The IMF issued a report on Japan’s economic position on 31 July 2017 following the conclusion of discussions under Article IV of the IMF’s articles of association.
The report notes that Japan’s economy is growing above potential with positive private consumption growth and stronger private investment. There are however labor shortages, weak wage growth and persistently low inflation. The IMF expects the growth to continue through 2017 but to fall back in 2018 if the fiscal stimulus support decreases as currently planned.
The IMF directors consider that the current favorable environment provides an opportunity to go ahead with a comprehensive reform package to sustain growth, raise inflation and deal with the medium term challenges including fiscal consolidation and increasing potential growth.
A selected issues paper published at the same time as the report looks at tax policy challenges of an aging and declining population. This notes that the consumption tax should remain the main part of revenue reform but that the timing of rate increases is important. Other potential tax measures should also be examined.
The consumption tax is an important policy owing to the size of the public debt and the need for more health and social security spending for the ageing population. Although expenditure reform is also required Japan will need additional revenue. The consumption tax rate is currently low relative to other industrialized countries and there is therefore room for raising the tax rate. Also the efficiency of collection of the consumption tax is high so more revenue can be raised with low collection costs. Raising the consumption tax rate is likely to be less detrimental to economic growth than other tax options. A gradual increase each year would reduce any volatility of the impact on growth. The IMF is therefore proposing gradual increases to the consumption tax as part of a broader fiscal adjustment package.
Other potential tax measures
Other taxes such as a tighter personal income tax, property tax, inheritance tax or asset and wealth tax could also be examined to supplement the revenue gains that can be earned from the consumption tax increase.
Personal income tax
Tightening the personal income tax would contribute to revenue growth. The top rate of personal income tax is currently one of the highest in the OECD but reforms could focus on addressing inequality and eliminating disincentives to work. The low collection level of the tax indicates that there are a large number of deductions and these enable the higher earners to obtain benefits. The deductions could be replaced with more progressive measures such as targeted tax credits.
This could be linked to other reforms such as eliminating disincentives to full-time or regular work resulting from the operation of the spousal tax deduction. Exemptions for pension income could be reduced and targeted tax credits for elderly workers could increase incentives for them to remain in the labor market.
In Japan only 30% of local tax revenue is raised from recurrent property tax, compared with 100% in the UK and Australia, 90% in Canada and 75% in the US. Raising property taxes would provide a more stable revenue base for local governments and reduce the level of transfers from the center. This could encourage growth and raise revenue as property tax is the most efficient tax.
Asset or wealth tax
Only a few countries currently use wealth taxes and one important motivation for them has been as a temporary measure in a broader fiscal consolidation. Countries that scrapped their wealth taxes cited high administrative costs compared to revenue collected and problems of capital flight as reasons for its discontinuance. Generally a wealth tax is best structured with very few exemptions, a high threshold of liability and a flat marginal rate set at a low level.
On 5 June 2017 the IMF issued a report following the completion of discussions with Vietnam under Article IV of the IMF’s articles of agreement.
The report notes that Vietnam’s economy has been performing well with growth of 6.2% in 2016 and projected growth of 6.3% in 2017, moderating to around 5% in the medium term. The momentum for growth remains strong despite weakness in the oil sector and there has been strong manufacturing activity and foreign direct investment as well as robust domestic demand.
The government is developing a wide reform agenda. Fiscal consolidation is required owing to rising public debt. Bank reforms are progressing but the problem of non-performing loans needs to be resolved. Progress has also been made on the framework for the reform of state owned enterprises although implementation has been slow. The reforms aim to promote sustainable growth led by the private sector.
Downside risks to the economy include high public debt, slow resolution of the problem of non-performing loans, rising protectionism globally and the failure of the Trans Pacific Partnership. However the successful implementation of the reform agenda could increase the potential for economic growth. Implementation of the trade agreement with the European Union and other bilateral agreements could increase the level of exports and foreign direct investment.
In their report the IMF emphasized the importance of measures to enhance revenue such as unifying the VAT rates, increasing the level of excise and environmental protection taxes, and introducing a property tax. The IMF also encouraged Vietnam to reduce tax exemptions and incentives and to strengthen the tax administration.
