Sunday, September 16, 2007


The USAToday has published an article describing the populist assertions of Mexican president Felipe Calderon who recently annoucned the launch of aggresive tax hike to raise tax revenue.

Enhanced through the rethorics of populism, Mexian president wants to increase Mexico's tax revenue by one third, roughly $35 billion a year. Among fresh tax policy proposals an extensive corporate income tax based on firm's income from corporate activity can be traced as well as giving tax breaks to state enterprises (Pemex), 5,5 percent gasoline tax and government requirement levied on banks, claiming to deduct 2 percent tax on desposits exceeding the amount of $1,800 USD monthly.

One could claim that despite a relatively low fiscal burden in the share of the GDP and particularly low government spending, Mexico's overall tax revenue equals 10 percent of the GDP, and thus concluding that reducing the aggregate tax burden does not make any sense. However, this particular assertion hardly entails any sufficient arguments and data analysis.

First, corruption in Mexico is perceived as significant. The cost attached to corruptive officials, institutions and politicians negatively affects economic performance and openly enables seeking ways and channels to adopt tax evasion. The negative-side effect of corrupted tax system is that a mantling establishment of the bureaucracy inclines towards seeking additional revenue via loopholes, deductions, exemptions and tax breaks.

Second, despite a moderate degree of economic liberty, Mexico weakly performs in the areas which are essential to sound framework of economic peformance such as the extensive corruption net and discriminatory investment framework. According to World Bank, paying taxes takes 552 hours in Mexico compared to the OECD average of 202,9 hours. This particular indicators purely reflects the complexity and failure of Mexican tax system. Under such conditions, numerous investors prefer to avoid taxes since getting rid of government regulation and directives is less costly than complying with inefficient and onerous tax system.

Here is a brief data on Mexican macroeconomic performance.

The assumption that additional tax revenue measures would induce government's ability to pursue fair redistribution to reduce poverty is false regarding the empirical aspects of income redistribution and research observations on the growth-correlated tax system. Fighting poverty through the prism of government intervention usually returns the opposite results. Instead, there has been much empirical outcome saying that trade liberalization and openness induce poverty reduction. In addition, deregulated labor market and growth-friendly entrepreneurial framework also boost productive behavior which is the ultimate way to avoid and reduce poverty instead of relying on rent-seeking government and tax bureaucracy.


Marko said...

"Instead, there has been much empirical outcome saying that trade liberalization and openness induce poverty reduction."

Not according to Harvard's Dani Rodrik that criticized the findings you are peddling as methodologically flawed. But you can say that about a large share of neocon think-thank's "research", can't you?

Rocks said...

As far as I know, Dani Rodrik criticized the methodology of the empirical measures such as the choice of one-dimensional fixed models where data is taken endogenously, which means that the empirical conclusion is based on the findings concluded by the model based upon cross-elasticity consideration of utility functions (preferences) which can also be included into the model regarding the objectives of the empirical research itself.

My suggestion: Karl Popper's Objective Knowledge and The Logic of the Scientific Discovery.


Marko said...

Say what?! I don't understand your econometric yacketty-yack and I pretty much doubt that you understand it yourself. I may be wrong, of course, but I am not at all convinced that you seriously looked at Rodrik's arguments. If you did, you could summarise them in a more user-friendly way. For example: Rodrik says that it is wrong to look at trade/GDP ratio and conclude that trade-friendly policies lift countries out of poverty. Why? Because trade volume is an outcome-based variable and not a valid approximation of trade policy. When you look at trade policies themselves - i.e. at lifitng/raising trade barriers -, the statistical association (regression analysis, I presume?) observed proves that higher tariffs are associated with higher growth.

Rocks said...

This is a fixed static data model where you assume that observed behavioral changes remain constant over a certain period of time. In effective terms it means, that (for instance) trade sector does not respond to such incentives as slashing the barriers to international trade. Once when a certain obstacle to trade is torn-down, the cost of inputs is reduced which means that lower barriers to trade lead to dynamic value-added creation and thus sustained output growth.

I'm skeptical about Rodrik's arguments because risky assumptions are introduced. The comparison of outcome-based variables necessarily needs a periodic data analysis, i.e. measured changes in trade volume as a response to endorsed course of trade policy, so that real outcome can reflect the efficiency and purpose of enforced trade policy steps. Impulsive comparison of +/- changes of trade volumes need to be analyzed to observe the trade volume in particular period of time.

If the U.S. Congress enacted the increase in tariff rates on high-tech imports from India where U.S. firms utilized the supply-chain of high-tech products at a low relative price, then the productivity of the particular firm could be endangered since higher tariffs would force it to shift to domestic market which presumably offers high-price products of the same quality, and thus to induce cost-push shocks. A negative affection of productivity dynamics always reflected in annual data release about value-added rate and GDP growth.

And this issue is also actual in transition countries. If higher tariff rates invariably resulted in higher growth rates then Estonia would never be subject to severe economic contraction and GDP decline. True, the changes in trade volume may mirrorize market dynamics and the effects of supply competition, but trade volume is highly responsive to trade policy and anykind of external distortions would result in a negative cost-induced shock that affects both aggregates, productivity and value-added creation nevertheless.