legal experts. The appeals court decision did express a reluctance for having the judiciary meddle in software design decisions, though it also found that Microsoft had illegally “commingled” code when it bungled its browser with Windows.

Had the OTA existed during the Microsoft investigation, it’s not immediately clear that the outcome would have been any different. But the ruling, deeming Microsoft an unlawful monopolist that leveraged its dominance in personal computing to the detriment of its competitors, seemed like it might warrant a larger penalty – one potentially amounting to a breakup of the company. The concern is whether lawmakers are becoming more reliant on information from these firms’ legal and policy teams, and if so, how entrenched they are in Congressional proceedings.

Bill Pascrell Jr., a representative of New Jersey’s 9th Congressional District who supports the OTA’s revival, says in the Washington Post that Congress is currently “like an abacus trying to decipher string theory.” While critics to the bill may point to institutional corruption, rooting out regulatory capture isn’t unattainable nor indecipherable – especially when Congress is given both the capital and the staff to make educated policy decisions.

A Framework for Digital Taxation

One of the policies in contention at the G7 summit in France last month had little to do with climate change, finance, or disease eradication. In a renewed effort to placate the U.S. (and to avoid potential tariffs), French President Emmanuel Macron announced that a digital tax on revenues put into effect earlier this year could be deducted by companies that pay, but only once a new international deal is ratified.

The Digital Services Tax (DST), passed by the French Senate in July, would approve a 3% levy on revenue coming from digital services earned in France by firms with over €25m in national revenue and over €750m worldwide. With these parameters, the tax would apply to around 30 major companies (mostly U.S.-based). This has earned a sharp rebuke from Internet giants like Amazon, Google, and Facebook, which accuse the French government of targeting foreign technology companies. The U.S. Trade Representative, Robert Lighthizer, added that he would investigate whether the law “is discriminatory or unreasonable and burdens or restricts United States commerce.”

What’s interesting here is the attempt by these firms to frame the bill as a departure from the current global tax regime. Nicholas Bramble, the trade policy counsel for Google, said the law threatens the processes laid out in the OECD, undermining the multilateral momentum around the modernization of tax rules for multinational corporations. Moreover, he claims that “efforts by one country to unilaterally change the rules on how profits are allocated among countries can generate new barriers to trade and hamper economic growth.”

And yet, the multilateral OECD process has not been an effective conduit for international tax reform in some time. Austria, Belgium, Britain, Italy, and Spain are all contemplating a digital services tax in light of the EU’s recent failure to reach an agreement. Amazon, Google, and others are most likely not advocating multilateral action to preserve the integrity of the international tax regime. Instead, perhaps they hope that any proposal which is so widely accepted is bound to be watered down and relatively harmless.

Bramble makes a fair argument with his claim that the bill would tax just a handful of e-commerce or Internet businesses. With economic sectors like healthcare and manufacturing becoming increasingly digitized, it is not clear that the DST is a catchall solution that bridges the divide between where profits are taxed and where the firms’ digital activity is carried out. In an excerpt from EY’s Global Tax Policy and Controversy Briefing, Rob Thomas and Chris Sanger clearly lay out the confines of the digital taxation issue:

The current debate is not about tax avoidance or the existence of stateless income. It is, rather, about the division of tax rights among countries who consider that their citizens contribute to the profits made by some digitally focused companies, even if they do so via unconventional means.

At issue, then, is how to craft a measure that not only addresses this value creation problem but also does not raise concerns over the perceived discrimination of a handful of digital companies. But that did not seem to be the French government’s objective. The DST, which politicians and media outlets in France had dubbed the ‘GAFA Tax’ (an acronym for the targeted firms: Google, Apple, Facebook, and Amazon), would have primarily applied to U.S.-based companies. If anything, this law reflects the view that the global tax regime crafted in the early 20th century has failed to predict the radical transformation of transnational corporations over the past century.

A Discriminatory Measure

In retaliation to the announcement of the bill, the Trump administration threatened a tax on French wine, calling the measure a comprehensive attempt at “[targeting] innovative U.S. technology firms that provide services in distinct sectors of the economy.” In its criticisms, the USTR decried the DST’s retroactive application from the start of 2019, which it deemed unfair, and listed three reasons why the tax is unreasonable:

  1. Extraterritoriality
  2. Taxing revenue not income
  3. It targets a handful of tech companies

Take each one in turn. National laws are often crafted with extraterritoriality in mind, that is, laws that apply to individuals or firms outside of a nation’s borders. While it has in the past been associated with the cross-border activity of digital companies (e.g. the GDPR), extraterritoriality can also apply to issues like crime, sanctions, and diplomatic immunity. But the Internet complicates things. Online activities that are legal in one country can be illegal in another. Governments across the EU may be starting to regret taking a ‘light touch’ in allowing the Internet’s unfettered growth to persist early on, and attempt to create a set of parameters around measuring digital activity in two or more jurisdictions.

