Taxation and spending policies have a huge impact on any country. Until you see how a country treats its taxpayers, foreign producers and those who benefit directly from government spending, you can never assess the prospects of a country.
Besides taxation, tariffs and government spending explicitly, it equally applies to public companies, state-owned enterprises, highly regulated industries and other economic activities where government intervention is determinative – a movement towards state-controlled means of production.
IMF and World Bank reports about the Global South all have forecasts of GDP, inflation, trade, current accounts, budget deficits, etc, but not much details of government taxation, tariffs, non-tariff barriers or government spending.
Central to understanding taxation is incentives. There are two types of incentives in this world – negative incentives and positive incentives. Negative incentives tell people what not to do and positive incentives tell people what to do.
Taxation is a negative incentive. Like other negative incentives, it tells people what not to do: do not report taxable income. Taxation doesn't tell you how not to report taxable income. Potential taxpayers can evade, avoid or otherwise not report taxable income.
Government spending and subsidies, as opposed to taxation, is a positive incentive, telling people what to do. So, all you have to know to achieve economic prosperity and growth is to remember negative and positive incentives. Economics is all about incentives.
We are tax income earners, employers and profitable companies because the government needs revenues to function. But we must still remember the negative impact of a government's tax system.
No one can be oblivious to the fact that when the government taxes people who earn income, they will reduce the amount of income they earn and they especially will reduce the amount of income they report. When the government taxes people who employ other people, employers will reduce the number of people they employ. When government taxes companies that make a profit, these companies will try to reduce the amount of profit they make or report. Negative incentives accompany all tax systems.
A tax system's function should be solely to raise enough revenues in order for the government to perform its requisite tasks. While all taxes are bad, some taxes are worse than others. So, what you want your government to do is to collect taxes in the least damaging way possible, but still able to raise the requisite amount of revenues to function effectively. Efficiency in government spending is essential for economic prosperity.
Economics is, after all, about incentives. People don't work to pay taxes; they work to get what they can after taxes. People don't save to go bankrupt. People save to augment their wealth. Therefore, the after-tax return on saving is critical to how much people will save, just as the after-tax return on work is critical to the amount of work that will be done.
And finally, businesses don't locate their production facilities as a matter of social conscience; they locate their production facilities to make an after-tax return sufficient to incentivise their shareholders.
The optimal tax system is one where taxpayers recognise their obligation to pay taxes and believe the tax system is fair. Then people will pay taxes willingly. Taxpayers should be treated nicely. They are customers.
High and excessive tax rates are a disincentive to work, produce and to invest. The theory of incentives provides the basis for the concept of a flat-rate tax, which is so called because a tax applies equally to all sources of income and does not change as a result of a taxpayer's volume of income.
A low-rate, broad-based flat tax with no exemptions, no exclusions, no deductions, no credits is what we call tax expenditures (ie, positive incentives). If a programme is good enough to deserve a tax break, it's even better to receive the money transparently through a government check.
Free and unencumbered trade amongst the many nations of this world is truly a win-win situation for every single country. Each and every country has some things it makes more efficiently than other countries, and those other countries, in turn, make other things more efficiently than yet other countries. The economic gains from trade by all countries are called the Ricardian gains from trade and comparative advantage.
Tariffs are taxes on traded products. People work, produce and earn income in order to buy foreign products. If the government taxes foreign products, then it is effectively reducing the income workers receive from working. For any given income, workers who prefer foreign-made products will be able to buy less than prior to the tariff. Tariffs are just like other taxes. They are job killers and reduce output, income and employment.
Government spending and taxation are killing the Global South prosperity. You cannot tax an economy into prosperity. Countries need to have a limit on government spending and those limits should be reasonable. Government spending is taxation – government doesn't create resources, it redistributes resources.
Because decision-makers in the government spend other people's money, those decision-makers don't bear the consequences of the actions they take. In business, decision-makers do bear the consequences of their actions.
In summary, you need: a low-rate, broad-based flat tax, free trade and minimum regulations, spending restraint and then the government should get the heck out of the way and let the private sector go. The source of prosperity in every economy is its people, not its government.
Today the Global South is in the middle of a political and economic crisis. To attain prosperity, they need a common-sense approach to a pro-growth set of supply-side economic policies and not the anti-growth IMF bailout policies that have subjugated the Global South through loan addictions since the last century.
The writer is a philanthropist and an economist based in Belgium
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