Effect Of Reforms On Tax Revenue Performance In Senegal

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Effect of Reformson Tax Revenue Performancein SenegalByAmeth Saloum NdiayeUniversity Cheikh Anta DiopDakar, SenegalAERC Research Paper 370African Economic Research Consortium, NairobiJuly 2019

THIS RESEARCH STUDY was supported by a grant from the African EconomicResearch Consortium. The findings, opinions and recommendations are those of theauthor, however, and do not necessarily reflect the views of the Consortium, its individual members or the AERC Secretariat.Published by: The African Economic Research ConsortiumP.O. Box 62882 - City SquareNairobi 00200,ISBN9966-944-80-X 2019, African Economic Research Consortium.

ContentsList of tablesList of figuresList of abbreviations and acronymsAbstract1.Introduction12.Literature review43.Methodology84.Empirical results and discussion125.Conclusion and policy implications30Notes31References32Annex36

List of tables1.2.3.4.5.6.Number of reforms in the tax administration in Senegal, 1970-2014Reforms in the tax administration in Senegal based on thePEFA indicators, from 2007 to 2011Number of reforms in the tax administration and tax revenuein Senegal, 15-year averageTax revenue performance with and without reforms in the taxadministration in Senegal, 1970-2014Reforms based on the PEFA indicators and tax revenue performancein Senegal, from 2007 to 2011Effect of reforms on tax revenue performance in Senegal, 1970-2014A.1. Reforms in the tax administration in SenegalA.2. Phillips-Perron test for unit rootA.3. Definition and sources of variables121422222426363839

List of figures1.2.3.4.5.6.7.8.Evolution of tax revenue in Senegal, 1970-2014Senegal and WAEMU countries: comparative tax revenueperformance, 1994-2014Senegal and Africa: Cross country comparison of taxrevenue performance, 2010-2014Tax revenue performance in Senegal and selected regions, 2010-2014Tax revenue versus foreign revenues in Senegal, 15-year averageNumber of tax reforms and tax revenue performancein Senegal, 1970-2014Number of institutional reforms and tax revenue performancein Senegal, 1970-2014Number of all reforms and tax revenue performance inSenegal, 1970-20141517181919202121

List of abbreviations and ECAWAEMUAnalysis for Economic DecisionsEast African CommunityEconomic and Monetary Community of Central African StatesCountry Financial Accountability AssessmentCountry Procurement Assessment ReportDirectorate-General of CustomsDirectorate-General of Tax and LandsEuropean UnionForeign Direct InvestmentGross Domestic ProductInternational Monetary FundLeast Developed countriesLow Income CountriesMillennium Development GoalsNuméro d'Identification National des Entreprises et des AssociationsOffice National Anti-CorruptionProportional Adjustment MethodProjet de Coordination des Réformes Budgétaires et FinancièresPublic Expenditure and Financial AccountabilityPlan Sénégal EmergentRevenue Administration Reform and Modernization ProgrammeSouthern African Development CommunitySociété Nationale d’Electricité du SénégalTax Modernization ProgrammeUnited Nations Economic Commission for AfricaWest African Economic and Monetary Union

AbstractThe tax administration in Senegal has experienced several reforms in the period 19702014, but little is known about the performance of those reforms in terms of tax revenuemobilization. The literature on what drives domestic resource mobilization has indeedpaid little attention to reform as a determinant of tax revenue. Considering various aspectsof reforms in the tax administration, including tax-related reforms and institutionsrelated reforms, and using various econometric methods based on ordinary least squares,instrumental variable two-stage least squares, and iteratively reweighted least squares,the paper assesses whether reforms are important for increasing tax revenue. The resultsshow that, tax reforms, institutional reforms, and all reforms combined have contributedto significantly increased tax revenue performance. The key implication is that moretax-related reforms and more institutions-related reforms are crucial to sustainablyimproved tax revenue mobilization.JEL Classification: E02; H11; H20Keywords: Tax revenue; reforms; tax reforms; institutional reforms; Senegal

