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Economics of hand-to-mouth

The fiscal hurdle to develop, deliver and maintain public goods is always a mammoth task for the National Treasury.

Jealous Chishamba

The main challenge is how to meet public spending needs and develop infrastructure by raising revenue in a way that is economically sustainable without seeking developmental aid.

This requires disciplined spending and a robust revenue collection system which is insulated from leakages.

However, this is a difficult puzzle in developing and emerging markets given the lack of economic diversification, a narrow tax base, slow growth in automation and increased informalisation.

For Zimbabwe, it has become common rhetoric that expenditure exceeds revenue and this is unlikely to be reversed at least in the short-term given the lack of substantial budgetary support in terms of long-term funding. In comparison to other forms of macro revenue, tax contributes significantly to fiscal revenue.

The continued under-production across major economic sectors has resulted in expenditure exceeding revenue collection with further recourse being sought from the domestic financial sector to support meagre resources. In 2017, the government projects revenue collections of US$3,7 billion and expenditures of US$4,1 billion (28,1% of GDP) resulting in a financing gap of about US$400 million, which is 2,7% of GDP. In an optimistic view, this would be an improvement from the 2016 unsustainable financing gap of approximately US$1,18 billion outturn, given that it was initially projected at US$150 million. Despite setting tighter budget deficit targets, the financing gap has been consistently widening due to recurrent expenditure increased by civil service salaries. For example, of the total 2017 National Budget of US$4,1 billion, employment costs will take up US$3 billion, leaving only US$400 million for current operations, and US$180 million for debt service, out of the overall proposal for recurrent expenditures of US$3,58 billion. The wage bill spending has negatively impacted the fiscal balance and the composition of expenditures. This is a wholly hand-to-mouth scenario reflecting short-termism which is unsustainable given more compelling needs to address public infrastructure bottlenecks.

According to the International Monetary Fund (IMF), if not effectively integrated into budget planning, high or increasing wage bills can undermine fiscal planning. In addition, raising wages coupled with increased hiring in a recessionary mode hinders the stabilising role of fiscal policy and increases public debt as compensation increases are often hard to reverse. Such high compensation spending can also crowd out priority spending on public infrastructure and social protection, crucial for economic growth and poverty reduction. On average, spending on the government wage bill varies between 10% of GDP in advanced economies to 7,5% of GDP in low-income developing countries (LIDCs), with emerging market economies lying in between. However, the wage bill as a share of total government spending is higher at 27% in emerging markets and LIDCs compared to 24% in advanced economies. Back home, the wage bill fluctuates between 80% — 90 % of government spending.

When an economy is in hand-to-mouth mode, there is significant risk of impulsive decisions like impromptu taxes or tariffs which may ultimately harm credibility of policy intervention measures.

For example, in the first quarter of 2017, there have been motions to increase taxes through various modes but unfortunately they have suffered a stillbirth and have been discontinued. Firstly, the proposed introduction of 15% value added tax on meat and cereals where the increased cost was obviously going to be passed to the end consumer.

However, Treasury shelved its implementation following stakeholders’ representations which did not support this move. In another debacle, the tax authorities made a surprise announcement that Tobacco Industry and Marketing Board must deduct 10% withholding tax on tobacco farmers without tax clearance certificates. This was put on hold following the agitation by farmers’ association who were justified on the basis they had not been consulted or had not even included this in their cost planning. In addition, the farmers would have been assured that the crop is being sold at a loss. Although the quest and call to increase revenue is applauded, milking the cow without first feeding it will only add a little drop in the pail.

Otherwise, the fiscal risk is that it may actually prove to be the last drop in that pail.

The policy reversals only demonstrate that the belief that some quarters seem to hold that developing countries can increase their tax revenue simply through vigorous or aggressive collection efforts is particularly naive and in some instances quite retrogressive. There is more required to improve the country’s revenue collection efforts than simply exhort the current taxpayers. According to a combined presentation to G20 finance ministers in July 2016 by the IMF, Organisation for Economic Co-operation and Development (OECD), United Nations and the World Bank, these organisations contend that strong revenue performance is a core ultimate objective, but a single-minded and strict pursuit of short-term revenue can be deeply counterproductive. In this submission, they cited the common sources of bad practices which include the denial of VAT refunds, the harassment of taxpayers or offering tax amnesties that undermine the credibility of the wider tax system.

According to the aforesaid think-tanks, this damages economic activity and feeds a vicious cycle of mistrust between taxpayer and tax authorities.

Whereas the hymn sheet to increase taxes has been quite common given the constrained revenue base, high taxes not only discourage and distort economic activity but are also largely ineffective in redistributing income and wealth. It is worth noting that the impact of taxes is twofold in that it may either encourage the economy as it can be used to shape and direct economic growth into particular channels in a variety of ways. Conversely, it may discourage the economy by promoting the informalisation of the economy. Conventional economic wisdom recommends that any tax system must facilitate growth and reduce the cost of operating in the formal sector.

Currently, the shrinking of the formal economy through company closures has resulted in increased informality of the economy which presents challenges for domestic resource mobilisation.

The rising informality has weakened the overall competitiveness of the economy because a number of informal enterprises are stuck in a low productivity trap with some of them not contributing anything to the country’s fiscal revenue. In view of the foregoing, there is need to strengthen interventions to stimulate production across the various sectors beginning with the formal sector. In addition, every effort should be made to tax the informal sector which is sometimes referred to as the shadow economy.

Emerging fiscal pressures in many countries require a renewed focus on the efficiency of government spending, including wage bill spending. Reaping revenues from tax collections requires effective and better tax administration. In the letter and spirit of the 2017 National Budget, there is need to walk the talk to rationalise expenditures to build sustainable financing capacity while at the same time implementing structural measures to enhance production across various sectors in order to grow revenues.

Given a subdued and deteriorating base, the sustainability of hand-to-mouth economics tends to be short–lived, considering that the revenue base is significantly low and undiversified.

There is need to provide incentives in formalising businesses and the country’s technological readiness has a significant effect to compel the shadow economy to pay for their consumption of public goods through paying taxes.

As a policy recommendation, a pragmatic approach in streamlining expenditure and continued engagement with international financial institutions to support the budget is required.

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