Effective Taxation Critical to Nation Building
Taxation is vitally important to building the capacity of a nation. However, it seems many taxation systems in Africa are abused through corruption and have an over-reliance on exported commodities.
Patrick McLennan, Consultant, Transnational Threats and International Crime, ISS Cape Town
Nobody likes paying them, but taxes are an
integral component of institution-building, growth, and democracy. Effective
taxation is a balance between collecting the necessary revenue to support state
budgets, while not imposing too high of a burden on individual incomes or on
the ability of businesses to operate. In some sub-Saharan African countries,
achieving the balance is often like scaling a high wall. A combination of
ineffective institutions and extensive poverty results in narrow tax bases,
which create a vicious cycle where governments are constrained in their ability
to raise revenue to support institution-building and enhance development.
Governments, which are ironically the
largest stakeholders in raising revenue, may be their own worst enemy when it
comes to effective taxation. Princeton university professor and international
relations analyst Atul Kohli refers to a culture of neo-patrimonialism in
sub-Saharan Africa, describing it as “the façade of a modern state, [where]
public officeholders tend to treat public resources as their personal
patrimony.” This undermines the legitimacy of the state, with taxation being
perceived as a way of lining bureaucrats’ pockets rather than supporting
government services. Drawing from the
history of state-building in Europe, and more recent studies in the region,
US-based International Development expert prof. Deborah Bräutigam discusses the
importance of building the capacity of tax collecting institutions, as part of
a larger social contract between government and citizens. She concludes that
“well-designed tax systems can consolidate stable institutions in developing
countries, increase revenues, refocus government spending on public priorities,
and improve democratic accountability.” Taxation can enhance good, accountable
governance.
It is somewhat ironic that the development
of effective taxation tends to be hindered by three factors that should complement
it, namely aid, comparative advantages in the primary commodity trade, and
foreign direct investment.
Africa has some of the world’s most
aid-dependent countries. Over time,
extensive studies on the effectiveness of aid have shown that poorly directed
or managed aid resources can serve as an antithesis of development. Aid may
also stand in the way of the formulation of any social contract among
stakeholders, by removing the need to enter into it in the first place.
Bräutigam argues that aid foregoes an essential actor-agent relationship in
fiscal policy. Governments that are
fairly dependent on aid as a source of revenue are more likely to be
accountable to donors rather than to their electorates. Apart from anything
else, this is detrimental to state legitimacy. The inevitable lack of
accountability to the citizenry “wastes [already] scarce resources. [And] Most worrying is the high opportunity
cost of not permitting the state to develop reciprocal relationships and mutual
obligations with interest groups, ” says well-known tax expert dr. Jonathan Di
John from School of Oriental and African Studies (SOAS) at London University.
The continued high dependence on primary
commodity trade by many African countries produces two problems: first, prices of these goods tend to be
highly variable, making economies particularly vulnerable to shocks in the
market. Second, countries with low tax bases are more likely to try to increase
the collection of tax revenue through trade taxes. This puts them at odds with
international financial institutions, which largely encourage trade
liberalization (lowering trade taxes) to fund development programmes. It also
conflicts with the profit maximization inclinations of multi-national
enterprises (MNEs) keen to exploit natural resources. As a result, countries
that depend on taxing commodity exports often have to contend with abusive
transfer-pricing practices by MNEs. This leads to decreases in the main revenue
streams for some countries. An IMF study in 2005 found that low-income
countries only recover about 30 cents for every dollar lost to trade.
Foreign capital as direct investment is
sought in order to speed up economic growth and improve human capital and
technology for the receiving country. In order to attract this investment,
countries without abundant natural resources or diversified economies tend to
create tax havens for foreign non-resident companies. While it can create employment opportunities
and give the impression of a diversified economy, a tax haven regime is
ultimately detrimental to tax revenue. Special dispensations through
preferential tax rates, and undertakings of confidentiality to protect their
business dealings, bring governments in tax havens into a relationship in which
they are more accountable to foreign private actors than to the electorate. It
is not a sustainable model for governments, because foreign direct investment
is by its nature fickle. It is apt to leave countries if political instability
risks returns on investments.
Governments should recognise that the
development of sound tax institutions takes time. It is a continuing process
that evolves overtime with the development of the relationship between
government and citizens. One possible
model to look at is the history of state capacity to tax in South Africa. Di
John explains the relative success of South Africa to tax through: cooperation
between different government agencies tasked with administering the economy,
(including the Ministry of Finance and the South African Revenue Service),
proper maintenance of relationships with key stakeholders in the civil service,
trade unions, big business, and effective public campaigns characterising taxes
as essential for a strong country.
Botswana is another good model for countries
to look towards. Analysts attribute part of the success of Botswana to
effective institutions, including taxation. From the onset of independence,
government made it a priority to cooperate between the politically influential
cattle-herding population, and foreign actors in the diamond business. The
state was effective in redirecting revenue to human development to reinforce
growth and legitimize state actors. However, for both South Africa and Botswana
challenges remain. Di John warns that for institutions to remain viable, the
foundation that sustains them must grow and develop. Economic diversification
away from commodities and natural resources remains critical. Participation in
the economy by previously excluded sections of the population is an important part
of this.
