Download Building Social Capital Through Fiscal Reform: A technical

Tax Reform in Central America
Work at IDB
Manuel R. Agosin
Regional Economic Advisor for Central America,
Mexico, Haiti and Dominican Republic, IDB
17th Regional Seminar on Fiscal Policy
CEPAL, Santiago, January 24-27, 2005
Work on tax reform over the past three years,
sponsored by funds from Norway and Sweden
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Work on tax reform options open to governments in the
region: 2001-2004
Studies for BL, CR, DR, ES, HA, GU, HO, NI, most of
them available on RE2 website:
http://www.iadb.org/regions/re2/re2ss.htm
Closed-door meetings with governments to present results
of studies
Workshops for civil society, business, Congress, labor
unions
Active participation of donor governments
– In the design of the project, in parts of its execution, in planning
follow-up
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Book summarizing findings (early 2005)
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The first set of studies on tax
reform revealed that …
 Central American
countries collect
much less than they should in tax
revenue, and this hampers their ability
to pursue social policies
 Income distribution is rendered more
regressive by the tax system
 The basic problem is the narrowness of
the tax base, not tax rates
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All the countries in the region have space to
raise the tax burden
Tax burden, % of GDP, 2001
20
18
16
14
12
10
8
6
4
2
0
GU
ES
HO
Observed
Source: IDB, based on CEPAL.
CR
NI
Expected
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As a consequence, and contrary to popular opinion,
states are small...
Public expenditures, % of GDP, 2001
30
25
20
15
10
5
0
CR
ES
GU
Observed
Source: IDB, based on CEPAL.
HO
NI
Expected
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... and spending on education and health is low
Spending on education, % of GDP, 2000
5
4.5
4
3.5
3
2.5
2
1.5
1
0.5
0
CR
ES
Observed
Source: IDB, based on CEPAL.
GU
HO
NI
Expected
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Years of schooling in the population between 15 and 65 are low (1999)
8.8
Argentina
Panamá
Trinidad & Tob.
Peru
Uruguay
Chile
México
Venezuela
Ecuador
Paraguay
Costa Rica
Bolivia
Colombia
Jamaica
El Salvador
Dominican Rep.
Brasil
Honduras
Nicaragua
Guatemala
3.5
Haití
0.0
1.0
2.0
3.0
Source: Barro and Lee database.
4.0
5.0
6.0
7.0
8.0
9.0
10.0
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Deficiencies of tax systems in
Central America…
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Personal income taxes:
– Much non-wage income escapes taxation
– Large informal sector, mostly poor but also some well
off
– Generalized evasion and avoidance through offshore
arrangements
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Corporate incomes taxes:
– Excessive use of “development-oriented” exemptions
(tourism, mining, exports, to name a few)
– The most dynamic sectors are tax exempt, which
renders tax revenues inelastic to income increases
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Deficiencies of tax systems in
Central America…
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Value added taxes:
– Numerous exemptions, many for dubious reasons
– Generalized use of zero rate, which means that backwards value
chain is tax exempt – this generates tax credits all along the line
and undermines tax collections
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Excises:
– Excessive reliance on gasoline taxes, which raises costs and makes
user firms uncompetitive
– Proliferation of low-yielding excises with widely varying rates
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Foreign trade taxes:
– Owing to trade liberalization, revenues from this source have been
declining relative to GDP
– Inefficiency and low yields in customs collections
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Reasons that make tax reform urgent
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Provision of infrastructure, economic and social
public investment
CAFTA and FTAA will reduce tax revenues from
tariffs, which will have to be made up
Countries will have to abolish income tax
exemptions in EPZ, to comply with WTO
It is important to harmonize corporate income tax
legislation in order not to engage in race to the
bottom, particularly in context of CAFTA and
MCCA
Achieve fiscal sustainability in highly indebted
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countries
The two TCs have led to encouraging
developments …
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IDB has placed the issue of tax reform on the
forefront of its lending program in Central
America (particularly PBL loans)
Tax reform programs have been launched in
Nicaragua and Honduras (the most ambitious
project in the region)
IDB has supported tax reform in Costa Rica, the
most ambitious and best designed in the region
Other countries have placed tax reform on their
policy agenda (El Salvador, Guatemala)
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Major problem: lack of social
acceptability of government
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Society does not trust that governments will use
effectively the resources generated by any tax
increase
Legitimacy of governments is questioned by many
social groups, not only business
Vicious circle: the less effective and less
transparent is government, the less willing are
citizens to provide it the resources; but the less
resources it has, the more this fosters lack of
transparency and inefficiency
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A new approach to the issue of
fiscal reform is needed
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Emphasize building confidence and improving the capacity
of governments to deliver effective public services needed
for growth and poverty reduction
Tax reform is needed to raise the share of income that can
be used to produce indispensable public goods
But governments improve the efficiency, transparency and
targeting of government spending
Need to improve equity through the fiscal system
– But make sure you don’t look at taxes alone, but at the
combination of taxes and spending
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A follow-up project has just been approved: Regional TC
financed by and designed with the participation of Sida,
NORAD and DFID
The philosophy of the project:
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Tax reform is an ongoing process and needs to continue
Expenditure reform is also essential, for political and
economic reasons: move toward managing for results
Build packages of reform: improvements in the quality of
spending and raising tax revenues, at the same time, so as
to improve the capabilities of government and create
increasing confidence in it
Create consciousness and consensus as to the importance
of fiscal reform oriented toward greater and better
government services, not just balancing the budget
Anchor the work in a national institution
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Thank you for your attention
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