The Burden on the Poor
By Dr. Clive Thomas
In 2007, officially recorded inflation was 14 percent. This represented an increase from the rate of 4.2 percent achieved in 2006. Indeed, the average inflation rate for the previous four years (2003-2006) was 6.2 percent. Perhaps more to the point, officially food prices increased by more than 20 percent in 2007, as compared to single digit increases on average over the previous five years.
As a general rule, we find that the poorer individuals and households are in any economy, the greater is the ratio of their expenditure on food to total expenditure (that is, food and non-food items). Generally, the ratio falls somewhere above 50 percent among the poor. In the case of Guyana, household budget data suggest that for the second/third quintile of the population the ratio of expenditure on food to non-food items is 65:35. From this we can therefore reasonably conclude that the burden of rising food prices in Guyana, like elsewhere, would fall disproportionately on the poor.
Published poverty data on Guyana, for a decade ago (see the United Nations Development Programme (UNDP) sponsored study Poverty and the 1999 Guyana Survey of Living Conditions, 2000 authored by Clive Thomas at the Institute of Development Studies) show the following poverty distribution for Guyana. For all Guyana, using the head-count measure of poverty, those falling below ‘the poverty line’ (estimated at somewhat over one US dollar a day) were about 36 percent of the population. On a regional basis, the interior hinterland areas showed the highest poverty rate of over 78 percent. Also in general, coastal rural poverty (at 40 percent) exceeded urban poverty at about 16 percent.
If further proof was needed about the general inflationary impact of the VAT and Excise legislation and therefore the burden on the poor let us examine some macroeconomic data. Taxes in 2006 yielded a revenue total of $59.6 billion. (See table 4 (b) of the National Estimates, 2008). These were budgeted to yield $60.9 billion in 2007 and ended up yielding $79.4 billion, a whopping increase of over 30 percent on the 2006 total.
Not surprisingly, taxes as a percent of GDP (tax ratio) was 39.3 in 2006. For that matter the tax ratio averaged 38.3 percent over the previous five year period, 2002-2006. However, in 2007 the tax ratio jumped to 46.6 percent. This is perhaps the most formidable direct evidence of the dramatically increased role that taxes were playing in national expenditure and the prices of goods and services which included them. In particular it was of the utmost significance that the tax increases were overwhelmingly concentrated on consumption and therefore burdened the poor most.
On a relative basis, taxes on income, while increased in 2007, only rose by 9.4 percent over 2006. Taxes on trade (mainly imports) rose by 38.9 percent. The VAT tax however, exceeded all expectations, increasing by 58.2 percent. Indeed the VAT tax was budgeted to yield $24.8 billion in 2007, just one billion dollars above the consumption taxes it replaced, but ended up yielding $36.7 billion!
The Government’s declared aim at the time of introducing legislation was to ensure that the new VAT and Excise taxes yielded enough revenue to compensate for the elimination of consumption taxes. This has been popularly interpreted in Guyana as ensuring “budget neutrality”. To my mind the Government feared a shortfall in revenue and the results of the tax yield surprised them.
Poorly Timed and Too High
Given the phenomenal yield of the VAT tax and the original promise of “budget neutrality” it is surprising that Government has not considered seriously the idea of reducing the rate. The introduction of the VAT tax was a trigger mechanism leading to inflation, based on business expectations and the mark-up opportunities it created. In similar vein, if carefully crafted I would argue that a reduced VAT tax rate could lead to increased consumers expectations of a price fall, thereby putting the pressure back on businesses to reduce prices.
There is no doubt that the introduction of the VAT tax was very poorly timed, if there is any truth in the government’s advertised claim that it “foresaw” the rising global prices since the end of 2006, and that is the reason why it started its relief measures early in 2007.
One consideration that is often overlooked as to why traders have increased prices on items that do not carry VAT is that, apart from the obvious opportunism, it is plausible to expect that their input costs are bound to go up particularly if the VAT and Excise tax fall on services like transport, power supply, insurance, and so on. These will be inevitably passed on to zero rated items as a legitimate business cost.
Next week I shall look at the key factors behind the global rise in food prices.