Effect of Reforms on Tax Revenue Performance in Senegal11. IntroductionThe issue of tax revenue mobilization in developing countries has attracted widerand renewed interest (Stiglitz, 2010; Keen, 2012). There is a growing awarenessthat domestic tax revenue in developing countries must be the primary financingsource for development, with foreign aid playing essentially a supporting role (Fossat& Bua, 2013). The 2008 global financial and economic crisis has shown the need to paymore attention to domestic resource mobilization because the crisis demonstrated thevolatility and uncertainty that surround external sources of development finance (UnitedNations Economic Commission for Africa (UNECA), 2010).The central concern is related to the need to increase sustainable domestic resourcemobilization (Felix, 2008; International Monetary Fund (IMF), 2011). Indeed, severalcountries are still facing the fundamental need of mobilizing more resources from theirown tax bases (IMF, 2011). Wilford and Wilford (1978) asserted that one of the mostimportant policy upon which most economists agree is that developing nations mustincreasingly mobilize their own internal resources to support economic growth. Tanzi andZee (1997) have demonstrated that raising domestic revenue is the most feasible way toachieve fiscal sustainability. The United Nations (2005) indicated that the achievement ofthe Millennium Development Goals (MDG) by low-income countries requires increasingtax revenue up to 4% of Gross Domestic Product (GDP). Mobilizing more revenue isa priority for developing countries as they have to finance their development agendas,and weak revenue mobilization is the root cause of fiscal imbalances in several countries(Drummond et al., 2012).Tax revenue mobilization is a great concern for policy makers in Senegal. Thegovernment has indeed considered the modernization of the tax administration and therise in tax revenue as a priority defined in the new growth strategy called Plan SénégalEmergent (PSE) which was unveiled in February 2014, and which aims at makingSenegal an emerging economy by 2035.1 The PSE reaffirms the need to preserve fiscalsustainability, and therefore endeavours to keep the fiscal deficit on a downward trend(IMF, 2014). The reduction of the fiscal deficit and the additional investment envisagedunder the PSE would require revenue mobilization efforts (IMF, 2014), which thusrequire systematic implementation of various reforms in the tax administration. Thisshows how important reforms may be for greater revenue mobilization.The effect of reforms on tax revenue performance in Senegal, therefore, deservesserious attention for several reasons. First, several reforms in the tax administration inSenegal have been implemented since the end of the 1970s.2 The number of reforms inthe tax administration has indeed substantially increased from only two reforms in the1

2Research Paper 370period 1970-1984 to 33 reforms in 2000-2014. Those reforms in the tax administrationinclude tax-related reforms and institutions-related reforms.3Second, there is a remarkable increasing trend of tax revenue in Senegal. Theperformance of tax revenue in this country has almost quadrupled from 4.22% of GDPin the period 1970-1984 to 16.84% of GDP in 2000-2014.4Third, although tax revenue performance in Senegal is increasing, it remains lowcompared to some sub-Saharan African countries.5 In the period 2010-2014, theperformance of tax revenue stands at 19.5% of GDP for Senegal while it accounts for29.5% of GDP for Seychelles, 29.8% of GDP for Swaziland, 30% of GDP for Namibiaand 41% of GDP for Angola.6 Senegal remains thus in the grip of a serious need to furtherincrease tax revenue mobilization.Fourth, Senegal seems to be caught in a “weak public investment trap”. Publicinvestment remains still smaller than 10% of GDP, with only 6.8% of GDP in 2014(IMF, 2017). The lack of a high tax revenue mobilization is likely to have pronouncedregressive effects on public investment. Sustaining efforts to mobilize much higher taxrevenue appears thus to be crucial in support of public investment and other productiveactivities, justifying how relevant are reforms.A fifth reason for greater attention to reforms for tax revenue mobilization is relatedto the economic background of Senegal that is characterized by a large oil discovery offthe coast of Senegal in October 2014, which is estimated between 250 million and 2.5billion barrels of oil, with a mid-range estimate of 950 million barrels.7 This big oil findshould justify the need to implement further reforms in the tax administration in order tofully benefit from the future exploitation of oil for higher domestic resource mobilization.These facts raise the following research question: how relevant are reforms for taxrevenue mobilization? This paper investigates indeed whether positive externalities interms of increased tax revenue performance may result from the tax and institutionalreforms undertaken in Senegal. This paper thus intends to explore the role of reformsin the performance of tax revenue.The literature on the effect of reforms on tax revenue considered only limiteddimensions of reforms. The importance of administrative reforms has been relativelylittle explored (Morisset & Izquierdo, 1993; Das-Gupta & Gang, 2000; Usui, 2011). Thecontribution of this paper to the literature is threefold. Firstly, this paper takes accountof various aspects of reforms in the tax administration in Senegal, including tax-relatedreforms and institutions-related reforms. This paper thus provides a broader frameworkfor analysing the tax revenue effect of reforms. Secondly, the relatively little attentionthat administrative reforms have received in the literature reflects measurement problems(Morisset & Izquierdo, 1993). This paper therefore contributes to fill this gap by providingquantitative measures of reforms as the number of tax reforms by year, the number ofinstitutional reforms by year, and the number of all reforms by year. Thirdly, severalpapers used a descriptive approach or the model of tax elasticity and buoyancy (Prest,1962; Larvin, 1968; Chelliah, 1971; Mansfield, 1972; Ole, 1975; Wilford & Wilford,1978; Osoro, 1993; Ariyo, 1997; Muriithi & Moyi, 2003). Using a descriptive analysisand various econometric techniques, this paper provides a better understanding of theimplications of reforms for tax revenue performance, which has not yet been exploredfor the case of Senegal, to the best of my knowledge. Indeed, although the country