Also at the heart of the debate around digital taxation is France’s decision to tax revenue (turnover) rather than income. In the case of the DST, a 3% levy would apply to gross revenue from activities in which users “play a role” in creating value. These could include the following:

  • Placing ads on a digital interface which are aimed at its users
  • Making available a digital interface allowing users to find and interact with each other, and thereby facilitating a transfer of any underlying goods or services between them
  • Transmission of user-generated data on these digital interfaces

Whereas some digital companies would be within the scope of the proposed DST, like online advertisers or platforms aimed at connecting users to trade goods or services, others could be excluded due to their limited scope in contributing to “value-creating” activities. This lack of clarity extends to online marketplaces with little or no user-to-user selling, yet where there may be a lot of user-generated content. SaaS firms which offer data analytics and other cloud services could fit somewhere in between.

Thirdly, the USTR claims that the French tax is unfair since “its purpose is to penalize particular technology companies for their commercial success.” There is some truth to this. The measure is targeted by nature and would hit around 30 tech companies, most of which are U.S.-based. France highlights a ‘dual injustice’ and argues that SMEs pay an average tax rate around 14 points higher than large digital companies, and that French citizens’ personal data are used to create value for these enterprises. The Finance Minister, Bruno Le Maire, has also stated that the DST would affect only a single French company, raising concerns around the benchmarks set around digital taxation.

Digital Value Creation

Whereas some characteristics of digital firms are clear, there are many blurred lines. Traditional sectors are increasingly exhibiting similar attributes as digital firms, a trend visible in areas like academia, healthcare, and agriculture. As the OECD works towards a consensus on the ideal digital services tax by 2020, it will have to consider the distinction between digital and digitized businesses: the former provides digital services, whereas the latter is operationally reliant on digital tools for its survival.

A complete diagnosis of the value creation mismatch would point to a few factors. Companies today can provide a wide array of digital services in areas where they are not physically present, a practice the Commission dubsscale without mass.” The reproduction of this phenomenon has lowered the number of jurisdictions where the international tax regime can assert taxing rights on the profits of multinational companies. Moreover, digital businesses have typically been characterized by their reliance on intangible assets like IP, indicating a higher level of mobility.

The third feature of digital companies is a data-driven business model that is predicated on user participation, characterized by network effects and user-generated content. But this is difficult to measure, especially in a framework which distinguishes purely digital companies from those (in manufacturing, healthcare, etc.) which are caught up in, and adapting to, an increasingly digital economy. The debate is therefore around whether and how this creates value, according to Freshfields Bruckhaus Deringer, a law firm:

[…] notably, countries are divided as to whether this third limb contributes to value creation. Some countries argue that it does, on the basis that users provide digital companies with data that can be monetized (either by using it to improve services or selling it to third parties) and content that can be used to attract and retain other users. In addition, these countries argue, network effects mean that by participating via a digital platform, users increase the value of the platform to advertisers and potential users alike. The idea of user-generated value underpins the Commission’s proposals. Other countries, however, disagree: user-generated data and content is equivalent to sourcing inputs from independent third parties, and thus under normal taxation principles should not be seen as value-creating.

But are “normal taxation principles” relevant to digital firms? An effective framework for digital taxation would need to overturn these principles and redefine what activities are value-creating. With the increasing digitization of our economic processes, the conventional notions of service providers and cross-border activity are no longer applicable.

The result is a digital value-creation framework that looks like this:

Ultimately, scale without mass is the most impactful feature of a highly digital business model, given that these companies can have significant effects on the economy of multiple jurisdictions without any physical presence whatsoever. But it is also the least complex of the three limbs of digital companies, which explains why France and others have been using it as the benchmark for measuring lost revenue. Moving forward, it will be necessary for unilateral and multilateral solutions alike to consider all value-creating elements of digital businesses.

To address the scale without mass issue, it is imperative that the third limb (user participation) is also included in the framework and deemed a value-creating activity. There are two reasons for this. First, it will allow individual countries and institutions to craft laws that will be more accurate and less discriminatory in targeting a specific kind of digital business. One obvious example of this is social networks, which have a much greater level of involvement from users than cloud computing or data archiving. Second, some businesses would not exist today if it were not for user-generated content and network effects.

