Simpler tax rules will bring in more revenues, help cut public debt

The economy is constantly affected by unanticipated events: the price of oil rises unexpectedly, the central bank sets an interest rate unforeseen by borrowers and lenders, or household consumption suddenly declines. 

Such unexpected occurrences are usually called shocks. 

The economy is also affected by more long-term changes, such as a shift in monetary policy towards stricter disinflationary measures or fiscal policy with more stringent budget rules. One of the main tasks of macroeconomic management is to comprehend control of both shocks and monitor and enforce systematic policy shifts that affect macroeconomic variables in the short and long run. 

One difficulty in attempting to understand how the economy works is that the relationships are often reciprocal. Is it policy that influences economic development or is there a reverse causal relationship? 

A reason for this ambiguity is that both private and public agents actively look ahead. The expectations of the private sector regarding future policy affect today's decisions about wages, prices and investments, while economic-policy decisions are guided by expectations about developments in the private sector. 

Investors base their decisions on expectations about future economic policy. Central banks set the interest rate based on expectations about private sector developments. A clear-cut example of a two-way relationship is the economic development in the early 1980s, when many countries shifted their policies in order to combat inflation. 

This change was primarily a reaction to economic events during the 1970s, when the inflation rate increased due to higher oil prices and lower productivity growth. Consequently, it is difficult to determine whether the subsequent changes in the economy depended on the policy shift or on underlying factors beyond the control of monetary and fiscal policies which, in turn, gave rise to a different policy. 

There are good reasons to believe that unexpected shifts in economic policy may have other effects than anticipated changes. It is not trivial, however, to distinguish between the outcomes of expected and unexpected policy. A change in the interest rate or tax rate is not the same as a shock, in the sense that at least part of the change might be expected. 

This is a longstanding insight in the context of the stock market. A firm which reports improved earnings and higher forecasted profits might still encounter a drop in its share price, simply because the market expected an even stronger report. 

Moreover, the effects of an unanticipated policy shift might depend on whether it was implemented independently of other shocks in the economy or was a reaction to them. 

Reforms and deregulation 

Central to the economic reforms process is a clear progression towards deregulation of the economy. Prices of petroleum products, gas, energy, agricultural commodities and other key inputs are mostly determined by the market. 

Imports and domestic marketing of petroleum products are in the process of deregulation. More importantly, taxation reforms have been prominently on the government's agenda, with very slow real reforms undertaken. 

The new VAT law was introduced first from 1 July 2012 but baptised in 2019.  The massive changes to the earliest Mullaya Shangjojon Kor Ain, 1991 were incorporated to widen the tax base and scope for collecting more tax.

Reorganising tax revenue regulations deserves a very close review of existing rules and regulations, one by one. The reorganisation of existing laws should not be to reduce or introduce new taxes, but to make the tax code simpler, fairer and better equipped to promote economic growth. Any proposal would have to be revenue neutral. Rules should not be framed only for the 'ruled' and also not to twist the innocents and ignorant, should not be a tool for applying discretionary power by the enforcement officials, but be applicable for all indiscriminately. 

Global good practices should not only be incorporated in the reorganised law, it is needed to take suggestions from the stakeholders. Rules have to be simple, comprehendible, without having dual meaning or interpretation but with adequate remedial provisions. 

Just a little bit of effort by the citizens should be required in paying taxes. This is a necessary evil. Otherwise, the government could do and take whatever it wanted. Citizen-voters have a minimal responsibility, if not civic duty, to participate in this, a fundamental component of democratic society. 

Underground economy and tax gap

An important way to study the tax gap is to examine the size of the tax gap in a country by analysing the size of the underground economy and its influencing factors. The size of the underground economy is directly related to the institutional infrastructure. 

The institutional infrastructure of a country mainly includes the intensity of government regulation, the establishment and implementation of laws, the degree of judicial independence, the size of effective tax rates, the effective provision of public goods or services, and the effective protection of property rights. It is generally believed that the higher the level of government regulation, the greater the size of its underground economy and the greater the tax gap. 

And vice versa, when government over-regulation occurs, an alternative relationship exists between the size of the underground economy and the size of the official economy. It is believed that  higher tax rates can raise higher tax revenues, and the government can provide higher levels of public services accordingly, thereby attracting more companies and individuals out of the underground economy, resulting in a healthy balance of "high tax rates, high taxes, high public services, and small-scale underground economy," but low-tax countries, because they do not have enough income to provide high levels of public services, will form a vicious balance of "low tax rates, low taxes, low public services, and high-scale underground economy." 

