A taxing new era

By Lisa Peryman on July 23, 2015 • ( Leave a comment )

As foreign aid dries up in the age of austerity, low-income countries are being asked more and more to generate their own funds for development. One recommendation is taxation. Taxes produce revenue and taxed citizens are more likely to hold their governments to account for how development funds are spent. Developing countries say rich nations need to pay their share of taxes too.

The era of ‘big aid’ is moving to an end. That message was reinforced at the third Financing for Development conference held in Addis Ababa, Ethiopia, earlier this month.

According to a policy brief issued by Britain’s Institute of Development Studies on Building Tax Capacity in Developing Countries, “governments will be urged to tax more effectively” and donors will be called upon to help build the capacity to do so. [See VOA: IDS: Taxes help spur development]

Professor Mick Moore, CEO of the International Center for Tax and Development and one of the authors of the brief said, “I think there’s now a very widespread understanding that a lot of low income countries could probably raise more of their own money themselves. And many of them understand this. You know, we’ve had an era of what I call ‘big aid’ for quite a long time now. And I think it’s clear to most people in the world that that era of ‘big aid’ is going to draw to an end.”

Highlighting the apparent paradox of spurring development with what is seen as a drag on growth—higher taxes—the Economist writes the opposite is often true in poor countries, “which on average collect just 13% of GDP in tax compared with 34% in the rich world.” World Bank chief economist Kaushik Basu describes taxes as a “powerful measure of an economy’s health”. Taxes, she says, allow “developing countries to invest in education, health and infrastructure, and, hence, in promoting growth.” [See: Tax them and they will grow]

In recent years, experts have increasingly plumped for taxation instead of foreign aid as the better path to sustainable development. Taxation creates a relationship between governments and their people and provides both with the means to control their own resources and citizens with a way to hold their representatives to account. By comparison, borrowing and foreign aid offer anonymity and remove the need for governments to account to their people.

Recent research continues to bear out the tendency of foreign aid to undermine good governance and the greater likelihood of a taxed citizenry to demand higher levels of accountability from officials and to punish them for poor performance.

Says Moore, low-income countries already have a tax foundation to build on. [See VOA: IDS: Taxes help spur development]

“It’s not as big as the tax base in the U.S. or the U.K., but it’s quite substantial and it’s not always tapped into very well,” he says.

Developing taxation capacity does not necessarily mean taxing the poor either.

“There’s a great deal of tax evasion and the worst tax evasion happens in low-income countries is not actually poor people. But it’s because there are a lot of unrecorded transactions in the economy,” says Moore. “Doctors, lawyers, consultants, dentists, artists, architects—professional people of all kind operate on a cash basis and they don’t pay taxes. Large numbers of people own a lot of property. Property taxes are extremely low in most low-income countries.”

As well as picking better taxes, limiting tax avoidance and improving tax collection—Rwanda increased its annual tax revenue by 6.5 times after automating its collection process—expanding an existing tax base is key.

The World Bank in its recommendation to Tanzania to tax more to pay for its ambitious infrastructure development goals, noted that the country’s tax burden is currently “highly inequitable” and that some sectors—food, drink, and telephone—paid high taxes while others—agriculture, construction and mining—paid very little. [See: Tanzania “must collect more taxes” to fund development, says World Bank]

Tanzania lost credibility in the eyes of the international community last year after claims of senior government officials looting funds from the country’s central bank, under the guise of energy contracts, caused foreign donors to suspend nearly $500 million in budget support.

How then can citizens trust the taxes they pay will be used for their benefit?

Unlike borrowing, taxation—because it is quickly felt by the public—forces a confrontation, or an accommodation, between the taxer and the taxed, making the act of taxation an important accountability mechanism. According to the World Bank:

Citizens have to trust that the tax they pay is not being wasted or stolen, so the government should publish collection and exemption data, along with verified company payments from all sectors, and show how taxes are being used to deliver public services. It should also enforce collection and punish evaders.

Meanwhile, developing countries at this month’s Addis Ababa development finance conference called out their rich counterparts for talking tough on tax avoidance but failing to support them in their bid for more transparency in multinational tax avoidance.

Developing countries hoping to see the formation of a global tax body tasked to ensure big corporations did not exploit corruption and lax legislation in poorer countries came away disappointed. And a draft outcome document that called for “full transparency” on payments from large corporations to governments was softened to a call for “promoting transparency”.

Developing countries remain caught in a “patronising system,” Pooja Rangaprasad, from the Financial Transparency Coalition, told the UK Guardian.

“Rich countries,” she said, have opted “to maintain a system where money goes from south to north, but the rules follow the opposite route.” [See: Richer nations reject call for tough tax provisions at foreign aid conference]

Related Reading

“The Virtues of Taxation,” Chapter 19, Odious Debts: Loose Lending, Corruption And the Third World’s Environmental Legacy: Patricia Adams

Answerable to no one

Good governance requires taxes, not foreign aid

Taxation with representation: the better way to development say experts

Further Reading