A fiscal system is influenced by economic, political and social factors.1 These elements change directions of a country’s tax structure; and the emerging situation thus makes it difficult to distinguish the economic effects of the taxes. These factors no doubt affect the tax structure by creating new tax bases and tax handles.2 The changes in tax handles are inevitably accompanied by changes in the economic objective of tax policy.3
No sooner did an economy develop, then more tax bases and more tax handles become available, and these options provide policymakers more freedom in determining the tax structure. Consequently, the tax structure depends more on social and political objectives including the redistribution of income excluding the economic factors thereby making the tax structure less dependent on economy.
Take the case of income tax which has always been considered as progressive and fair tax and its ratio in tax revenue in certain tax systems rose up to 40%. This was the direct result of structural changes in the economy.
To tax the self-employed has always been difficult, thus in an economy characterized by self-employment thinking of a tax system that relies on income would be difficult. Available evidence indicates that tax systems achieve highest compliance in respect of taxes on income when taxes can be withheld at source. The second important tax compliance factor is the size of the tax establishment, the larger the size, the higher its tax compliance.4
Two other factors namely, tax innovation and the structure of the public expenditure have been influential in the past and will continue to remain important in the future. Here the tax innovation refers to discovery of new taxes, whereas new interest is being witnessed on a tax on cash flows replacing the old concept of expenditure tax. These factors establish that the future structure of taxation is likely to depend on the inventiveness of tax experts in devising new tax forms.5
Musgrave has also emphasized that tax structures and tax levels are influenced by policy objectives. The policy objectives are, however, achieved by instruments other than taxes.6
For example, deregulation and privatization have been popular in the recent decades in many countries. A bad aspect of these policies is that in absence of policy objectives, introduction of protections in the form of subsidy or tax expenditures becomes necessary. Where deregulation and privatisation is being extended a priority policymakers will have to take this aspect into consideration. Similarly in absence of needed changes in policy objectives, the elimination or reduction in tax expenditure may eventually require increase in public spending and thus increasing the tax levels.
It is believed that tax policies follow a conservative trend and that trend is likely to continue in future as well. Another trend in this regard will be a demand for increased role of government.7
The political environment is also going to demand more growth oriented economic policies rather than fair distribution. Issues will, however, emerge questioning the existence of black economy, tax evasion including its avoidance and illogical tax expenditures.
Another question will be that where a government cannot implement a tax system that is termed as fair and progressive, why to keep such instruments that are likely to create problems of horizontal equity while generating economic distortions that may have high cost in terms of growth.
There are going to be divergent demands from the tax payers as well. These demands will revolve around income verses consumption tax, tax on capital income rather than on labour income etc. The new issues will emerge as the demographic structure of the population changes, and these new trends will influence the structure of the economic policies.
Another major force that will affect tax policy is the growing interdependence of the world economy. We can witness several dimensions in this regard, for example integration of financial markets, integration of goods markets and the pace of the growth of world trade. These trends will continue and goods market will become progressively more integrated. An increase in the lack of correlation between places of earning and the places of spending is also going to pose challenge for the tax managers and economic policy planners.
The policymakers are also going to confront the economic externalities in the shape of pollution and destruction of interval resources.
These divergent considerations are going to cause problems to develop and harmonize an individual economy. For example, in many countries the per capita income will continue to rise, and obviously these trends will require government intervention in different shapes. The other changes like labour force migration, ageing of population, technological changes and new developments are also going to affect economic policy and these changes will open new avenues for taxation requiring tax managers to be more innovative and creative.
Another major area worth noting is that of services. This new sector is providing new avenues for growth in employment. And these avenues are going to pose problems for tax managers as tax evasion is likely to happen in services sector and without innovative methods, tax machinery cannot tap this new source of tax.
All these raise the question, what effect will these trends have on the tax system?
These trends will make it difficult for counties to maintain their present levels and structures of taxation. The individuals who are going to earn their income in one country and spending it in another would raise the question how to effectively tax such individuals. How much a tax system will be affected by these changes will depend on how far these trends progress. However, individual countries will be required to:
I. Harmonize their systems with other countries;
II. Planning as to how the political process can be sold to its electorates including the idea of increased invasion of privacy; and
III. Understand that the structure of tax policy may not be a free choice.
(The writer is an advocate and is currently working as an associate with Azim-ud-Din Law Associates Karachi)
1. Richard A. Musgrave, Fiscal Systems: New Havens: Yale University Press (1969).
2. By tax handles we mean the ability of tax administration to collect taxes imposed on particular tax bases.
4. This conclusion is of particular importance for taxes on income.
5. It all depends and imparts on the availability of new tax handles.
6. Such as public expenditure and regulations
7. While the present conservative trend has slowed down the growth in the level of taxation of many countries, it has not yet reduced that level by any significant amount. The latest OECD statistics indicate that the share of total taxes in GDP is still growing in most industrial countries, though at a slow pace. So far, the conservative climate has had a greater impact on the structure of tax systems than on levels of taxation.Zafar Azeem, "Emerging trends in shaping tax policy," Business recorder. 2015-04-02.
Keywords: Economics , Economic issues , Economic system , Economic policy , Economic growth , Economic development , Tax policy , Tax structure , Tax-GDP , Shaping tax , Economy-Pakistan