| |
Contributions from
the Column
Focus
No representation without taxation
VAT triumph
The meaningful goal of fairness: sub-Saharan tax regimes
Funding municipal budgets in Benin and Rwanda
Selfreliance revisited: enabling governments to do their job
“It is extremely difficult to negotiate PPP contracts”
02/2007
|
|
Selfreliance revisited
To demand that poor countries contribute more to financing their own development does not conflict with donor pledges to increase development assistance. Indeed, without extra efforts by recipient countries, boosting aid would be counterproductive. Various attempts are being made to raise funds domestically in poor countries, and donors should encourage such reforms. It makes sense, for example, to levy cost-covering user fees for services.
[ By Nassir Djafari ]
With the volume of financial transfers to poor countries set to increase, especially in the form of budget support, urgent questions of sovereignty and governmental responsibility need to be addressed. Today, many low-income countries depend on external aid more than ever before. In 2003, the total official development assistance (ODA) received by the countries south of the Sahara (excluding Nigeria and South Africa) amounted to some 12 % of their gross domestic product (Moss et al., 2006). According to OECD forecasts, aid will make up 29 to 63 % of the GDP of the ten most donor-dependent countries in 2010.
However, many countries could harness domestic resources more effectively, as becomes evident in widely diverging distributions of wealth and income as well as in widespread tax evasion and tax flight. According to the UN Millennium Project (2006), developing countries could themselves mobilise an extra four percent of their GDPs annually for the purpose of achieving the Millennium Development Goals (MDGs). The International Monetary Fund and the World Bank also believe that developing countries still have untapped revenue potential - and not only from commodity exports such as oil, gas and minerals. Multilateral institutions are also looking beyond the poorest countries; emerging powers like Brazil, Mexico and India could also benefit from public-finance reform, but of course donors have less influence there.
Taxes
Systematic collection of taxes is a sensitive matter from a power political perspective. It cannot be addressed simply by improving administrative procedures, but depends on the declared aims of the government in power. In view of dominant interest groups, however, governments often find it easier to chase donor money than to implement fiscal reforms. From the advanced countries’ viewpoint, this is not acceptable. Their governments must respect their own taxpayers’ wishes – and that fact once again shows that compulsory levies forge a special accountability relationship between government and citizens (see Mick Moore’s essay on p. 56).
Reforms designed to strengthen self-financing capacities already figure in the negotiations between donors and the governments of a number of countries that receive budget support. In most cases, tax reforms are on the agenda, and sometimes also the introduction of cost-covering tariffs (especially for water and electricity). In some countries – for instance, Uganda – raising the ratio of tax revenue to GDP even forms part of the national poverty reduction strategy. In Mozambique, the debate on state-revenue levels plays a major role in the budget support programme.
Another important step towards developing state-revenue potential lies in formalising the informal sector. In many developing countries, informal businesses account for around 50 % of economic activity. This presents a significant obstacle to tax collection as unregistered businesses do not pay taxes. Accordingly, the tax base broadens whenever informal businesses become formalised. To make that happen, the business environment needs transparent and reliable property rights as well as broad access to financial-industry services.
Tax evasion and tax flight are also phenomena that prevent developing countries from fully realising their revenue potential. The relevant agency in Guatemala, for example, estimates that the tax volume lost in 2003 amounted to more than two-thirds of the revenue actually collected. Corruption is a closely related issue. Bribes paid to revenue officials often serve to evade taxes. In Bangladesh, for instance, 85 % of respondent companies admitted they had made such payments. To fight this sorry state of affairs, it will not do to uncover individual cases. Legal prosecution and stiff punishments are needed as deterrents.
Capital flight similarly reduces developing countries’ revenue potential. For sub-Saharan Africa and the Middle East, it is estimated that domestic investors generally keep two-fifths of their portfolio abroad. In view of the political instability of many countries and the unattractive investment opportunities they offer, that is hardly surprising.
User fees
It is easier to charge users than to levy taxes, as people see immediately what their money is spent for. In many low-income countries, however, the fees charged only meet a fraction of infrastructure costs. And with the state usually unable to plug the gap with revenue from taxes, there is not enough money available for maintenance, repairs and renewals – unless donors step in.
Public utilities are often inefficiently managed and the quality of service they provide stays low. However, poor infrastructures impact on the well-being of any economy. To strengthen a state’s capacity to fund its activities, it makes sense to improve the efficiency of its utilities. For that purpose, utilities need a sufficient degree of autonomy. For example, they should be able to make and implement their own investment decisions – and they need room for manoeuvre on matters such as hiring, firing and the salaries they pay if they are to run efficient, customer-oriented operations. That said, appropriate supervisory and control mechanisms naturally need to be in place to ensure accountability to consumers, customers and the government.
An objection frequently raised against user fees is that they may overburden poor sections of the population. What this argument fails to take into account, however, is that where drinking water is officially provided free of charge, utilities often lack the funds to invest in facilities and maintain them. The consequence are serious bottlenecks, with informal or even illegal suppliers stepping in at very high costs to users. According to a study of seven Latin American countries, informal or illicit payment schemes are particularly widespread where basic supply is officially supposed to occur free of charge.
