Lively. Informative. Hard hitting. ADB Insight is a new series that looks at the key development issues facing Asia & the Pacific.
Episode 6: Financing the Future
10 December 2021
Asian Development Bank
COVID-19 has left Asia and the Pacific facing a financial double whammy. Governments have been left little choice but to raise spending for critical social services, such as healthcare, while also relaxing certain taxation to allow businesses to stay afloat during the economic downturn.
With a nascent recovery taking shape, policymakers now face a challenge for how best to bridge the gap in revenues in a way that helps the short-term recovery from the pandemic, and continues to pay for longer term investment priorities. The Asian Development Bank is working with developing member countries on so-called domestic resource mobilization (DRM), to ensure the region gets the balance right.
ADB Director General Bruno Carrasco joins ADB Insight to discuss both the short- and long-term measures needed to effectively implement DRM, how the region can work together to avoid a “race to the bottom,” and how ADB and other organizations are promoting cross-border cooperation to strengthen DRM.
Nisha Pillai: Bruno, welcome to ADB Insight.
Now first off, I'd like to ask you what do you see as the most pressing problems in terms of DRM, domestic resource mobilization, that developing countries in the Asia Pacific region currently face?
Bruno Carrasco: Thank you very much for that question, Nisha. We have seen that as a result of the pandemic we have had economies that have slowed down in terms of their growth rates. We have seen a lot of stimulus measures that have been introduced, including stimulus by way of reductions in tax measures, including such things as tax deferrals, including such things as tax waivers, reduction in some tax rates.
"We need to make sure that tax policy follows what is generally known as the three T principles. So the first “T” is timely, so the tax policy measures need to be introduced in a timely manner. They need to be temporary, and we need to be careful that we don't keep these tax policy measures in place, these incentives, too long. And finally, they need to be well targeted, so that they are more effective."
So, this comes against the background of a relatively weak revenue collection across Asia Pacific prior to the pandemic, but at the same time spending was going up through the countercyclical support measures. So, all of this has put much greater pressures on public finances, and we have to find a solution to be able to strengthen revenue collection at the same time as supporting the economic recovery.
Nisha Pillai: You say we need to find a solution to this conundrum. So, what measures might help in the short term, but also in the longer term?
Bruno Carrasco: We need to make sure that tax policy follows what is generally known as the three T principles. So the first “T” is timely, so the tax policy measures need to be introduced in a timely manner. They need to be temporary, and we need to be careful that we don't keep these tax policy measures in place, these incentives, too long. And finally, they need to be well targeted, so that they are more effective.
Now in terms of what we've seen across these economies, is that there were a lot of differences across the sectors in terms of how they were affected by the pandemic. So, we've had a number of businesses that went bust, and they basically had to file for bankruptcy. So that tax collection that was generated from those businesses has been wiped out. Many companies have gone into the informal sector precisely to avoid having to pay those those taxes that they were simply unable to do so—those small enterprises, even micro, sometimes even cottage-type industries.
And there's another area that is worth recognizing. And that would be sectors that have been also severely hit. And we think here of such things as the tourism sector across many of the Southeast Asian economies, for example. We also have the transport sector. These have also been hit quite heavily.
And finally, there are sectors that have done actually quite well during this pandemic. Here we could highlight such things as the digital economy, e-commerce. So here we're actually maybe generating a lot more revenues than we were in the past. So, whenever we look at what we refer to as removal of that stimulus, bringing in tax measures to help strengthen these economies, we need to look at the differentiated approaches across these sectors.
Nisha Pillai: Yes, that seems to be a sensible approach, but I imagine there's pressure on governments to raise taxes across the board. Now you seem to be saying that could be counterproductive?
Bruno Carrasco: So, it's all about calibration and doing it very effectively. We have to bear in mind that throughout this process there is a lot of strong interest among business communities to start investing. So, we need to make sure that that tax policy continues to be business friendly.
And one other thing that is really important here: we need to make sure that, directly or indirectly, tax policy can lead to better equity in the economy. So, these are some of the examples of how the pandemic affects the economy, and how tax policy in some ways has to respond to those factors.
Nisha Pillai: There's also been a lot of talk about improving cross-border tax cooperation, where all governments win rather than them competing against each other. But in the past, that kind of cooperation has been pretty hard to pull off, hasn't it?
Bruno Carrasco: Indeed Nisha. What we have traditionally seen across countries has been that tax policy was really considered as an important sovereign matter, and the traditional view was that the more countries defer to international tax agreements, the more you lost control of that sovereign consideration.
Now that, unfortunately, is a false narrative. In fact, we have seen in the context of the crisis— and looking back a few years before—that there has been a perception of countries racing to the bottom in terms of providing tax incentives to attract businesses across the globe. And that, unfortunately, has led to what is often referred to as a tax competition which we all largely lose out on.
So, the idea is that over the last few weeks, there has been an increasingly well appreciated OECD-led agreement on tax cooperation in the context of looking at how companies should be paying a certain amount of minimum taxes.
"The traditional view was that the more countries defer to international tax agreements, the more you lost control of that sovereign consideration. Now that, unfortunately, is a false narrative. (It) has led to what is often referred to as a tax competition which we all largely lose out on."
So that agreement has resulted in a minimum of a 15% corporate tax on the larger multinational companies, and that is expected to generate approximately $150 billion annually across the global economy as a result of that measure We still have a lot of work to be done. So in the context of Asia and the Pacific, only twenty of the 46 Asian development countries have actually signed up to the base erosion and profit-shifting integrated framework.
Nisha Pillai: So, lots to be done as you say. But what is ADB doing specifically to promote the kind of cross-border cooperation you're talking about?
Bruno Carrasco: So, back in May, President Asakawa launched the Asia Pacific tax hub. The tax hub really represents an important stepping stone towards having a collaborative, inclusive platform where we can work closely with our developing member countries in Asia Pacific, but also with our development partners, including OECD, IMF, World Bank, the United Nations. And with our collective expertise, we can help countries in terms of addressing many of these challenges that we've been discussing, and we generally work in the context of three pillars. One would be the medium-term revenue strategy, so it has to do with how we build a medium-term planning of how we recover revenue. It looks also, as a second pillar, to how we automate the tax administration, where again there can be a lot of gains by automating tax administration. And thirdly, what I was just referring to about how we can better integrate countries into those international tax cooperation agreements.
Nisha Pillai: Well, the tax hub certainly sounds like a bold and worthwhile initiative, and let's hope that you get buy-in from governments across the region. Bruno Carrasco thanks so much for joining us on ADB insight.
Bruno Carrasco: Thank you, Nisha. It was a pleasure to talk to you.
Nisha Pillai: And thank you to everyone for joining us on this edition. From me, Nisha Pillai, goodbye for now.