User Research/Opinions   

%%%% WORLD ECONOMIC SUMMIT %%%%

KIM  ENG  COMMENTARY

After the market close, PBOC announced a 25 bps hikes in both 1-year lending rate and 1-year deposit rate. Interest rates for other tenor were also adjusted. Note that saving rates are kept unchanged.

This is the first interest rate movement made by PBOC since 23rd Dec 2008, amid the financial crisis. On that day PBOC cut both the 1-year lending and deposit rates by 27bps.

The direction of interest rate movement is well expected by market, but the timing is unexpected, while the structure of the interest rate hike is also interesting.

Our analyst comment:


*  Timing: The rate hike happened just after the 12th 5-year plan conference, which may trigger some speculation in change of monetary polices. We
believe that it is too early to say this, and still believe that this round of rate hike DOES NOT mean China is entering into a rate hike cycle with frequent and rapid interest rate hikes.


*  Structure: We always argue that the structure of the interest rate hike is more important than the hike itself. Note that previously there were rumors on asymmetric rate hike, i.e. raising deposit rate but keeping lending rate unchanged (which is obviously bad news to banks). This turned out to be false. Market’s concern on asymmetric rate hike should fade.


*  Also note that saving rates were kept unchanged. This is important to the banks:  On the funding side, the cost of saving deposit (typically 40-60% of total deposits), only the cost of time deposit will rise. While on the asset side, the yield of all of their loans will rise.


*  Effect: In short, the latest PBOC move should be moderately positive to the bank’s margins.


*  On the volume side, note that the mainland banks’ volume growth is almost inelastic to interest rate movement. Volume growth was mainly controlled by government instead.


*  Who is going to benefit: The banks with high loan/deposit ratios, and the banks with high portion of saving deposits are likely to benefit most.
Bocom, CITIC Bank, CMB and BOC are likely to benefit most.


*  The rate hike should be positive to insurer as well. We believe that PICC is going to benefit most.


*  Other implications: While the rate hike itself is moderately positive to the banks, we expect the market to react negatively. The weakness in overseas market, and the recent strong rally in China and HK market would trigger some profit taking.


*  Inflow of hot money, and strength in Rmb may continue after the rate hikes.


*  The upcoming CPI and GDP figures (both due on 21st Oct, Thu) may surprise the market on upside.

 

China raises key rate for the first time since 2007

Bloomberg

BEIJING

The one-year lending rate will increase to 5.56 [+0.25] per cent from 5.31 per cent effective today, the People’s Bank of China said on its website. The deposit rate will increase to 2.5 [+0.25] per cent from 2.25 per cent.

“This is a bucket of cold water for the market,” said Capital Securities analyst Zhang Yuheng in Shanghai.

The tightening would hit both equities and commodities, he said.

The impact was also felt by global markets across the board after the announcement last night. Oil prices fell, stock markets turned negative in Europe and the US dollar rose as investors were caught off guard by the tightening step.

Inflation hit 3.5 per cent in August over a year earlier, above the official annual target of 3 per cent.

Data to be released in Beijing tomorrow may show that September inflation climbed to 3.6 per cent or more even as economic growth moderated, analysts said. — China has unexpectedly raised its benchmark lending and deposit rates for the first time since 2007, ahead of data that may show inflation accelerated to the fastest pace in almost two years.Agencies

 

SINGAPORE

The latest changes to the law, tabled yesterday in Parliament, include more stringent penalties and come at a time when residential property prices have risen significantly while some fines and jail terms have been the same since 1974.

The newest requirement is for Singaporeans who give up their citizenship and foreigners who give up their permanent residency to dispose of their landed property within two years.

Failure to do so will result in a fine of up to $20,000 and/or a three-year jail term. In addition, foreigners who inherit landed property have to sell it within five years instead of the current 10 years.

[PENALTY  should  be  either CONFISCATION  or  FORCED  SALE which are  mOst  effective  than  fines and jail]

These moves are to reinforce the benefits of citizenship and PR status, said property analysts such as Suntec Chesterton International research and consultancy director Colin Tan.