To raise the quality of service and overcome financial straits, the World Bank and IMF recommend levying reasonable formal charges. The poorest developing countries still have a long way to go to achieve that. In the average low-income country, water rates cover only three percent of all costs. In the OECD countries, by comparison, around half of total costs are met by fees.
In the electricity sectors, low-income countries tend to be closer to cost coverage is found. In a quarter of cases, electricity rates suffice to meet both capital and operating costs (Foster and Yepes, 2006). Since the early 1990s, a number of developing countries have managed to raise water and electricity rates sharply, improving cost-covering ratios. Sector-specific policy dialogue with donors has played a major role for achieving that.
In principle, poor countries could also finance all road maintenance from fuel taxes. For that to happen, however, the state would have to benefit financially from the sale of gasoline and diesel, which is not the case in many countries. Instead of taxing fuel, many governments actually subsidise it, keeping the price artificially low.
Although governmental health budgets have risen steeply in recent years, health costs are still only part-financed by governments. South of the Sahara, people pay around half of the cost of all required medicines and care (medical, hospital and nursing) out of their own pocket; the rest is financed more or less equally from tax revenues and development assistance (WHO, 2006). Social insurance systems and schemes based on communal solidarity are still few and far between in the poorer developing countries. As experience has shown in Benin and Guinea (Jacab and Krishan, 2004), community-based systems lend themselves particularly well to mobilising resources for local health centres.
For development agencies, it has become standard practice to conduct ex-ante analyses in order to establish what implications higher taxes or fees will have for the poor. Sadly, these studies often look only at individual measures in isolation. Sometimes, however, governments that receive budget support are simultaneously engaged in negotiations with donors on increasing various taxes as well as improving the cost-covering ratio of various user fees. In most of these cases, the total burden on the poor is never examined.
Of course, taxes on the products that the poor consume in large significant quantities can considerably burden those least well off. This certainly applies to the above mentioned taxation of fuel. A poverty impact analysis conducted in the case of the petrol tax planned in Mozambique found that the higher petrol price would push up transport costs and thus indirectly also inflate prices for various items of daily consumption (Nicolson, 2003). Compensatory measures may be necessary to cushion the poverty impact of such reforms.
Conclusion
To demand that poor countries contribute more to financing their own development does not conflict with donor pledges to increase development assistance. Indeed, without extra efforts by recipient countries, boosting aid would send the wrong signals and be counterproductive. Action is needed on the sides of both donors and recipients. Relevant steps in the right direction include the following:
– Budget support should be linked to rising contributions of the target country to financing its development. Where such an arrangement is not yet in place, it should be dealt with in negotiations of recipient governments and donors.
– Dialogue between donors and poor-country governments should address existing problems – especially corruption – that cost the state dearly in terms of lost revenue. After all, it is difficult to persuade people to pay more taxes if a large proportion of public money is siphoned away. The fight against corruption is a matter of top-priority, as are, in a broader sense, the reform of the civil service in general and of public-finance management in particular.
– If the rule of law is strengthened and incentives for investment given to domestic companies, key causes of capital flight can be eliminated, and considerable revenues secured for the state. This process should be expected to take a long time, however, and success will depend on political stability to a large extent.
– A state’s revenue potential can be significantly enhanced by creating greater legal security for businesses in the informal sector and integrating them into the formal economy.
– Not only taxes, but also user-fees should be levied to finance public services. Governments can save money by improving the efficiency, effectiveness and transparency of public expenditure, thus indirectly increasing their financial room for manoeuvre. This approach is wider than the one typically applied in the public-finance discourse. It has the potential to inspire innovative debate internationally. So far, taxation is a domain of the IMF and World Bank. Therefore, KfW development bank believes in helping partners to improve the cost-covering ratio of user fees, by introducing up-to-date financing for infrastructure maintenance (like road funds) and community-based health services, thus improving the quality of public services.
– Any strategy meant to strengthen the self-financing capacity of developing countries needs to take into account the limited purchasing power of poor people. As well as checking the social acceptability of individual taxes and user fees, it makes sense to analyse the various financial contributions the community will be required to make and evaluate the overall impact on the different income groups. It is also necessary to bear in mind the impact of higher taxes, charges and duties on businesses, especially small and mid-sized enterprises, to ensure that their competitiveness is not undermined. At present, these aspects are not systematically considered.
Nassir Djafari
is a project manager in the Focus Team “Democracy Promotion and Social Infrastructure / Latin America” at KfW development bank.
nassir .djafari@kfw.de
References:
Foster, V., and T. Yepes, 2006:
Is cost recovery a feasible objective for water and electricity? The Latin American experience. World Bank policy research working paper 3943, June
Moss, T., G. Petterson and N. van de Walle, 2006:
An aid-institutions paradox? A review essay on aid dependency and state building in sub-Saharan Africa. Center for Global Development, Working paper No. 74, January
Nicolson, K., 2003:
Fuel tax in Mozambique. Department for International Development (DFID), London
Jacab, M., and C. Krishan, 2004:
Review of the strength and weaknesses of community financing. In: Preker und Carrin, Health financing for poor people, World Bank and WHO, Washington
UN Millennium Project, 2005:
Investing in development: a practical plan to achieve the Millennium Development Goals. New York.
WHO, 2006: World Health Report
|
