Seven keys to good tax policy

ISLAMABAD:

In “A Template for Understanding the Economy”, Arthur Laffer cautions rightly that “Next to a bad money, I know of nothing that will bring an economy to its knees faster than an unjust, inefficient, anti-growth, excessive system of taxation. This principle is universal.”

I add its corollary here: Pakistan’s tax system is unjust, inefficient, anti-growth and excessive. Pakistan’s economy has been brought to heels.

Echoing the same principle, PIDE Reform Manifesto concludes that “the (Pakistan) tax regime is highly complicated and primarily revolves around meeting tax-to-GDP targets, often sidelining fundamental principles like fairness, certainty, efficiency, and convenience.”

It is disappointing to see that both PML-N and PPP, which are leading contenders for the government in Islamabad, have failed to articulate a business and people-friendly tax policy in their manifestos. The Jamaat-e-Islami, on other hand, has made a clear commitment to reduce tax rates and increase the tax base, while withdrawing tax exemptions available to the elite.

PPP’s New Peoples Economy Plan is slightly better on one account: fairness. It promises to eradicate untargeted subsidies and tax expenditures and reduce reliance on exemptions to broaden the tax base and achieve a fairer system.

It also accords right emphasis on leveraging provincial and local taxation and harmonisation of general sales tax.

Similarly, one good thing in PML-N tax-related manifesto is that it has promised to keep tax regime unchanged for five years for stability. Hopefully, this does not mean maintaining the current tax regime!

Without clarity on tax policy, reforms and mechanism, no economic reform can work. Ambiguity also results in ad hoc measures which only aim to increase tax revenue or tax exemptions for selected sectors which distort competition.

Both PPP and PML-N have promised to increase tax-to-GDP ratio, a misguided target which has achieved the status of gospel, thanks to bad economics we teach and poor advice we receive.

Read: Revenue shortfall to be met with more taxes

We need to break down this consensus. For this, we need a tax policy, and here is a framework.

In his book, Laffer attributes the following text to Rizwan Rawji, as “Seven Keys to a Good Tax Policy”. It is worth to share these pillars:

i – Tax these items most that can escape the least, and conversely tax those least that can easily escape. It makes no sense to tax something that then flees the jurisdiction, goes underground, or stops working. You not only don’t get the revenue, but you also lose the benefits of productive services.

ii – Tax those things most that you least like (sin taxes). An additional benefit or sin tax is that they do reduce the activity being taxed.

iii – Tax those things least where the collection costs are highest.

iv – Broad-based, low-rate taxes provide people with the least incentives to evade, avoid and otherwise not report taxable income and the least number of places where they can escape taxation.

v – Tax people fairly. People in like circumstances should have similar tax burdens. The perception of fairness is the key to voluntary compliance.

vi – Make sure that taxation is not arbitrary or easily subject to discretionary changes. The power to tax in the wrong hand is an ugly weapon for exploitation.

vii – Lastly, collect only as much as you really need. Wasteful spending will always rise to the level of revenues.

We believe that these principles can offer starting point to develop a tax policy, which will be just, efficient, and pro-growth. These principles can lead to a new tax policy, which has been outlined already by writers Ikramul Haq and Huzaima Bukhari in their publication “Towards Flat, low-rate, broad and predictable taxes” by PRIME, which presents a roadmap towards tax reform.

There is an urgent need for Pakistani institutions, taxpayers, think tanks, and academics to sit down and develop consensus on tax reforms soon after the new government assumes office. While political dynamics will take their own turn, we should all strive together to debate and agree on these points.

If we can sign on a “Fair Tax Charter”, it can produce decent pressure on the new government to agree on this charter before it goes into the exercise of its first annual budget.

Tinkering and incrementalism will not work. We need a Milei effect in Islamabad.

The writer is founder and executive director of PRIME, an independent economic policy think tank based in Islamabad

 

Published in The Express Tribune, February 5^th, 2024.

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