The IMF directors welcomed the ongoing structural reforms and noted that reform of institutions is necessary to increase potential growth. They emphasized that higher environmental taxes and better pricing of externalities in the energy sector could encourage a more environmentally friendly and resilient economy.
On 12 July 2017 the IMF Deputy Managing Director Mitsuhiro Furusawa, speaking in Indonesia, commented on the importance of international tax developments for economic growth in Asia. He stressed the importance of revenue mobilization and international tax reform for achieving stronger, more inclusive growth, noting that the Asian region confronts various issues in its pursuit of continued growth including the issue of domestic revenue mobilization.
He noted that the World Economic Outlook published in April increased the forecast for global growth to 3.5% in 2017 and 3.6% in 2018, an increase from the 3.1% growth in 2016. The outlook for growth in Asia is the strongest in the world and Asia has been the most important contributor to global growth for several years. Investment in infrastructure and public services is supporting growth across Southeast Asia, and growth in the Asian region as a whole is expected to reach 5.5% in 2017.
Challenges facing Asia include uncertainty about the economic policy direction in some of the world’s advanced economies and the risk of inward-looking policies that could affect regions that have benefited from global economic integration. Market volatility could result from changing monetary conditions and from any unexpected developments in China’s economic rebalancing.
Longer-term challenges include the trillions of dollars in infrastructure investment that will be required if Asian countries are to achieve the status of advanced economies. There are also challenges resulting from demographic change and the increased healthcare and pension spending required by rapidly aging populations. The requirement to sustain inclusive growth when faced by lower commodity prices will require further economic diversification.
Domestic revenue mobilization is therefore very important. Increased revenue and public spending are important for economic growth. Tax revenues are relatively low in Asia and this could be a problem for continued growth. IMF analysis suggests that there is a minimum tax-to-GDP ratio of around 15% required to produce a real increase in growth and development. On average, most countries in the Asian region consistently fall below a ratio of 15 percent.
Strengthening revenue mobilization to collect an adequate amount of tax will require a wide range of policy and administrative measures. This could include making the value-added tax more effective and developing property taxation.
Current international tax issues facing Asia include corporate tax competition, cross-border tax issues, legal tax avoidance and illegal tax evasion. Competition for foreign direct investment could lead to a race to the bottom with countries competing for investors. There has been insufficient coordination among Asian governments on the issue.
The expansion of economic integration among the ASEAN countries with the development of the ASEAN economic area led to aggressive tax planning by multinational and regional companies. There has also been aggressive competition among countries of the region through the grant of tax exemptions and incentives.
Internationally increasing attention has been paid to corporate tax avoidance through complex tax planning. Measures taken by the international community include the adoption of automatic exchange of tax information as the international standard and the G20/OECD project on base erosion and profit shifting (BEPS). However BEPS does not address some of the international tax issues that are relevant for developing countries, for example the indirect transfer of assets (e.g. by sale of shares in companies holding assets). BEPS also does not resolve the problems arising from tax competition between countries.
The IMF is working with developing countries to develop ways to combat artificial profit shifting of profits and the transfer of assets to low-tax locations. It is also working to restrict damaging tax competition. The IMF is working on the issue of indirect transfers of assets and is cooperating with the OECD, World Bank, and United Nations through the Platform for Collaboration on Tax.
There is a very fine balance between establishing a tax system attractive to investment and protecting against damaging tax competition. Governments need to cooperate on a regional basis to resolve the issue of damaging tax competition. This work can reinforce domestic measures to protect tax the tax base and reduce spillovers from tax competition.
The IMF issued a press release on 11 November 2016 commenting on Egypt’s reform program following the approval of an extended fund facility (EFF) for Egypt.
Egypt has developed a program of structural reform supported by the EFF to boost growth and create employment while protecting vulnerable parts of society. The program aims to restore macroeconomic stability and support inclusive growth. Policies will be introduced to restore competitiveness, reduce the budget deficit and public debt, increase economic growth and boost employment.
