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Fiscal constraints, collection costs, and trade policies

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  • Kubota, Keiko

Abstract

That free trade allows economies in an ideal world to achieve the greatest possible welfare is one of the few undisputed propositions in economics. In reality, however, free trade is rare. The author argues that many developing countries intervene in trade at least partly to raise revenues, and that episodes of trade liberalization are often linked to tax reform. The author proposes a formal model to explain why developing countries rely disproportionately on tariffs for government revenues, when tax reforms are expected, and under what conditions trade liberalization will take place. The model uses the simple concept of the fixed costs involved in tax collection. When fiscal needs are limited, and the infrastructure to monitor, administer, and collect taxes is not well-developed, it is optimal for governments to rely on a handful of easy-to-collect taxes, which generally includes trade taxes. When fiscal needs expand, theexcess burden on the tax base grows rapidly, and tax reform becomes necessary. Tax reforms reduce reliance on the existing tax base, often allowing the statutory tax rate to be lowered. This is a form of trade liberalization when it involves the trade sector. The author defines trade liberalization in a somewhat unconventional way: only reductions in the rates at which the trade sector is taxed, are considered trade liberalization. Tariffication of quotas, normally considered a form of trade liberalization, is treated as tax reform (expanding the tax base). The author tests this hypothesis empirically, first through three historic case studies (Bolivia, Jamaica, and Morocco) and then through systematic econometric analysis. She constructs a set of panel data for 38 developing countries for 1980-92, using the statutory tariff rates published by UNCTAD. She uses empirical tests to isolate the cause of trade liberalization. The results support her hypothesis: tariff rates are positively related to fiscal shocks, and negatively associated with episodes of tax reform.

Suggested Citation

  • Kubota, Keiko, 2000. "Fiscal constraints, collection costs, and trade policies," Policy Research Working Paper Series 2366, The World Bank.
  • Handle: RePEc:wbk:wbrwps:2366
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    References listed on IDEAS

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    Cited by:

    1. Abel Escribà-Folch, 2009. "Do authoritarian institutions mobilize economic cooperation?," Constitutional Political Economy, Springer, vol. 20(1), pages 71-93, March.
    2. Richard Grabowski, 2010. "A comparison of Latin American and African economic development with an East Asian twist," Asian-Pacific Economic Literature, Asia Pacific School of Economics and Government, The Australian National University, vol. 24(2), pages 104-116, November.
    3. Buffie, Edward F. & Atolia, Manoj, 2012. "Trade, growth, and poverty in Zambia: Insights from a dynamic GE model," Journal of Policy Modeling, Elsevier, vol. 34(2), pages 211-229.
    4. Matschke, Xenia, 2008. "Costly revenue-raising and the case for favoring import-competing industries," Journal of International Economics, Elsevier, vol. 74(1), pages 143-157, January.
    5. Michael E. S. Hoffman, 2005. "Political and Public Finance Motives for Tariffs," International Trade 0510016, EconWPA.
    6. Epaphra, Manamba, 2014. "The Revenue Implications of Trade Liberalization in Tanzania," MPRA Paper 62330, University Library of Munich, Germany, revised 2014.
    7. Bussmann, Margit, 2009. "The Effect of Trade Openness on Women's Welfare and Work Life," World Development, Elsevier, vol. 37(6), pages 1027-1038, June.
    8. Kim, Sunghyun H. & Kose, M. Ayhan, 2014. "Welfare implications of trade liberalization and fiscal reform: A quantitative experiment," Journal of International Economics, Elsevier, vol. 92(1), pages 198-209.
    9. Antonis Adam, 2009. "Fiscal Reliance on Tariff Revenues: In Search of a Political Economy Explanation?," Review of Development Economics, Wiley Blackwell, vol. 13(4), pages 610-625, November.
    10. Emran, M. Shahe & Stiglitz, Joseph E., 2005. "On selective indirect tax reform in developing countries," Journal of Public Economics, Elsevier, vol. 89(4), pages 599-623, April.
    11. Josh Ederington & Jenny Minier, 2008. "Reconsidering the empirical evidence on the Grossman-Helpman model of endogenous protection," Canadian Journal of Economics, Canadian Economics Association, vol. 41(2), pages 501-516, May.
    12. Lee Robinson & Alice Nicole Sindzingre, 2012. "China’s Ambiguous Impacts on Commodity-Dependent Countries: the Example of Sub-Saharan Africa (with a Focus on Zambia)," EconomiX Working Papers 2012-39, University of Paris Nanterre, EconomiX.
    13. ERBIL Can, "undated". "Trade Taxes Are Better ?!? Short Answer: No," EcoMod2003 330700048, EcoMod.

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