tax expenditure and domestic revenue mobilization...domestic revenue mobilization (drm) tax mix and...

IntroductionWhy Should We Care About TEs?

Policy Implications: One Move, Two GainsTE Reporting

TE EvaluationGlobal Tax Expenditures Database (GTED)

Tax Expenditure and Domestic RevenueMobilization

Agustin Redonda

Improving Domestic Resource Mobilization andStemming Illicit Financial Flows

Nairobi, March 12-14 2019

Agustin Redonda, Council on Economics Policies (CEP) Tax Expenditure and Domestic Revenue Mobilization




Governments pursue policy goals, e.g. greening the economy,boosting investment and innovation, creating jobs, through:

1 Direct spending

Brazil: Bolsa Familia – conditional cash transfer for poorfamilies with vaccinated children attending school

2 Tax expenditures (TEs) – also known as tax incentives, taxbenefits, tax reliefs or “spending through the tax code” – suchas exemptions, reduced rates, deductions, tax credits thatreduce the tax payer’s liability

US: Earned Income Tax Credit (EITC) – refundable taxcredit for low- to moderate-income working individuals andcouples, particularly those with children

Besides minor differences (e.g. behavioural economics) theoverall budget impact for the government is the same

Giving 100$ = reducing tax revenue collection by 100$





Definition: “TEs are tax provisions that deviate from anormative or a benchmark tax system” (WB, 2006)

Formalization: TR = t × B( TE︸︷︷︸(−)

,X)

TEs are present across the whole tax system – In Switzerland:1 PIT deductions for commuting expenses, childcare, pensions2 Temporary CIT exemption for new firms3 2.5% VAT rate on foodstuffs, non-alcoholic beverages, books,

newspapers and medicines (Standard VAT rate: 7.7%)4 CO2 tax exemption for energy intensive firms





Magnitude – Fiscal Cost (Revenue Foregone)Domestic Revenue Mobilization (DRM)Tax Mix and CIT CompetitionInequality

TEs are significant :

1.5 trillion USD (roughly 36% of direct government spendingand 7.5% of GDP) in the US (own calculations, based on USTreasury, 2018)

LATAM: between 0.7% and 6.6% of GDP (CIAT, 2017)

Africa: between 3.3% and 7.5% of GDP (IMF et al., 2015)

Switzerland: 21 to 25 billion CHF, i.e. 31% to 37% of totalfederal income (Federal Financial Statements, 2016)






DRM is crucial for any sustainable development strategy, tosupport inclusive and sustained economic growth

“The UN’s Sustainable Development Goals (SDGs) setambitious targets to end all forms of poverty, fight inequalitiesand tackle climate change, while ensuring that no one is leftbehind. Achieving these goals requires enormous financialresources...taxation has a key role to play in financing theSDGs” (IMF et al., 2018)

Revenue collected through the tax system is more stable andpredictable than revenue from foreign aid or domestic non-taxsources, e.g. royalties from natural resources






Yet, average tax-to-GDP ratio for advanced economies is 26%> 15% (or less) in roughly half of developing countries – athreshold accepted as the minimum to allow these economiesto take-off economically (IMF, 2017)

Mobilizing resources through taxation is difficult and dependson several factors, e.g. institutional capacity and theempowering of tax administrations, tax compliance, etc.

Best practice: reduce marginal tax rates and broaden taxbases by, e.g. reducing the use of TEs and increasing taxcompliance

↑ TR =↓ t × B( TE︸︷︷︸(−)

, TC︸︷︷︸(+)

,X) �






Tax incentives for investment are often ineffectiveRedundant tax incentives for investment (windfall gains)

The type of tax incentive used by different groups of countriesvaries considerably (World Bank, 2015)

Some tax incentives perform better than others (IMF et al.,2015)

Tax holidays tend to favor mobile (“footloose”) activitiesrather than long-term investmentEligibility criteria based on special size/sectors createsignificant distortionsBesides a few exceptions (mainly in Asian economies) SpecialEconomic Zones (SEZs) are usually not effective (Artana,2015)






Tax mix: The choice of taxes to fund government activities,i.e. which taxes account for the largest (smallest) sources ofrevenue?

What do we observe?

PIT and SSCs account for more than 50% of total tax revenueCIT instead, accounts for only 8.9% of the OECD average taxmix (OECD Revenue Statistics Database)

What should governments do?Pro-growth tax mix ∗: increase consumption and property taxes to

reduce PITs and CITs






CIT competition: TR = t × [

Π︷︸︸︷B (TE )]

“CITs account for a low share of total tax revenue and CITrevenue has been stable over time. Hence, we should not caremuch about CIT competition and a race to the bottom”

Evolution of CIT revenue by income group:1 Heterogeneity among countries: Developing economies depend

more on CIT revenues






2 TR = t × [Π(TE ,TC )] ∧ TR ∧ t ↓⇒ Π(TE ,TC ) ↑CIT bases were not broadened by the reduction of TEs, i.e. TE

Heterogeneity regarding Π , e.g. across sectors, SMEs vs MNES?Role of tax compliance/tax avoidance: Roughly 40% of MNEprofits are shifted to tax havens globally each year (Tørsløv etal., 2018)






