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The importance of public revenue to the underdeveloped countries can hardly be exaggerated if they are to achieve their hopes of accelerated economic progress. Whatever the prevailing ideology or political color of a particular government, it must steadily expand a whole host of non-revenue- yielding services-education, health, communication systems and so on-as a prerequisite for the country's economic and cultural development. These services must be financed out of government revenue. Besides meeting these needs, taxes and other compulsory levies provide the most appropriate instruments for increasing savings for capital formation out of domestic sources. By providing a surplus over recurrent expenditure, they make it possible to devote a higher proportion of resources to building up capital assets.
This is not to say that poor countries could or should finance their development programs entirely by their own effort. The advanced countries with high incomes have an obligation to assist in the process by providing aid, and this obligation has been amply recognized-if not adequately implemented-in recent years. However, foreign aid is likely to be fruitful only when it is a complement to domestic effort, not when it is treated as a substitute for it.
The fact is that in relation to gross national product the tax revenue of the underdeveloped countries is typically much smaller than in the advanced countries. Whereas the "developed" countries collect 25 to 30 percent of their G.N.P. in taxation, the underdeveloped countries typically collect only 8 to 15 percent.
Is this an ineluctable consequence of their poverty? Since taxation can be paid only out of the surplus of income over the minimum subsistence needs of the population, most people believe that the proportion of the national income which a poor country can divert to communal purposes through taxation-without setting up intolerable social tensions-is much smaller than in a rich country. Two considerations show, however, that this is not the whole, or the main, explanation.
In the first place, though underdeveloped countries show enormous diversity in their economic and social set-up, they all-excepting the more primitive countries of Africa or Polynesia-show a degree of inequality in the distribution of income comparable to, if not greater than, that of the "developed" countries of Western Europe or North America. The statistical evidence is sketchy and not very reliable; yet such as there is all tends to show that the degree of concentration in the ownership of property is quite as great in the poor or semi-developed countries of the Middle East, Asia or Latin America as in the countries of advanced capitalism. The share of the national income which accrues to property owners of all kinds is probably appreciably larger in countries like Mexico, Chile, India, Turkey or Persia than in the United States or in Britain.
Hence, while their average income per head is low, the fraction of their national income which accrues to a small minority of individuals is frequently greater than in the rich countries; and a much higher proportion of that income is devoted to personal consumption, and a lower proportion to savings. This is partly a reflection of the failure of their taxation systems, but partly it follows from the fact that-depending on the degree of underdevelopment and the pressure of population on the land-a considerably greater part of wealth comes from the ownership of land, and a smaller proportion from industrial or commercial capital; and the owners of land, unlike the owners of industrial or commercial enterprises, are high spenders, not high savers. In a study which I made of Chile some years ago (one of the countries for which detailed national income statistics are available) I found that the proportion of the G.N.P. which is "taken up" by the consumption of property owners was over 20 percent-probably three times as high a proportion as that of the United States. This shows that the level of the national income per head is not a good indicator of taxable capacity; a poor country may have a high taxation potential if a relatively large part of its resources is nevertheless devoted to unessential or luxury consumption.
The second important consideration is that the incidence of taxation in most underdeveloped countries is regressive-far more regressive (or far less progressive) than that of the developed countries. Indirect taxes, the bulk of which normally falls on articles of mass consumption, make up a much higher share of the total revenue, and far more of the income tax revenue falls on salaries and wages, which is collected by the deduction-at- source method, and often operates with a very low exemption limit.[i] As far as the mass of the people are concerned, the burden of taxation as measured by the percentage of income taken in tax is probably just as large in the low-income countries (at least in the urban sectors) as in the rich countries.
The shortfall in revenue is thus largely a reflection of failure to tax the wealthier sectors of the community effectively. Though progressive income taxes and inheritance taxes exist on paper in most of the underdeveloped or semi-developed countries-sometimes imposed at high nominal rates, mounting to 80 percent or more on the highest incomes-there are few cases in which such taxes are effective in practice. This is evinced by the glaring discrepancy between the amount of incomes of various types-profits, rents, etc.-that can be presumed to exist, judging from national output statistics, and the incomes declared in tax returns or computed on the basis of tax receipts. In the developed countries, the national income estimates based on the "income" and the "output" methods of computation are more easily reconciled, and do not reveal such glaring differences. It is probably not an exaggeration to say that the typical underdeveloped country collects in direct taxation (excluding the taxation of wages and salaries) no more than one-fifth, possibly only one-tenth, of what is due-or rather what would be due if the tax laws themselves did not accord wide legal loopholes through exemptions and omissions of various kinds.