Tax Nationalism

The whole debate around the DST is suffused with economic nationalism. In a rush to ensure that large digital companies pay their fair share of taxes, the French government is encouraging other member states to impose similar unilateral measures to the detriment of an OECD-wide solution. But previous institutional attempts to create a digital taxation framework have led to an impasse, and there is decreasing confidence in the OECD to devise a multilateral measure that is unanimously approved. Countries do not want to waste time in capturing the spoils of a digital economy.

On the other hand, American tax nationalism is not just presidential bluster – it is codified in federal laws. According to Section 891 of the Internal Revenue Code (IRC), the U.S. President has the right to double the income tax rates on foreign nationals and firms that are operating domestically when “under the laws of any foreign country, citizens or corporations of the United States are being subjected to discriminatory or extraterritorial taxes.” The USTR has threatened to do just that if the DST provision were to be implemented, under the guise of preventing “significant double taxation.”

Another problem relates to jurisdictions and the risks involved with unilateral measures. Gary Clyde Hufbauer, an economist at the Peterson Institute for International Economics, argues that the DST is misguided largely because of this; from PIIE:

The French digital tax is ill-considered firstly because it contravenes the “permanent establishment” principle for dividing the profits of a multinational company between two or more taxing jurisdictions. Under current tax treaties, the existence of a permanent establishment — some sort of physical presence — is the threshold for including a portion of corporate profits in the domestic tax base. Digital firms, including U.S. tech giants, purvey their websites globally with no physical presence in most countries.

Hufbauer also cites Section 301 of the Trade Act of 1974, allowing the U.S. President to deem certain measures “unreasonable, discriminatory, or unjustifiable,” open an investigation, and if affirmative, subsequently place trade restrictions on exports on, say, French wine. Although the heyday of Section 301 use was in the Reagan era (in which current USTR Robert Lighthizer served), rules around trade in services, IP rights protection, anti-competitiveness practices, or foreign trade policy had not yet been codified. Its contemporary use would not be in line with formal WTO settlement dispute procedures, and indicates a reversion to the nationalism and aggressive unilateralism largely characteristic of the 1980s.

Hufbauer continues:

The claim is often made that the Internet calls for a new threshold for dividing the corporate tax base. But until a new threshold is agreed between countries, national self-help measures, like the proposed French tax, will result in double taxation and discourage the spread of digital commerce, one of the strongest forces now lifting the global economy.

While I agree that a multilateral solution and consensus around the definition of digital benchmarks are essential to divvying up the corporate tax base, resorting to antiquated laws is not the solution. The Trade Act and the IRC were respectively released in 1974 and 1986, both prior to the formation of the WTO and the notion of a digital enterprise. If OECD processes were to stall and nations are left to their own devices (not an unlikely scenario), the tax framework depicted above could, at the very least, represent a starting point in the process of measuring digital value-creation.

Welcome to Besteps

Over the past few months, I have been writing articles on Medium with some degree of regularity. The simplicity is appealing. Writers earn money through its Partner Program, and the platform offers exposure to a wide array of topics and publications (shoutouts to The StartupOneZero, and Elemental). In addition, maintaining a blog can be a chore for writers whose only interest is creating content — the layout and promotion require frequent attention. In contrast, Medium handles the distribution by curating stories or granting authorship permissions to various publications.

There are caveats to this. Medium isn’t a repository for building a brand, nor does it offer certain features like co-authoring articles. Hunter Walk, a partner at Homebrew, referred to Medium as a new type of content farm, rather than one which “churned out low-quality prose in SEO-friendly formats to try and garner traffic from Google and other search engines.” Features of these high-quality content farms include article-based construction, some level of cross-promotion, and easy-to-use tools that remove obstacles to creating content.

Yet, it’s still unclear whether this leads to a higher level of engagement with readers. Having a blog is equivalent to owning a dry piece of land, and makes sense for writers with a consistent style or thematic throughline. Vox is one example, having been founded with the aim of ‘explaining the news’ (read: analysis). But its desire for reach and continued growth of the platform was uncompromising, creating a trade-off with Klein’s initial objective of writing with a singular voice and building loyalty from a particular type of reader.

Introducing a new medium

In this context, I am creating a blog, Besteps, which aims to provide analysis of business practices and evaluate their impact on society. The reason for the name is twofold. First, it is an amalgamation of best steps, since many articles will make proactive and constructive recommendations for the ideal business practices. It also happens to be an acronym for each field of study that will be covered in the articles: Business, Ethics, Strategy, Technology, Economics, Policy, and Society. It’s been done before.

Moving forward, articles like those I have previously shared will be posted exclusively on Besteps. The duplication of Medium content isn’t conducive to building a brand and could lead to a lower-trafficked site. I do still intend on sharing thoughts occasionally on Medium on topics like writing or culture.

You can find my latest posts at besteps.net and follow the blog on Twitter and LinkedIn.