Tuesday, April 01, 2008

The Precarious State of Public Finances

We would like to highlight a new report published in January and entitled "The Precarious State of Public Finance: Tax evasion, capital flight and the misuse of public money in developing countries – and what can be done about it." It was written by Jens Martens of the Global Public Policy Forum/Europe and is an excellent in-depth study which contains much new information and analysis about the importance of taxation. They add that:

We aim to build a bridge between the discourse about development financing on the one hand, and tax justice, corporate taxation and corporate accountability on the other. In the project we aim to examine what measures are necessary to increase tax revenues in countries of the Global South, reduce capital flight, and ensure that public expenditures are used for the right purposes

The report rightly points out that while the focus of so many in the "development" community have focused on increasing aid flows, too little attention has been paid to the (much larger) flows in the other direction. This new paper by Raymond Baker of the Brookings Institution provides more details on the magnitudes of the flows involved, and this January 2008 report from the tax expert David Spencer (a senior adviser to TJN) look at some of the legal issues and identifies ways that the problems might be tackled. As he points out:

The solution to the capital flight problem is to override bank secrecy in tax matters and require automatic exchange of tax-relevant information in the international context. For example, if the investment by an Argentine were not protected by bank secrecy in an OECD or other tax haven financial centre, and if that financial centre would automatically provide the Argentine government with tax information about that person's investment, it would substantially diminish capital flight and the resulting tax evasion. Exchange of information between governments about capital flight was urged by John Maynard Keynes and Harry Dexter White, the principal architects of the IMF, when the Bretton Woods agreement was being drafted in 1944. But this proposal was allegedly opposed by the US financial community which had benefited from capital flight."

The new Jens Martens paper contains information such as this:

According to World Bank estimates, the share of central government revenues to GDP in low-income countries was only 13 % in 2004. In contrast, in high-income countries it was 26.0 %, and in the European Economic and Monetary Union it was even 35.7 % (see Table 2).5 The financial capabilities of Governments in many developing countries are thus not only severely limited in absolute numbers, but also in relation to the GDP – and so are their abilities of providing reasonable quality public goods and services, for example in education and health care.

It also quotes the UN Millennium project as estimating that to attain the MDGs:

In low-income countries, the proportion of public expenditures to gross national income would need to increase by 4 percentage points by the year 2015.

Martens' paper looks at corruption, tax competition, transfer mispricing, capital flight, and much more. One thing that the paper does not investigate in any great detail - and is a fast-emerging area of research - is the importance of taxation in building relationships of accountability between rulers and citizens, as described in this new book, and in this new OECD paper.

Nevertheless, The Precarious State of Public Finance is a most useful addition to the emerging literature on tax and the tax justice agenda.


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