The Politics of 'Borrowed Growth'

This has been the inescapable consequence of rule by an oligarchic elite that has been unwilling to mobilise resources, preferring ‘pain-free’ ways of managing public finances.

The successive civilian and military governments have lived beyond their means. They are a privilegentsia that is averse eroding its position or corporate interests.

This has contributed to perpetual financial crises with every government in the past two decades where the economy is in a much worse shape for its successor.

Bad Tax Culture

Tax as a percentage of GDP has remained static over decades even though the country’s overall output has steadily increased.

The tax-GDP ratio has hovered around 11% in the 1990s, but fell to 9% during the Musharraf era. it continues to decline making it the lowest in the region and in the developing world.

The number of income taxpayers rose from an abysmal 250,000 in 1995 to 1,000,000 in 2000.

By 2010 this had gone up to 2.5 million. But almost 70% of this is made up of ‘withholding’ and presumptive taxes, many of which are a tax on transactions not income.

Less than 1% of the population pays direct tax, a lower proportion than in most countries at a similar stage of development.

These figures signify the absence of a tax culture.

They point to a fiscally irresponsible governing elite that has consistently failed to make a serious effort to generate taxes.

The most spectacular example of this is the absence of a tax on agricultural income. Agriculture accounts for 22% of GDP but yields only 1% of revenue.

This has been mirrored in urban Pakistan as the exemption from general sales tax by the textile industry and other sectors that contribute to exports (until changes announced in November 2010).

• Such industries also receive state subsidies in different guises.

A task force set up to reform the tax system in 2001 found that 50% of taxes that are due never reach the treasury, an example of how the rich thwart the law.

The IMF estimates that about $3 billion raised in taxes never make it to the exchequer because of the corrupt collusion between tax collectors and influential taxpayers.

The ramshackle tax system is narrow and skewed, imposing a greater burden on those least able to bear it.

Indirect taxes yield more than double the revenue raised from direct ones.

General sales tax accounts for over 54% of all indirect taxation.

As currently executed this is a regressive measure as the rich and poor have to pay the same amount.

The service sector:

• has expanded dramatically in the last two decades
• contributes to 54% of the GDP
• is undertaxed
• has a significantly higher rate of evasion.

Noncompliance is widespread.

Out of an estimated 1 million retail outlets, only 160,000 are registered for the general sales tax.

Under intense donor pressure, efforts to expand this were hesitantly announced in November 2010.

Several new economic sectors, such as information technology, remain outside the tax net. Property tax collections are minimal.

This lets the urban properties off the hook. A modest Rs. 2.5 billion is collected in tax from real estate in the country’s most populous province, Punjab.

A provincial judge overturned the increase in property tax attempted in the 1990s because he did not want the rise in his own property tax at Rs. 30 a day for the provision of all municipal services including the maintenance of a road in front of his home.

Efforts at tax reform were poorly enforced throughout:

• the 1990s
• much of the Musharraf years

These governments did not make any sustained effort to document the vast underground economy.

If GDP in 2009 was $170 billion, the real but undocumented economy was estimated to be twice that.

This places 60% of the economy beyond the tax net according to some estimates.

Successive governments since the 1980s ran up huge deficits in national expenditure and on the external account due to:

• the inability to raise resources
• low levels of savings and investment

These twin deficits were:

• budget
• balance of payments

These were financed by:

• printing more currency notes
• the inflow of funds from abroad including remittances from overseas workers.