1 Income inequalityMortgage interest deduction (MID), Hilber and Turner (2014)

One of the largest TEs in the US – 60 billion USD in 2015> 70% of the benefits captured by top quintile (TPC, 2011)

Special tax treatment of pension savings (Duflo et al., 2006)VAT TEs , particularly with respect to non-essential goods and

services such as hotels, restaurants, and certain culturalproducts (OECD and KIPF, 2014)






2 Wealth inequality: can be tackled by the implementation of abroad-based capital income tax complemented with awell-designed inheritance tax.

Yet, “where a net wealth tax exists in addition to broad-basedcapital income taxes, tax exemption thresholds should behigh to ensure that the net wealth tax is only levied on thevery wealthy” (OECD, 2018)

3 Horizontal equity, i.e. distortions among firms/sectors:

TEs for SMEs (Benedek et al. 2017)Reduced excise rate on diesel for trucks (Transport andEnvironment, 2015)





No matter their stated objectives, TEs often are costly as wellas ineffective and inefficient in pursuing their goals

Assessing effectiveness and efficiency of TEs allows to:1 Identify those TEs that are value for money and those that are

not cost-effective2 Better align TEs with their stated goals and hence, mitigate

potential negative externalities3 Ease budget constraints and increase DRM through taxation

Yet, Data (TE estimates) are a necessary input for TEevaluation





Between 8 and 10 out of 43 G20 and OECD countries do notreport on TEs (Redonda and Neubig, 2018)

It gets worse in emerging and developing countries (AfDB et al., 2017 and WorldBank, 2015).

Only 11 African countries report on TEsSome of the reports are very incomplete (Gabon | VAT) orhave been discontinued (Senegal | 2010-2014)





Case Study: Boosting R&D Through TEs

Effectiveness: Worth pursuing goals (or correlation) 6=causality!

Ex-ante vs ex-post policy evaluations

Efficiency: Governments should not stop at evaluating TEs’effectiveness and assess whether social benefits > social costs(IMF et al. 2015)

For instance, US green tax credits are disproportionallycaptured by higher-income households, e.g. the

provision aimed at electric cars (Borenstein and Davis, 2015)






“R&D creates spillover benefits that are not captured by firms.Hence, governments support R&D by compensating firms throughthe tax system and spending programs to correct such a marketfailure and, thus, provide a socially desirable amount of R&D”

1 Patent Box – preferential tax treatment for income earnedthrough IP

Patent Boxes have been gaining momentum and are costly

Yet, they are ineffective, i.e. they may attract patents butnegligible effect on real R&D

Patent Boxes also have a twofold effect on inequality:

1 Explicit: un-patentable (unsuccessful) R&D projects (Griffithand Miller, 2010)

2 De facto: most of patents owned by a bunch of MNEs andconcentrated in a few sectors (Alstadsaeter et al., 2018)






2 Other R&D tax incentives perform better:

Tax incentives that lower the cost of investment are to bepreferred over profit-based tax incentives (IMF et al., 2015)Using cross–country data, Bloom et al. (2002): a 10% fall inthe cost of R&D (mainly but not only triggered by R&D taxcredits) rises the level of R&D by 1% (roughly 10%) in theshort (long) runUsing US data, Rao (2016): a 10% reduction in the user costof R&D, raises research intensity by roughly 20% in theshort-runUsing cross-country data and variation both across industriesand time, Thomson (2017): The short-run elasticity of R&D is0.5, i.e. reducing the tax price of R&D by 10% induces anadditional 5% R&D investment





What is the GTED?Main Challenges

Online (publicly available and free of charge) database basedon official TE estimates - official TE reports

GTED will be launched together with a companion paper andupdated on a yearly basis (Flagship Report)Annual conference as well as Blog and WP SeriesInitially, only provisions granted by federal (central/national)governments will be covered

Main goals:1 Enhance transparency and accountability – improve TE

reporting2 Expand research (main source of cross-country data on TEs)3 Increase the level of international comparability






1 Benchmark: “TEs are deviations from the benchmark, whichis defined by national tax laws. Thus, TE estimates are notcomparable across countries”

Tax deferrals are usually classified as TEs 6= Argentina andBrazil: only those provisions triggering a permanent loss ofrevenue are TEsCO2 tax reliefs for energy intensive firms are classified as TEs6= if no CO2 tax is in place, no TE is computed

2 TE reports are very heterogeneous across countries3 Many countries report estimates for a reduced group of TEs

US only reports TEs granted through PIT and CITUnder-reporting is a key issue

UK provide estimates for < 50% of the total because of“confidentiality, lack of data, disproportionate estimation cost”






Thank you for your attention

Contact details:

E-mail: [email protected]

Website: www.cepweb.org

Twitter: @aredonda


[email protected]

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