When the Act was introduced in 1973 — the penalties were revised a year later — foreigners had to be permanent residents and get approval from the government to buy landed property, including strata-landed housing and vacant residential land.

They can buy only one landed home for owner-occupation, not for rental, and must dispose of their existing restricted property before acquiring a new one.

They are not allowed to sell the property within three years from the date of purchase or from the date of the Temporary Occupation Permit.

The amendments in 2006 increased the penalty for converted foreign companies which own restricted properties without approval and citizens who hold such homes as nominees for foreigners.

If the new Bill is passed, those found breaching these rules will be fined up to $200,000, up from $5,000 previously, and a further fine of $2,000 each day they remain non-compliant.

Other penalties include a fine of up to $10,000 or three times the rental income, whichever is higher, for unauthorised rental. The Controller of Residential Property also gets powers to lodge a caveat to prevent unauthorised sales.

SLP International’s executive director of research and consultancy Nicholas Mak said the move would close a “loophole” for foreigners who buy landed property after becoming citizens or PRs and then give up their residency status after a few years.

MediaCorp understands there have been three to four offences of unauthorised property sale in the last two years. Of the 70,000 landed homes, PRs own 3 to 4 per cent.

Another change will affect foreign developers — defined as any company with foreign directors or any amount of foreign ownership, including listed companies since foreigners can buy the shares — which will include firms such as Keppel Land and CapitaLand.

The Government will charge a fee if foreign developers extend the fiveyear window to complete residential developments after acquiring the land, or take more than two years to sell all units from the date of TOP. MediaCorp understands the Government can make exceptions on a caseby-case basis, such as during a recession. Other Bills introduced in Parliament yesterday include the Maintenance of Parents (Amendment) Bill, which proposes mandatory conciliation sessions and tribunal access to necessary government records and documents, the Industrial Relations (Amendment) Bill, which proposes a new mediation scheme for some disputes involving employees who are managers and executives, and the Civil Defence (Amendment) Bill, which will provide for officers to serve outside of Singapore.— Foreign ownership of landed homes here is set to be tightened, four years after the Residential Property Act was last revised.

From next month, sellers of Housing and Development Board (HDB) flats will have to observe a seven-day cooling-off period before they can grant an Option-to-Purchase (OTP) to the buyers, the HDB said yesterday.

The HDB said the measure was part of regular reviews to better protect the interests of sellers and buyers.

The cooling-off period starts after sellers complete a resale checklist, which has to be submitted via the HDB website.

Introduced two years ago, the checklist will be enhanced to require sellers to state their next housing arrangement, said the HDB.

If the sellers intend to buy another flat, they have to work out their estimated sales proceed of their current flat, and submit a financial plan for their next flat purchase.

Buyers of resale flats, acting with or without agents, will also be required to complete and submit the checklist.

Previously, sellers or buyers acting without agents were encouraged, butnot required, to go through a separate checklist — which need not be submitted to the HDB. Mustafa Shafawi

MICA (P) 057/10/2010 • a publication of • NEWS HOTLI NE 6822 2268 Tuesday October 19, 2010 www.todayonline.com we set you thinking

Slew of changes to landed property ownership tabled in Parliament

 

HDB unable to allow exemptions for those who inherit overseas properties: Mah

HDB unable to allow exemptions for those who inherit overseas properties: Mah

 

$388 billion in Chinese loans at risk

BEIJING

The results of the investigation were published yesterday on the front page of the official

The probe is a first step in what the government has promised will be a thorough effort to clean up the mess left by a surge of stimulus spending to counter the global financial crisis last year.

Local governments, which are officially barred from borrowing, launched thousands of hybrid government company bodies as financing vehicles to get around the restrictions and fund their expenditures, much of which went to infrastructure.

According to the investigation, 24 per cent of the debt incurred by the local financing vehicles is fully backed by revenues from the projects that they have funded.

A second batch of loans, about 50 per cent of the total, will not be recoverable directly from the projects that they have funded. However, these will be covered by secondary sources, such as government revenues.

The third batch is the 26 per cent in serious trouble.