Effect of Reforms on Tax Revenue Performance in Senegal3implemented several reforms, little is however known about the performance of thosereforms in terms of tax revenue mobilization.The rest of this paper is organized as follows. Section 2 provides a literature reviewon the effect of reforms on tax revenue. Section 3 provides a descriptive analysis and aneconometric framework for investigating the effect of reforms on tax revenue in Senegal.Section 4 discusses the descriptive and econometric results. Section 5 concludes thepaper and discusses the policy implications.

4Research Paper 3702. Literature reviewGenerally, reforms in the tax administration in developing countries involvebroad issues of economic policy, as well as specific problems of tax structuredesign and administration (Musgrave, 1987). Reforms in the tax administrationhave been considered as one of the most important and a major ingredient to economicdevelopment of a nation (Sohota, 1961). The immediate reason for reforms in the taxadministration in many developing countries has been the need to enhance revenue (Rao,2000). Reforms measures in the tax administration are mainly undertaken in order to,among others, restore buoyancy to revenues (World Bank, 1990). Increasing revenue isa major consideration in reforms in the tax administration (Morrissey, 2013b).However, the mobilization of domestic resource depends on the level of politicalcommitment (Bhattacharya & Akbar, 2013), showing how important is political will toimplement the needed reforms for higher revenues. It may also depend on the change inmacroeconomic policies, as a rapid change may induce a much more difficult situationfor tax reforms to have important and identifiable revenue effects (Tanzi, 1988).Some authors have indicated, theoretically, that reforms in the tax administration mayindeed affect tax revenue performance. For example, reforms related to changes in taxlegislation, tax administration, and minimal tax evasion are among the main factorscontributing to an improved revenue performance (Morrisset & Izquierdo, 1993).Increasing tax-to-GDP ratio requires growth in the tax base combined with reforms toimprove tax administration (Morrissey, 2013a). Weak tax administration tends to beassociated with low tax revenue collection (IMF, 2011; Morrissey, 2013a; Bhattacharya& Akbar, 2013), suggesting that reforms to strengthen the tax administration contributeto raise revenues.Empirically, experience from various countries showed that reforms could have bothpositive and negative effects on tax revenue. Such effects depend on the type of reformsimplemented, on whether an immediate impact or a long-term analysis is considered,on how reforms are measured and on the methodology used, either descriptive oreconometric.Positive effect of reforms on tax revenue in the literatureOn the one hand, in most cases, the effect of reforms on tax revenue has been foundto be positive. This was found based on both a descriptive approach as well as aneconometric analysis.4

