Pakistan’s mountain of domestic debt of 38.8 trillion rupees and external debt of 24.1 trillion rupees is a “boiled frog” phenomenon for the economy, as higher deficits and high debt servicing costs are unsustainable.
A boiling frog situation is one in which people fail to act on a potential problem that grows over time, causing it to become more serious until it finally blows over.
A frog thrown into boiling water may be thrown out, but if the water comes to a slow boil, it is too late to notice that it has been cooked. The age-old metaphor could easily be applied to Pakistan’s debt situation.
Net interest payments on the debt already exceed the government’s total tax revenue, a recipe for a “disorderly” default and then an economic collapse.
Governments have two ways to generate revenue – taxation and borrowing. Every year, Pakistan consistently fails to collect taxes and unfortunately has excelled in its ability to borrow endlessly, thus falling into an endless debt trap.
Persistent fiscal imbalances lead to non-existent fiscal space for state-building, further pushing the state down trajectories of weakness. State building and fiscal capacity can only occur if the focus is on revenue generation through effective tax collection over borrowing.
An inefficient tax policy and inefficient tax bureaucracy have kept Pakistan’s tax-to-GDP ratio around 9% in recent decades. Pakistan needs to increase revenue collection at all levels to improve the ratio to 20-25%.
Myopic governments hungry for revenue avoided tax reforms and embraced reckless borrowing, bringing the economy to its knees.
The focus of the state should be on its ability to collect the maximum amount of tax revenue with the least amount of damage to the economy so as to achieve sustainable and robust economic growth. Resorting to excessive borrowing gives you the opposite results.
If Pakistan is to overcome the twin interrelated difficulties of fiscal deficit and debt burden, then there is no other option than to dismantle the existing antiquated and anti-developmental tax system. A two-pronged tax reform agenda is the need of the hour:
One – replacement/restructuring of the Federal Board of Revenue (FBR) with a national tax agency (NTA). Two – complete rationalization of the tax system.
Reading: Debt repayment
The replacement/restructuring of the FBR with the NTA is intended to ensure effective enforcement of tax laws both at the federal and provincial levels. The country’s tax system is complex and involves multiple agencies, which make the overall system inefficient.
NTA mandated to enforce a simple and harmonized tax code should be set up to replace/restructure the FBR and all other federal tax authorities in the country.
It will be responsible for tax collection at the federal level with an active role of the National Tax Council (NTC). Provincial tax authorities will be similarly structured and streamlined to provide convenience and simplicity to taxpayers.
The NTA will report to parliament through the finance minister and the appointment of its chairman and members will be made through a public hearing by a joint committee of the National Assembly and the Senate.
It will not assume the role of legislator and policy maker which according to the constitution is the exclusive prerogative of the people of Pakistan through their elected representatives (Towards flat, low rates, broad and predictable taxes – Bukhari and Haq, Prime 2020).
A complete streamlining of the tax system is the maximization of tax revenue through voluntary compliance.
Pakistan, a country of 241 million people, has an extremely narrow tax base. currently to 10 million individuals, of which 5 million are tax filers and only 3 million actually pay any tax.
Exorbitant and punitive tax rates encourage tax evasion, avoidance and underreporting of taxable income. They also encourage taxpayers to seek exemptions, concessions, exclusions, credits, amnesties and write-offs.
The key to good tax policy is a stable, low-rate, broad-based and predictable tax system. People in similar circumstances should have similar tax burdens. Perception of fairness is key to voluntary compliance, but don’t be fooled by the relatively effortless implementation. It will have enormous beneficial effects.
To widen the tax base, from 10 million to 20 million people, the country would have to introduce a flat tax of 10% on all (non-adjusted) gross income regardless of source.
All individuals should be facilitated to file a simple income tax return, without a wealth tax return and those earning below the taxable threshold should be given income support in the form of negative tax. A one page return form should be available in English, Urdu and all local languages which can be submitted even through a simple mobile app.
Historically, our elite have been in favor of tax reform as long as it preserves their privileges. For tax reform to be considered truly revolutionary, there needs to be strong political will to stand up to the lobbies and bureaucracy that have helped perpetuate the current shambles.
There is now a consensus among all that even until we get out of this “boiling frog” situation, our economic misery will not end and may eventually lead to a disastrous end.
The author is an economist and philanthropist based in Belgium
Published in The Express Tribune, February 12u2024.
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