The Addis Ababa Action Agenda is widely seen as a major disappointment for developing countries as well as others hoping for adequate means of implementation to realize national development ambitions and the Sustainable Development Goals.
It has become clear that the South, including the least developed countries, should not expect any serious progress to the almost half century old commitment to transfer 0.7% of developed countries’ economic output to developing countries. But to add insult to injury, developing countries cannot expect to participate meaningfully in inter-governmental discussions to enhance overall as well as national tax capacities, Jomo Kwame Sundaram wrote for IPS.
While OECD countries agree that taxation is the only viable strategy for developing countries to exit foreign aid dependency in the long run, they have refused to accede to the latter’s desire for a full-fledged inter-governmental body for international tax cooperation under United Nations auspices.
The ability to pursue development policies depends crucially on available fiscal space, which relies mostly on domestic revenues, especially taxes. However, tax revenues in most low- and lower middle-income developing countries are low.
The average tax-GDP ratios in low-income and lower-middle income countries are around 15 and 19% respectively, compared to over 30% in high income countries.
Low- and lower-middle-income countries should take steps to increase their revenues; but the main approach in recent decades has been to increase tax rates only if unavoidable. It was presumed that lower rates would ensure better compliance with tax laws, and thus raise revenue.
Indirect Taxation
The prevailing tax wisdom also favored broadening the tax base, even when taxation capacities are modest. Thus, indirect taxation has tended to increase while direct taxation of corporations and individuals has tended to decline. The latter was supposed to be good for investment and growth although the empirical support for this presumption is dubious.
In the vast majority of countries in sub-Saharan Africa and Latin America, the tax to GDP ratio has actually stagnated or declined as tariffs and export duties, which accounted for the largest share of tax revenue, declined with trade liberalization. Unfortunately, other taxes have not grown to compensate for the lower trade taxes.
There is an urgent need to reverse this trend, with greater commitment to revenue generation in order to improve social protection, create employment and otherwise contribute to sustained economic recovery.
Domestic Taxes
The revenue to GDP ratio can rise in the following ways: the domestic tax base is widened; tax avoidance and evasion are reduced; and new sources of international taxation are found.
There is no reason to be overly pessimistic about direct taxation as tax reform has significantly improved the contribution of direct taxes to overall revenue in many countries. It is certainly possible to enhance tax revenues by increasing the share of direct taxation of the wealthy through more progressive income taxes in developing countries.
However, there should also be a greater effort to ensure better compliance with, and higher collection of existing taxes.
Excise taxes are another important source of revenue in developing countries as they have a buoyant base and can be administered at low cost. They are typically levied on products such as tobacco, petroleum, vehicles and spare parts.
Globalization, Tax Evasion
Revenue losses due to globalization need to be addressed. There are three main reasons for revenue losses: first, capital movements increase opportunities for tax evasion because of the limited capacity that any tax authority has to check the overseas incomes of its residents; evasion is easier as some governments and financial institutions systematically conceal relevant information.
Second, avoidance (not evasion) may increase, given international differences in tax rules and rates, because of the choice of tax regime that international-tax-treatment of enterprise income commonly offers. This is more likely for taxation of profits from corporations’ international operations.
Third, international competition for inward foreign direct investment has lead governments to reduce tax rates and increase concessions to foreign investors. The tax rates that governments can impose are thus constrained by international competition.
