Thursday, 11 July 2013

Austerity Pakistan 2: The Myth of a Low Tax?GDP ratio in Pakistan

Austerity Pakistan 2

The myth of a low tax GDP ratio In Pakistan

We are continuously being harangued by donors and external agents with limited knowledge of our economy with epithets like “a nation of tax cheats”, “poor revenue collection”, 'why should our taxpayers pay when your people do not!” Strangely enough all this emanates from our own bureaucracy that for years has been saying that we have low tax/GDP ratio, one of the lowest in the world. Then they keep citing some databases that suggest millions of tax evaders.

Meanwhile, poor Pakistan suffers through a plethora of arbitrary taxes time after time to please this narrative of being tax cheats. Strangely enough our leaders especially our bureaucrats do not ever challenge this disparaging of our people; instead they feed it.

Let us examine how bad we really are! The Figure that we are always beaten with is that our tax revenue as a percentage of GDP is about 9. When we include non-tax revenue and petroleum levy our tax to GDP ratio goes up to about 13%. This is compared to India which collects about 17% of GDP and Sri Lanka collects about 15%. However as I argued in an earlier article, tax GDP ratios vary across countries. Singapore for example collects 15%, Uganda, Paraguay and Indonesia about 12%. Why then do we face this severe criticism and why do our bureaucrats beat up on us?

Taxation is not mere revenue that government claims from our incomes and savings. What is never mentioned is that the government can also tax people through several methods other than taxation. Here are some examples:
  1. Curtailing certain activities can act like places a tax burden on people. For example, for decades the government did not allow private sector media activity. Now that this activity has been allowed, we can easily estimate that the loss to society in those lost decades. Several high paying occupations such as journalists, actors, commentators, producers directors etc have opened up now. It is easy to see that the ban imposed a huge tax burden on society.
  2. Government owned companies through use of taxpayer funds as well as favorable treatment can crowd out the private activity in various sectors. Planning Commission Framework for Economic Growth has identified how government is crowding out out the private sector through its direct involvement in several sectors. Glaring examples are the construction companies where the government companies are often favored with non competitive awards. Airline, airport, gas development distribution, agricultural procurement are other areas where the government either monopolizes or heavily distorts competition.
  3. Policy can also tax people and give protection or exemptions to chosen activities or industries. In such cases, people do pay a tax but that tax may not be collected by the government but by chosen individuals. Such policy exemptions or advantages to chosen people are called tax expenditures and are not small in Pakistan. For example, cars and various engineering goods are offered protection. Limiting consumer choice as well as making cars more expensive is a tax on the people of Pakistan. Similarly giving exemptions on inputs as well as providing advantages on tender arrangements to say producers of electrical equipment operates like a tax. Such expenditures have been estimated to be anywhere between 3 to 4 % of GDP. Eliminating these policies and allowing a proper collection of tax without exemptions or attached policy goals would increase revenue by 3 to 4% of GDP.
  4. Government perks and privileges also impose a heavy tax burden on the economy which should be factored in. Take for example the large amount of tax-free compensation that government servants receive in the form of perks (houses, cars, servants, utility bills, plots). If these were monetized revenue collection would increase. The government also holds prime real estate for the purpose of providing perks such as housing and leisure activities to the officials. Not only is this real estate exempt from property tax, it is also not allowed to move to higher value uses. The opportunity cost of limiting commercial construction on these sites is huge in most cases.
  5. The perks culture has also held real estate development hostage for decades as officials seek to reward themselves through plots. Private real estate development is held hostage to the plot culture as government sponsored real estate developers DHA and Coop societies dominate the market.
  6. Market regulation when well thought out fosters transactions and economic activity. However when poorly conceived, regulation has been shown by many economists to be equivalent to a tax on economic activity. For example as argued in the Planning Commission Framework for Economic Growth, overly stringent building regulations impede development and create large excess demand in virtually all aspects of urban space demand. The cost of this regulation is estimated to be large and continues to be imposed.
If we look at all these policies that invisibly tax economic activity, tax GDP ratio would be way beyond 9%. Taking this perspective, a better approach would be to reduce this invisible burden on the economy and allow growth and employment to take off.

There is an urgent need to review the bureaucratic approach to macro-policy where the expenditure and the structure of the economy seems to be given and the only adjusting variable seems to be chasing a large revenue target. When several structural problems are already holding economic activity back, the current approach seeks to further tax an already overtaxed or overburdened economy, laboring under the yoke of inefficient regulation, excessive and poor quality PSE intervention, an incentive structure of officials that precludes economic activity.