This broad generalization requires, of course, a great deal of qualification when applied to individual countries or regions. There are some countries which have been conspicuously unsuccessful in imposing taxes on the wealthy classes-chiefly, I think, the countries of Latin America-for whom the above picture may even be an understatement. There are others, chiefly the ex-colonies of the British Empire, which have only recently gained independence but inherited relatively high standards of tax administration from their colonial days; for these it may be an exaggeration. Some countries have made notable efforts in recent years to improve both their legislation and their tax administration. In others the situation is deteriorating, owing to the paralyzing effect of corruption, or the steady erosion of ancient taxes; there the weight of direct taxation may be less now than it was 50 or 100 years ago.
Another source of untapped taxable capacity in many underdeveloped countries is to be found on the land. The agricultural or "subsistence" sector, which typically accounts for one-half or more of the national output, virtually escapes taxation at present,[ii] owing to the "erosion" of the ancient land taxes of the countries of the Middle East and Asia. It is true that the peasantry is poor everywhere and its capacity to pay is limited. It is also true, however, that in most places-at least in most of the over-populated regions-only a proportion of the produce accrues to the cultivator, the rest accrues to the owner of the land, or to some intermediary tenant; and as has been known since the time of Ricardo, the incidence of land taxes necessarily falls on the landlord. Despite recent measures of land reform in countries like India, the distribution of land- holdings remains very uneven, with no more than one-half, or possibly two- thirds, of the land in the hands of genuine owner-cultivators.
The land tax is one of the most ancient forms of taxation in both Europe and Asia, and up to the early part of this century it still provided the principal source of revenue in the countries of the Middle East, India and Japan. Since that time, however, political pressures combined with monetary changes have succeeded in virtually eliminating it; the tax continues to be collected in most places but on the basis of completely out-of-date valuations. Its rehabilitation now faces heavy political and administrative obstacles. Traditionally, the land tax was one-tenth of the value of the produce of the land. But its current yield in India is only about 1.5 percent; in Turkey only 0.2 percent. Yet, as the economic history of Japan demonstrates, the taxation of land can be a very potent engine of economic development, though its importance cannot be measured adequately by its money yield. This is because the land tax yields not just revenue but the right kind of revenue; it enlarges the supply of foodstuffs to urban areas, and thus the amount of employment that can be offered outside agriculture without creating inflation. It also promotes agricultural efficiency. It encourages the more efficient use of the land as well as the transfer of ownership from relatively inefficient to efficient cultivators.
It is possible, moreover, to "streamline" this tax in accordance with more modern notions of equity by making it a progressive tax, graduated according to the total value of the land held by an individual and his family, so that the burden is concentrated on the large landowners. A scheme recently proposed in Turkey by the State Planning Organization would have exempted holdings of less than 2 hectares altogether, while larger holdings would have borne a graduated charge rising from 5 percent on holdings of less than 10 hectares to 15 percent on holdings of 50 hectares or more. Since the top 1.5 percent of agricultural families own more than 21 percent of the land (and a further 14 percent of families another 31 percent), this scheme would have made it possible to collect the revenue needed for the new five-year development plan by a levy which, without being exorbitant, would have avoided the anti-social features of the old land tax. However, the Cabinet, which approved the development plan, has refused to sanction the scheme for financing it, and recently it was reported that all the top officials of the Planning Organization have resigned in protest. In countries where a powerful landowning class exists the prospects for effective land taxation do not appear more promising than the prospects for land reform.
When countries pass to a higher stage of development, as the more advanced regions of Latin America have done, industrial and commercial wealth (which is less tangible) assumes increasing importance. The taxation of that wealth raises more complicated problems, while any genuine measure of reform designed to tap it meets with the same kind of political resistance.
The effective administration of income tax on individuals or corporations requires a carefully-thought-out legal code and a corps of capable and honest administrators. It is often argued that these taxes are really too difficult for the less developed countries to cope with, and it would be better if they concentrated on simpler forms of taxation. But the fact is that there is no suitable alternative. A graduated system of commodity taxation can never succeed in mitigating growing economic inequalities (and the political and social tensions which are associated with this process), or in reducing the resources devoted to socially unnecessary luxury consumption, in the same manner as progressive taxes on income and wealth. The same commodities are bought by people of very different means-the richer people buying more kinds of goods and services, and not just more luxurious goods; and many of the things on which wealthy individuals spend money cannot be effectively taxed-for example, domestic service, foreign travel, antiques and so on.
