Taxing the poor

On Wednesday, Minister for Finance and Revenue Senator Ishaq Dar introduced the Finance (Supplementary) Bill 2023 – better known as the ‘mini-budget’ – in both houses of parliament. The mini-budget was expected as the government scrambles to unlock the IMF loan tranche. Unfortunately, the government continues to rely on indirect taxes to shore up its revenues, inadvertently levying these indirect taxes on the country’s population which is already seeing its income, and savings erode due to inflation. The supplementary finance bill passed yesterday will attempt to generate Rs170 billion in additional taxes, a major chunk of which would be through indirect taxes. It is expected that the most significant incremental generation of tax revenue would be through an increase in the General Sales Tax (GST) from 17 per cent to 18 per cent. During the last fiscal year, the government collected Rs2.5 trillion in GST, implying roughly a total transaction value of Rs14.8 trillion. Considering how inflation is ravaging household incomes across the board, it is estimated that total transaction value would potentially exceed Rs18.5 trillion. A mix of inflation driven increase as well as increase in the GST rate by one per cent can potentially generate more than Rs40 billion in incremental taxes for the government.

Indirect tax on consumption is the most distortionary kind of tax, punishing the most vulnerable segments of society. The inability of successive governments to increase direct taxes, and expand the taxation net has led to recurring deficits, eventually leading to higher inflation. If indirect taxes weren’t enough, inflation also remains the worst form of taxation – all because a government refuses to tax the income and wealth of those right at the top of the food chain. The increase in indirect taxes, whether through increase in GST or through increase in Federal Excise Duty, will be inflationary in nature. This will increase inflation further, pushing the country closer to a hyperinflationary regime. The government and its policymakers being out of ideas, and lacking any empathy whatsoever for the most vulnerable segments, refuse to expand the taxation net. Agriculture, retail and wholesale trade, and real estate are some sectors that largely remain untaxed, either due to bad tax policy or weak enforcement.

As taxes in the formal economy increase, things reach a tipping point wherein it is more economically feasible to rely on the informal market. This is what has been happening as smuggling and informal trade through gray channels continue to increase. As products acquired through gray channels further gain traction, formal manufacturers and traders who pay taxes become uncompetitive, and are either pushed out of business or revert to the informal economy. A currency in circulation to GDP ratio of almost 20 per cent, which signifies almost Rs8 trillion of cash just sloshing around in the economy. As conduct of formal business is made more difficult, the exodus towards the informal economy is only going to accelerate further. Neither the government nor its policymakers have any plans to address the recurring deficits, or to expand the tax net. Such lack of imagination and a complete absence of will to bring about any structural reforms has already led to massive erosion in real income over the years. The recent spate of taxes may just provide another lifeline as it unlocks the IMF programme, but refusal to make structural changes does not bode well for the country – and is detrimental to its population. Successive governments have failed the people, and there seems to be no plan to change this trend any time soon.