POLITICAL ECONOMY OF TAX REFORMS: The Pakistan Experience

Pakistan's tax system is characterized by a number of structural problems. First, the overall level of fiscal effort is low and the tax-to-GDP ration has remained, more or less, stagnant at between 12 to 13 per cent. This is one major explanation why budget deficits .have been high, generally in excess of six per cent of the GDP. Second, there is over dependence on indirect taxes, which until recently accounted for a share in revenues of over 80 per cent. This has increased the regressivity of the tax system and imposed a higher excess burden of taxation. Third, within indirect taxes there is domination of taxes on international trade, which has promoted inefficiency, distorted the allocation of resources and encouraged illicit trade. Fourth, the effective tax bases of most taxes is narrow due to wide ranging exemptions and concessions and rampant tax evasion. For example, there is less than one income tax assessee per 100 persons and less ~an 60 per cent of imports actually pay duty. Consequently, tax rates have had to be pitched at high levels which has created a vicious circle of more tax base erosion and higher tax rates. Fifth, tax administration is characterized by primitive and out moded procedures, complex laws and considerable arbitrariness and discretion. The common perception is one of high levels corruption and inefficiency. Despite these problems which have been manifest for a long time Pakistan has been slow to embark on the path of tax reforms. In the 80s, higher fiscal effort was substituted for by large bank and non-bank borrowings. However, the extremely rapid growth in debt servicing clearly indicated that the task of resource mobilization from taxes could not be postponed indefinitely. The commencement of the decade of the 90s coincided with the induction of a newly elected (IJI) government