Effect of Reforms on Tax Revenue Performance in Senegal5Descriptive approachMorrisset and Izquierdo (1993) assessed the contribution of reforms based on changes in taxadministration to the evolution of tax revenue in Argentina. Changes in tax administrationconsisted of increasing tax penalties, new technologies, and administrative reforms. Thosereforms were implemented during the 1989-1992 years. After the poor performance of theArgentina tax system during the 1980s, tax revenue increased significantly from 12.7% ofGDP in 1989 to 22.5% of GDP in 1992, due to improvements in tax administration andtax legislation. They place the administrative dimension of tax reform at the centre of thesuccess of the reforms programme in Argentina, as the administrative dimension of thetax reform explains to a large extent revenue increase since March 1991. In absence ofsuch effort, the increase in tax revenue observed would have been limited to 34%, whichis much lower than the observed increase of 108% with such effort.Muñoz and Cho (2003) revealed that reform in Ethiopia that consisted of replacingsales tax with a value-added tax (VAT) in January 2003 has brought about higher revenue.Osei and Quartey (2005) indicated that the tax-to-GDP ratio in Ghana has more thandoubled, and this performance has been accompanied by a changing structure of thetax system.The Tax Modernization Programme (TMP)-related reform, which aimed at broadeningthe tax base, has led to an important increase in tax revenue in Kenya (Karingi & Wanjala,2005). Indeed, they found that the ratio of tax revenue to GDP during the post-TMP periodin 1983/1984-2000/2001, which averaged 21.975%, is higher than the ratio of tax revenueto GDP during the pre-TMP period in 1963/1964-1982/1983, which averaged 15.2%.Fossat and Bua (2013) found that the major tax administration reforms that have beenimplemented in the Francophone countries of sub-Saharan Africa since the early 1990shave contributed to an increase in revenue.Hellevig et al. (2014) found that tax reforms in Russia, based on lower tax rates andsimplified procedures, have skyrocketed tax revenue. Indeed, in 1999, the year prior tothe onset of the tax reforms, Russia collected a mere US 9 billion in corporate profit tax,but in 2012 the country raked in US 76 billion, representing an increase of more thaneight times compared to the year prior to the onset of reforms. The introduction of the13% flat tax on personal income resulted in 2012 in a 15-times increase in revenue onthis tax, to US 76 billion, from the US 5 billion in the year 1999. Revenue on varioussorts of taxes on natural resources filled state coffers with US 79 billion in 2012, whereasthe corresponding figure for 1999 was a mere US 2 billion.Econometric analysisExploring the causal link between reforms and tax revenue in Argentina in the period1983-1992, Morrisset and Izquierdo (1993) found that a more efficient tax administrationand an improvement in taxpayers’ compliance levels appear to precede rather than tofollow increases in tax revenue.The result of the study by Wang’ombe (1999) for the Kenyan tax system for the period1989-1998 came up with buoyancy estimates of the total tax system as 1.26 while elasticitywas 1.27. The study thus concluded that the tax system in general was both elastic and

6Research Paper 370buoyant, implying that tax reforms had greatly improved productivity. Computing elasticitiesand buoyancies for the pre-reform period (1973-1985) as well as the post-reform period(1986-1999) in Kenya, Muriithi and Moyi (2003) found evidence that reforms had a positiveimpact on the overall tax structure and on the individual tax handles. Using the ProportionalAdjustment Method (PAM) in capturing the effects of tax reforms on discretionary taxmeasures and tax productivity in Kenya for the period 1973-2003, Kieleko (2006) showedthat there had been a considerable improvement of the tax revenue productivity and that thereforms made in this period had significant effect on the responsiveness of the tax system.Kanyi and Kalui (2014) used Ordinary Least Squares (OLS) regressions for the period2003/2004-2012/2013 and found evidence of a significant increase in tax revenue attributedto the TMP-related tax reforms in Kenya. Using regression analysis and time series data forthe period 1963-2010, Omondi et al. (2014) showed that the reforms undertaken in Kenya,through the Revenue Administration Reform and Modernization Programme (RARMP)and the TMP, had positive effect on revenue generation.Using the analysis of variance method and the Scheffe’s multiple comparisontechniques for Nigeria, Aminu and Eluwa (2014) concluded that each of the tax reformpolicy objectives – i.e., enhancement of the principles of good tax system, improvementin the tax administrative structure, removal of disincentives to tax compliance, andpromotion of investment opportunities – significantly increase the personal, company,and custom duty tax revenue. Using OLS regressions and time series quarterly datain the period 1999-2012, Asaolu et al. (2015) found that tax reforms had significantlycontributed to raise revenue in Lagos State of Nigeria.Negative effect of reforms on tax revenue in the literatureOn the other hand, the effect of reforms on tax revenue has been found to be negativein few cases, with both descriptive and econometric analysis.Descriptive approachAccording to IMF (1992), the drop in tax revenue experienced in Tanzania in fiscalyears 1992/1993 (Fjeldstad, 1995) is not unique as experience from other developingcountries shows that structural economic reforms often entail short-run revenue losses.Tax reforms initiated in India since 1991 caused an immediate loss of revenue asthere was a significant decline in tax rates and no commensurate increase in the tax base(Rao, 2000). The tax-to-GDP ratio, which was 16% in 1990-1991, declined sharply toless than 14% in 1993-1994.Econometric analysisUsing the micro-tax model of the Central Planning Bureau, Caminada and Goudswaard(1996) simulated the effects of the imple

reforms in terms of tax revenue mobilization. The rest of this paper is organized as follows. Section 2 provides a literature review on the effect of reforms on tax revenue. Section 3 provides a descriptive analysis and an econometric framework for investigating the effect of reforms on tax revenue in Senegal.

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