0.20 General introduction to savings mobilization  (Page 7/9)

And, because many LDC ^s discouraged foreign private savings in this era and because official foreign savings (foreign aid) was not unlimited, it was argued that only government savings could bear the burden of investment finance.

One possible way to mobilize government savings reduce government consumption

But government consumption is very “sticky downward”: few governments are willing to take political risks of cutting say subsidies to energy and food. In some cases this would be inadvisable anyway – often reducing subsidies produces riots.

So, most feasible way to Increase Governments Savings? Conventional Wisdom: Raise Tax-Receipts .

i.e. Raise the ratio of tax collections to GDP.

How ? By tax reform, if possible, and by tax rate increases or new taxes , if not.

KEYPOINT: This view of appropriate savings mobilization bias was based on the view that mps out of an additional dollars worth of income was significantly lower in the private sector then public sector. So, by shifting income to government, you could raise overall savings rates.

Promoting this view became official policy of virtually all foreign aid donors, including U.S. – “No aid for you unless you increase tax collections,” i.e. “We will help you if you help yourselves.”

So countries willing to install higher domestic taxes on L&K were seen as more “deserving” of foreign aid.

Indicators of “deservedness” included high tax “ ratios ” – high rates of tax as % GDP.

But again this whole strategy depended on the appropriateness of the assumption

MPS _G Public Sector>MPS _P Private Sector

We will come back to this.

What would be reasonable tax rates for poorer nations?

Before the 1980s for the rich countries, tax rates exceeded 45% or even 50%. (Show U.S. rates). Now tax in rich nations but we would of course not x ≤ 30%.

But we would of course not expect CDC ^s ever to have tax ratios nearly as high as rich nations. Why?

First – lower per capita Y allows a much smaller margin for taxation after subsistence needs met. i.e. poor countries have much lower taxable capacity.

Average tax ratios, less than 10% for very low income nations, 20% for middle income, 28% average for wealthy nations. See Gillis, Perkins, Snodgrass, Economics of Development , 5th Edition

But in very poor countries, the majority of taxes are taxes on international trade. Why? (Tax handles).

We now look more closely at this set of issues.

Now, constraints on taxable capacity and tax effort.

Remember higher taxes can lead to higher overall savings, but only if the governments MPC out of increased tax collection is smaller than the private sectors marginal propensity to consume out of the taxes it pays.

Is this ever so? Yes there are examples from history, but except China, there are few from recent history. Consider Japan after the Meiji Restoration in 1880s. Larger government savings were generated through government budget surplus. These surpluses played a major role in Japanese economic development 1882-1930. The Japanese government displayed these government savings for major investments in physical and human capital, and also quite a bit of military hardware.