It is also argued that the progressive taxation of industrial and commercial wealth, unlike that of landed wealth, slows down the rate of development by reducing both the means and the incentives to accumulation. In the United States or in Britain, the argument runs, progressive taxation was imposed only after the process of industrialization was largely completed-not in the middle of the industrial revolution. It does not follow, however, that if the system of progressive taxation had been imposed earlier the course of economic development would have been very different. It is true that profits have always been the main source of industrial and commercial capital accumulation. But experience has shown that taxes on profits affect consumption out of profits far more than business savings. The reason for this is that for a successful businessman or corporation (in developed or undeveloped countries alike) the requirements of business expansion take precedence over the desire for higher consumption; the money that the owners take out of a business is generally no more than what is left after the business' own needs are satisfied. Otherwise it would be difficult to explain why fast-growing businesses should invariably plough back so much more of their profits than slow-growing businesses, or why the proportion of profits distributed as dividends should be so much less in countries where the taxation of profits is high than where it is low.
If the effects of increased public spending are taken into account, and not only the reduction in private spending, and if public money is wisely spent (admittedly this is not something that can be taken for granted), it is difficult to maintain that the reduction in inequality through progressive taxation puts a brake on economic development. It may do the very opposite. For in countries where luxury spending is not effectively curbed, the pattern of investment gets distorted. Too much of the capital accumulation is taken up by the expansion of industries and services which mainly cater to the rich. This kind of "growth" merely serves to make the rich even richer; it does not improve the standard of living of the masses of the population.
There are basic differences in the way capitalism developed in North America and the way it is now developing in the countries of Latin America. They cannot be explained merely by the differences in fiscal systems. Long before progressive taxation was invented, a whole set of attitudes and circumstances forced American business to concentrate on developing products for the mass market; the Woolworths and the Fords made their fortunes by providing goods within the reach of the many and not for the better satisfaction of the few. In Latin America development takes a different course. I know of no Latin American millionaire who made his fortune in the five-and-ten business. But vast fortunes were made in providing luxuries for a class whose members prospered largely by catering to each other. Whatever the true cause of such differences, it becomes vastly more important to apply progressive taxation, as a deliberate corrective to spontaneous economic forces which produce steadily growing inequality.
Nor would it be correct to say that an effective system of progressive taxation cannot work because of the lack of administrative competence or honesty of officials, or the lack of a sense of social obligation of taxpayers. It is true that in most underdeveloped countries-though conditions vary a good deal-revenue officials are grossly underpaid, revenue departments are frequently understaffed, and are short of men of ability and training. Straightforward corruption must be widespread. However, it is impossible to find out how much of the shortfall in revenue is due to this, as against sheer inefficiency or incompetence, or a laxity in the enforcement of the law which is tolerated, if not inspired, in higher quarters.
But the experience of many countries which suffered from much the same evils in the past shows that corruption and inefficiency can be eradicated if sufficient attention is given to the creation of corps of permanent officials[iii] whose pay, status and prospects of promotion are high enough to attract the best talent, and also high enough to establish the professional standards and etiquette associated with a public service that enjoys a privileged social status. The example of the Chinese Maritime Customs has shown what the creation of a well-paid body of permanent officials could accomplish, even in a country where corruption was as deeply ingrained as it was in Imperial China. Of course no underdeveloped country has the manpower resources or the money to create a high-grade civil service overnight. But it is not sufficiently recognized that the revenue service is the "point of entry"; if they concentrated on this, they would secure the means for the rest.
It is true that the prevailing systems of income taxation in the United States, Britain or Canada rely heavily on the voluntary compliance of the taxpayer; for important categories of income the revenue authorities mainly depend on the taxpayers themselves to supply information, the accuracy and completeness of which is not automatically or systematically checked. But there is no technical necessity for this. One could conceive of a system in which transactions in capital assets and income payments of all kinds are systematically reported, in the same way as wage and salary payments are now reported. With the aid of modern business machines it would be possible to keep a record of the ownership of all property-land and houses and stocks and shares-and to keep a running check on changes in the personal balance sheet of all wealthy individuals. Each taxpayer could be asked to give a statement of his net worth each year, and not only of his income, and the return on this wealth could be independently checked if all property were registered and all changes in property registration were automatically reported in the name and the tax-code number of the beneficial owner. Tax administrators know that the discovery of changes in an individual's net worth over a period is the most effective method of bringing to light concealment of income. In advanced countries such investigations are made sporadically as a spot-check on returns or in cases where fraud is suspected; there is no reason why they should not be made systematically in countries where taxpayers are less honest or compliant.