In the above-mentioned healthy balance, the tax gap is relatively small; in the vicious equilibrium, the tax gap is relatively large. 

Tax agency's efficiency matters 

Under the premise of economic development, the ability of a country to raise tax revenue is mainly determined by the tax system design in the country and the efficiency of its collection and management. 

From the perspective of taxation practices in various countries, the design of the taxation system is affected and restricted by the efficiency of tax collection and management. Therefore, it can be said that the relative size of a country's tax revenue collection and tax gap is closely related to the tax collection and management efficiency of the tax administration agencies in the country.

Due to restrictions on the level of taxation in developing countries, tax revenues can only be raised through indirect taxes that focus on taxes such as value-added tax and consumption tax, while direct taxes represented by income taxes and property taxes are included in total tax revenue. The proportion is relatively low.

Rein in public debt

Divergent trends between growth in foreign exchange earnings and government revenues on one hand, and foreign exchange payments and expenditure on the other hand, point towards underlying structural issues which need to be addressed. 

Export receipts and other foreign currency non-debt creating flows need to be increased above and beyond the growth of foreign exchange payments and growth of external debt and liabilities. By doing so, the government will be able to restrict the non-interest current account deficit, and ensure the sustainability of present levels of external debt. 

Failure to arrest the widening gap between foreign exchange inflows and outflows will severely hamper the government's room to manoeuvre in case of future external shocks and may possibly lead to a balance of payment crisis and explosive debt path. 

Additionally, given access to cheap external finance, in the form of concessionary loans and grants from international financial institutions, governments preferably avoid seemingly expensive domestic borrowing. To limit the growth of public debt burden and to avoid future debt traps, it is essential that significant real growth in revenues is achieved while undertaking a simultaneous rationalisation of expenditure.

Future remedies could be reducing debt servicing expenses through more professional and skilled negotiations with lending agencies and countries; allocating external debt efficiently in more productive development projects which will increase net investment, promote exports, thus contributing to reduction in trade deficit and overall government deficit; controlling hyperinflation and making price stability sustainable with GDP growth rate; and using external debt in technical skill and professional capabilities to enhance manufacturing sector growth. 

Income inequality 

Current economic literature largely points to three explanatory causes of falling wages and rising income inequality: technology, trade, and institutions.

While monitoring and reporting have their places, advocacy and support are still more significant, especially in this very challenging area. 

Bangladesh has long recognised the importance of social protection, and the potential contribution it makes to equitable development. Moreover, these programmes have a special resonance for this country, given the level of vulnerability accruing from exposure to environmental and climatic risks. 

Today, the government is spending around 15% of its revenue budget equivalent to around 2% of national GDP on social transfers and allowances. This is a major resource commitment. Additionally, Bangladesh has pioneered many innovations in this field — including the educational stipend allowances targeted on school attendance, a focus on poverty graduation and the building of resilience and a system to respond to environmental and climatic shocks.

Regrettably, in Bangladesh, there has been an increase in the degree of inequality in income distribution from the mid-1980s. As per the Household Income and Expenditure Survey (HIES) of Bangladesh Bureau of Statistics (BBS), the country's Gini coefficient, which is the economic measure of equality, stood at 0.482 in 2016, up from 0.458 in 2010, in a worrying development. 

At independence, over 90% of Bangladeshis were villagers, a share that has now come down to nearly 70%. Historical experience suggests that if our economy grows faster, more and more people will flock to the cities. Dhaka in particular has gone from being home to 2% of Bangladeshis to 10% in the past four decades. 

But the lack of decentralisation is causing a growing spatial inequality in income earning, where residents of Dhaka and Chattogram are earning way more than the residents living elsewhere. 

Bangladesh  had a plan to halve the rich poor gap  by 2015 as part of the Millennium Development Goals. This was going to involve lots of plans and bureaucrats and official foreign aid. And that global free market capitalism just went and did it without permission — it's the one of the MDGs that was overachieved and before time.

The author is a former secretary to the government of Bangladesh and former chairman of the National Board of Revenue (NBR). He is currently an adviser to the International Business Forum of Bangladesh (IBFB).