1 Fiscal Space, Fiscal Legitimacy and Development Javier Santiso Director & Chief Development Economist, OECD Development Centre G20 Workshop on Fiscal.

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Fiscal Space, Fiscal Legitimacy and Development

Javier Santiso

Director & Chief Development Economist, OECD Development Centre

G20 Workshop on Fiscal Space for Growth and Social Policy

19-20 June 2008Buenos Aires

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Introduction11

Fiscal Space and GrowthFiscal Space and Growth22

Fiscal Legitimacy and Development Fiscal Legitimacy and Development 33

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The The DevelopmentDevelopment CentreCentre

Bridging OECD and Emerging Economies

Non-OECD members

2008 - 10 members

OECD members

2008 - 23 members

Chile

South Africa

India

Thailand

Egypt

Israel

Brazil

Romania

Vietnam

Colombia

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LEOLEO Latin American Economic Outlook impact

Activities:

•11 seminars organized on topics related to Latin America

•50 presentations at international conferences

•235 press articles published in 18 countries

•17.500 members of LEO’s newsletter

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PartnershipPartnership OECD Centre for Tax Policy & Administration

Mission:

•Providing Technical Expertise to the Committee on Fiscal Affairs by examining all aspects of taxation.

•Covers international and domestic tax issues, direct/indirect taxes, tax policy and tax administration.

•Provide annual comparisons on tax levels and tax structures in member countries.

•Recent work on environmental policy and taxation, taxation and growth.

Enlargement Initiative

Latin American Revenue Statistics Project:

•An initiative to extend the OECD Revenue Statistics methodology to a number of Latin American countries.

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IntroductionIntroduction11

Fiscal Space and GrowthFiscal Space and Growth22

Fiscal Legitimacy and Development Fiscal Legitimacy and Development 33

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GrowthGrowth Understanding Fiscal Space

Fiscal Space

“The capacity of a government to provide financial resources for a desired purpose, subject to the constraint that the fiscal position is sustainable, both over the medium and long-term.”

Heller, P. Introduction to “Fiscal Policy: Fiscal Elements of Growth and Development”. Proceedings of G-20 Workshop. Istanbul, Turkey, July 2007.

“The gap between the current level of expenditure and the maximum level of expenditures a government can undertake without impairing its solvency”

Development Committee of the World bank-IMF Board on Fiscal Policy and Growth, 2006.

The four pillars of Fiscal Space

Source: Fiscal Policy: Fiscal Elements of Growth and Development”. Proceedings of G-20 Workshop. Istanbul, Turkey, July 2007.

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GrowthGrowth Tax structure and channels of growthTaxation

Source: Heady, C. “Tax Policy for Growth.” In Fiscal Policy: Fiscal Elements of Growth and Development”. Proceedings of G-20 Workshop. Istanbul, Turkey, July 2007.

Income taxes and Social Security

Consumption Taxes Taxes on Property and Wealth

Companies

Profits

Households

Specialtax

SSCemployer

SSC employee

Labour income tax

General taxes (e.g. VAT)

Taxes on specific goods and services

Property State tax

Wealth Tax

Capital Income tax

Affected drivers of growth: Employment, Human Capital Formation

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GrowthGrowth Tax structure is a creator of fiscal space

Source: Latin American Revenue Statistics (LARS), 2008. OECD Development Centre, Paris. Based on data from ECLAC and OECD.

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GrowthGrowth Tax Policy and Growth: Implications

•Cutting corporate taxes may promote productivity growth and investment.

Corporate taxes and Investment

Source: Latin American Revenue Statistics, 2008. OECD Development Centre, Paris.

Income taxes

•Reforming top marginal tax schedules may improve incentives: it could also increase inequality.

•Reforming labour/SSC taxes is more important for productivity in labour-intensive economies.

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GrowthGrowth Does the tax structure matter for growth?

Tax “negative effect” of tax on growth declines as you move from :

Corporate income tax Personal income tax Consumption taxes Property tax

Questions :•To what extent do different tax provisions affect investment and productivity?

•Does the industry/firm structure matter for the impact of taxes?