It would be wrong to assume, therefore, that there are insuperable technical obstacles to the introduction of any effective system of progressive taxation. It is not beyond the wit of man to devise laws and administrative procedures which would oblige even the most recalcitrant (or cunning) Latin American or Middle East millionaire to surrender a reasonable share of his income or wealth to the state in taxation. But that is not to say that in the countries where such reforms are most needed they have much chance of acceptance. The secrecy and anonymity of property is regarded as sacred and is safeguarded by the system of "bearer" shares which effectively hides the identity of the shareholders of companies and which enables even the ownership of real property to be concealed through holding companies. Any suggestion that ownership should be disclosed and regularly reported to the government-as is done, for example, in the Scandinavian countries-would be unthinkable.[iv] No doubt secrecy of property ownership is a far more valuable safeguard in countries which are politically unstable than in the settled democracies of Western Europe or North America. But political instability is itself a consequence of economic and social conditions which result from the unbridled greed of an oligarchical ruling class.
To the detached observer, fiscal reform undoubtedly appears as the most appropriate instrument for transforming the feudal or quasi-feudal régimes which inhibit the healthy evolution of so many of the underdeveloped countries and prevent them from following the path toward the kind of mass- prosperity civilization which has evolved in Western Europe and North America. But the advocacy of fiscal reform is not some magic potion that is capable of altering the balance of political power by stealth. No doubt, expert advice on tax reform can be very useful in making men of good will- ministers or officials-conscious of the precise nature of the legislative and administrative changes that are required. But what can actually be accomplished does not depend merely on the individual good will of ministers or on the correct intellectual appreciation of the technical problems involved. It is predominantly a matter of political power.
In a successfully functioning democracy the balance of political power is itself a reflection of a continuous social compromise between the conflicting interests of particular groups and classes, which shift automatically in response to varying pressures. But experience has shown that in underdeveloped countries with a predominantly ignorant and illiterate electorate parliamentary institutions do not, in general, work in this way. Periodic elections and multi-party systems are not instrumental in securing continuous or peaceful social adjustment. Power remains in the hands of certain dominant groups, irrespective of whether one party or another is in office or whether there is an elected government or a dictatorship of some kind. The history of the last ten years produced plenty of examples-in Asia or in Latin America-of dictatorships replacing parliamentary systems, or vice versa, without significantly altering the underlying balance of power in society.
In many areas of the Middle East and of Latin America revolutionary pressure continues to build up, as a result of blind opposition to overdue social reforms. Ostensibly it is motivated by fear of Communism: in reality it serves to bring Communism nearer. The problem which has to be solved and to which no one has yet found a satisfactory answer is how to bring about that change in the balance of power which is needed to avert revolutions without having a revolution. Can it be brought about by outside pressure-by making internal social and economic reforms the quid pro quo for external aid, as in the Alliance for Progress? Or can it be brought about by some organized attempt at the political re-education of backward ruling classes- a kind of Westernized version of Chinese brainwashing? History does provide cases-nineteenth-century England is an obvious one-of a ruling class voluntarily relinquishing privileges for the sake of social stability. It did so in an instinctive appreciation of its long-run interests. But when ruling classes evince no signs of such instinct, can they be made to acquire it?
[i] In Turkey, for example, the exemption limit for income tax is around $100 a year for a single person.
[ii] This is not meant to apply, of course, to plantation agriculture or to the production of cash crops for export by native farmers who may be heavily taxed through export levies or through the price policy of a marketing board.
[iii] In many Latin American countries the top-ranking officials of the tax administration-including district commissioners or even their deputies-are not permanent civil servants at all, but are appointed on the spoils system, changing with each administration.
[iv] In Turkey, one of the achievements of the military dictatorship that followed the Menderes régime was to introduce a measure for a single compulsory declaration of personal wealth. But Parliament insisted that these declarations should be deposited in sealed envelopes with public notaries and should not be opened for at least two years. There is now strong pressure in Parliament for a further provision to the effect that after two years have elapsed, the envelopes should be returned unopened to the taxpayers. In Mexico when it was suggested that some similar provision would be needed for the proper enforcement of inheritance taxes, the Congress responded by abolishing the inheritance tax altogether.