As part of reducing the fiscal deficit and bringing down public debt key policy measures include the introduction of a value added tax (VAT) in addition to the reduction of subsidies and rationalizing the public sector wage bill. Tax revenues are projected to increase by 2.5% during the progam, mainly due to the implementation of the VAT which was approved by parliament in August.
The program aims to create an environment that facilitates private sector development. Measures are to include streamlined industrial licensing for businesses; greater access to finance for small and medium enterprises; and new procedures relating to insolvency and bankruptcy. Measures will also be introduced to encourage training schemes for youth and to increase the participation by women in the labor force.
On 23 September 2016 the IMF issued a concluding statement following a staff visit to Greece for consultations under Article IV of the IMF’s articles of agreement.
Greece has reduced its fiscal primary and current account deficits to around zero over the past six years. The fiscal adjustment was originally based on important reforms but has increasingly relied on one-off and ad hoc adjustments that cannot be sustained. Society has borne a high cost, with output down by 25% and still stagnating and unemployment and poverty rates much higher than before the crisis. Growth prospects remain weak and subject to high downside risks.
The IMF considers that deeper reforms must be undertaken in key areas to increase the resilience of the economy. Greece must address the vulnerability of public finances resulting from high pension spending financed by high tax rates on narrow bases. In addition to this Greece must address impaired bank and private sector balance sheets; structural obstacles to investment and growth; and the public debt burden.
A fiscally neutral rebalancing of policy in the medium term towards lower pensions and a fairer distribution of the tax burden are essential for maintenance of adequate services and social assistance to vulnerable groups and for creating conditions for investment and growth.
The income tax reform has harmonized tax rates and the value added tax (VAT) reform has simplified the VAT system. The reforms have however relied on increasing tax rates and this creates disincentives to work in the formal economy. The reform has not changed the tax credit which permits more than half of all wage earners to be exempt from income taxes. The IMF considers that Greece should reduce tax and social security contribution rates while also lowering the income tax credit and removing remaining exemptions that benefit higher income groups. This could ensure the tax burden is distributed more equitably.
The IMF considers that Greece should send a signal that it can no longer tolerate tax evasion. The high tax rates have led to the introduction of a proliferation of installment and deferral schemes but the failure to enforce them has suggested that they are in effect schemes for tax forgiveness. As a result there is accelerating tax and social security debt of around 70% of GDP. Around half of all taxpayers owe money on tax and social security.
Tax collection rates have fallen from a low level of 75% in 2010 to an even lower level of less than 50% currently. The problem is made worse by tax evasion by high income groups and the self-employed combined with ineffective tax administration. The IMF therefore considers that Greece should not adopt any further installment schemes but should put in place restructuring solutions for debtors in line with their capacity to pay.
Tax audits should concentrate on large taxpayers and high net wealth individuals. The use of enforcement tools against those who can but do not pay should be strengthened. Also the recently legislated independent revenue agency should be insulated from political interference.
On 23 September 2016 the IMF issued a press release following the conclusion of a staff visit to Sri Lanka to discuss the progress of the economic reform program.
Sri Lanka’s economic performance in the first half of 2016 shows an improved balance of payments. Economic growth has been reduced mainly owing to the impact of floods and the effect of slightly higher inflation. The IMF considers that the tighter fiscal and monetary policy has improved market confidence.
The IMF takes the view that aspects of the economic reform program relating to implementation of the tax reform package must be quickly addressed. This includes carrying out the value added tax (VAT) changes to support revenue targets for the years 2016 and 2017. The budget for 2017 requires the support of a high quality tax policy strategy so the currently low tax to revenue ratio can be increased.
If Sri Lanka begins the process of legislation to introduce a new Inland Revenue Act this can lead to a rebalancing of the tax system and a more efficient tax structure. This could raise the tax revenue resources that are necessary for the country’s social and development objectives.
The IMF also considers that Sri Lanka should make further efforts to achieve greater integration into regional and global supply chains; higher levels of foreign direct investment and more prospects for private sector investment. Growth potential will also be supported by greater competitiveness to increase trade and private sector development.