Academic journal article The Lahore Journal of Economics

Why Is It So Difficult to Implement a GST in Pakistan?

Academic journal article The Lahore Journal of Economics

Why Is It So Difficult to Implement a GST in Pakistan?

Article excerpt

Abstract

This paper discusses the efforts by the Government of Pakistan to implement a General Sales Tax (GST). First, a history of Pakistani tax reform efforts is presented along with the reforms recommended by the National Taxation Reforms Commission. After this, the design and implementation of the GST is discussed followed by an analysis of the political economy and provincial issues that arise in the process of implementing the GST. Finally, the paper discusses various proposals regarding the determination of the base for the GST. The paper concludes that the splitting of the GST by sectors, given the perspective that the 1930's style sales tax, is not sensible, and the Pakistani formulation is more unstable than the assignment of the GST on goods.

Keywords: Tax, reforms, GST, Pakistan.

JEL Classification: H29.

(ProQuest: ... denotes formulae omitted.)

I. Antecedents: Efforts to Reform the Tax System since the 1980s

Since the late 1970s, Pakistan has received more advice on tax reforms from academics and international agencies than most developing countries. Indeed, an International Monetary Fund (IMF) technical assistance mission led by Vito Tanzi in the late 1970s was the first to broach the issue of value-added tax (VAT). This was seen as a mechanism to remove the distortions in a cascading system of taxes, and provide a basis for moving the tax/gross domestic product (GDP) ratio from under 14 percent (the average for developing countries in the 1980s; see Tanzi, 1987) to around 20 percent to meet spending needs to maintain an adequate level of investment and more effective public services. The analytics were refined by Ahmad and Stern (University of Warwick/LSE research project in the 1980s, and applying the insights of the optimal tax literature and the theory of reform-see in particular Ahmad and Stern, 1991)-with a general sales tax (GST) featuring as the main innovation to address efficiency and incentive effects while also addressing distributional concerns. This should have been supplemented by a strengthened income tax with a reformed land tax assigned to the local levels of government.

A GST was legislated by the political government in 1990, and implemented by governments of both parties throughout the decade-under IMF programs, with considerable technical assistance provided by IMF technical teams. A major effort to revamp the tax administration was also launched in 1999, and supported by the World Bank with a major loan, with yet another multi-year tax policy program supported by Georgia State University (see Martinez-Vasquez and Richter, 2008). Yet, at the end of the last decade of tax reforms, the tax/GDP ratio was reeling at under 9 percent. By most counts, this effort would be deemed to have been a failure.

It is essential to understand the causes for the failure of the tax reforms in evaluating what needs to be done in going forward. We ask whether the policy prescriptions, particularly with respect to the GST, were sound, and if so, what other reasons might explain the outcome. In particular, we focus on the incentives facing successive governments with periodic inflows of foreign assistance and capital (especially in the 1980s and then again after 9/11), the role of special interest groups-in particular a rentseeking bureaucracy-as well as the role of informality, and more recently the constraints faced within the context of a weakened center and resurgent provinces keen to score points in maximizing access to resources. Each one of these issues was raised in Ahmad and Stern (1991), yet the extent of the constraints involved was perhaps not fully appreciated at the time.

II. Effective taxes and the reform of the sales tax, excises and customs duties

The National Taxation Reforms Commission established in 1985 described the Pakistan tax system:

"as stated in our letter dated May 15, 1986 transmitting our interim report, the three basic maladies from which Pakistan is suffering at present are tax evasion, smuggling and corruption. …

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