•Is there a trade off among efficiency, equity, and simplicity?

Source: Arnold, J., A. Johansson, C. Heady, B. Brys and L. Vartia. “Tax and Economic Growth”. OECD Centre for Tax Policy Administration /Economics Department Working Paper, 2008

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IntroductionIntroduction11

Fiscal Space and GrowthFiscal Space and Growth22

Fiscal Legitimacy and Development Fiscal Legitimacy and Development 33

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LegitimacyLegitimacy Latin America’s fiscal stance has improved

Source: Latin American Economic Outlook 2009 (forthcoming). Information based on investments banks' publications, 2008

Note: countries analysed are Argentina, Brazil, Chile, Colombia, Ecuador, Mexico, Peru, Uruguay and Venezuela during the period July 1997- February 2008, covering 15 presidential elections before 2006 and 8 presidential elections since 2006 (non overlapping elections).

-0.4

-0.3

-0.2

-0.1

0

0.1

0.2

0.3

0.4

-9 -8 -7 -6 -5 -4 -3 -2 -1 0 1 2 3 4 5 6 7 8 9

Investment banks' recommendations during presidential elections

(Window:-9 months before and +9 months after the election)before 2006 since 2006

Source: OECD Development Centre, Based on Nieto and Santiso (2008).

Note: Difference calculated for each period between primary spending in election-year and average on primary spending of the last three non-election years prior to election.

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Source: Latin American Economic Revenue Statistics, 2008. OECD Development Centre, Paris. Based on ECLAC’s ILPES Database and OECD Revenue Statistics Database.

Tax revenue for selected countries (Central Government, % GDP, 2006)

LegitimacyLegitimacy However, fiscal recipes remain low

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Source: Latin American Economic Outlook 2008. OECD Development Centre, 2007. Based on data by Goñi, López, and Servén (2006).

47 49 50 5156 57

47 48 4946

48 48 4954 52

3537 38

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10

20

30

40

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Per

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Mex

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Bra

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Po

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Inequality before and after taxes and transfers

LegitimacyLegitimacy Fiscal Progressivity is not a matter of DNA

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% of citizens who trusttax revenue is well spent

(2003-05)

Source: “Latin American Economic Outlook 2008”. OECD Development Centre, 2007. Based on Latinobarómetro (2003, 2005) and World Bank Institute, Governance Indicators Database. Based on World Economic Forum, Global Competitiveness Report, 2003-2006.

Firms’ assessment of the neutrality/composition of government

decisions/spending (2003-2006)

Fairer/Wiser

Unfair/ Wasteful

1

2

3

4

Latin America

OECD

Neutrality Composition

LegitimacyLegitimacy Fiscal Legitimacy is low

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LegitimacyLegitimacy More than quantity, is the quality of spending

Education Expenditures and Performance

Mexico

NorwayPolandSlovak Republic

Spain United States

Brazil

Indonesia

Thailand

Tunisia

Uruguay

300

350

400

450

500

550

600

- 5,000 10,000 15,000 20,000 25,000 30,000

Annual expenditure on educational institutions per student (2001) in equivalent US dollars converted using PPPs, by level of education, based on full-time equivalents

Mat

hem

atic

s S

core

(P

ISA

2003

)

Source: OECD Development Centre, 2007. Based on PISA (2003) and OECD Education at a Glance (2005)

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Source: Latin American Economic Outlook, 2008. OECD Development Centre, 2007. Based on ECLAC’s Panorama Social, 2007.

LegitimacyLegitimacy Equity matters: Spending is often regressive

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ConclusionsConclusions Growth, Fiscal Policy and Development

1. Fiscal Space is not one-dimensional.

2. Improving the social contract between citizens (and firms) and the state – fiscal legitimacy – will also broaden fiscal space.

3. Best practices can be identified to promote growth, equity and the quality of public services.

4. Fiscal policy must improve the quality (and the quantity) of revenues and expenditures.

5. Tax administration matters: weak administration limits the ability to:

- raise revenue- achieve a balanced tax structure- engage citizens in a tax-paying democracy

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Thank you!

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