“With the third kind of loans, projects did not conform to regulations; fiscal guarantees did not conform to regulations and there will be serious risks in paying them back. For example, the loans have been embezzled or used as investment capital,” the

Large state-owned banks provided about 40 per cent of the loans to the financing vehicles, while smaller banks accounted for 26 per cent and government-controlled policy banks the remaining 30 per cent. — About a quarter of all loans to Chinese local government financing vehicles are at a serious risk of default, according to regulators, who estimate that 2 trillion yuan ($388.6 billion) of debt could turn sour.China Securities Journal.China Securities Journal reported.REUTERS

 

Hong Kong ceases property-for-residency scheme

Its government will temporarily remove real estate from its Capital Investment Entrant Scheme, which was set up to encourage foreigners to invest to gain residency, Chief Executive Donald Tsang said in his annual policy address yesterday.HONG KONG — Residency will no longer be offered to foreigners who buy property in Hong Kong, as the city intensified efforts to cool home prices that have jumped almost 50 per cent from last year.

 

China Stock Rally `Sustainable,' Will Chase Region, Mobius Says

• 
  
• Tweet (1)
• LinkedIn
• Share
  • Business Exchange
  • Buzz up!
  • Digg
• Print
• Email

China stocks will extend their rally after entering a bull market yesterday as investors increase purchases in a market that lagged behind gains in Asia, according to Templeton Asset Management Ltd.’s Mark Mobius.

“It’s going to continue, yes, it’s sustainable,” Mobius, who oversees about $40 billion as chairman of Templeton’s emerging markets group, said in an interview in Kuala Lumpur. “People will say ‘hey, Malaysia’s gone up, Indonesia’s gone up, now let’s go to China,’ it’ll get rotation.”

The Shanghai Composite Index is Asia’s worst performer this year, with a 13 percent decline as the government boosted measures to slow the economy and cool property prices. At the same time, Indonesia’s Jakarta Composite Index has rallied 40 percent, Thailand’s SET Index has jumped 33 percent and Malaysia’s FTSE Bursa Malaysia KLCI Index has risen 17 percent.

The Chinese gauge has rebounded 20 percent from the 2010 low on July 5, the threshold some investors consider the beginning of a bull market, on signs the nation’s economic growth will remain resilient and the yuan will continue to strengthen.

“China now is going to start picking up because the rest of the world is picking up,” Mobius said. “That’s what will happen, because China’s been behind.”

China’s manufacturing expanded at the fastest pace in four months in September, while industrial output rose 13.9 percent in August, exceeding economists’ estimates. Citing the economy’s outlook, Moody’s Investors Service on Oct. 8 put the nation’s debt rating on review for a possible upgrade. The yuan has gained 2.3 percent this year.

Fund Flows

Mobius told reporters in Kuala Lumpur yesterday that the flow of funds into Asia is “sustainable, but with corrections along the way.”

“The valuations are not excessive. We’re not seeing the kind of things we saw during the dot-com boom, where nobody really cared about earnings, they cared about the spending,” he said. “It’s sustainable, because countries growing at 10 percent means that earnings for companies are growing at least that much, probably double that.”

Overseas investors pumped the most cash into emerging- market equities since late 2007 in October and Asia bond funds attracted more capital on further signs growth in developed nations is slowing, according to EPFR Global on Oct. 8.

The equity funds received net inflows of more than $6 billion in the week ended Oct. 6, the biggest amount in 33 months, the Cambridge, Massachusetts-based research company said in an e-mailed statement. Investors added $1.1 billion to funds dedicated to emerging-market debt, it said.

Inflows are breaking records since EPFR started tracking the data in 1995 on speculation central banks will join Japan’s monetary easing, releasing more capital that can be invested in higher-yielding assets.

 

Hey, small spender

Is it any wonder that the non-existent fiscal expansion is not creating jobs in the US ?

Paul Krugman

Here is the narrative you hear everywhere: The New York Times

The writer is a professor of economics and international affairs at Princeton University. He received the Nobel Prize in Economics in 2008.

23

comment&analysis

today Wednesday October 13, 2010

United States President Barack Obama has presided over a huge expansion of government but unemployment has remained high. And this proves that government spending cannot create jobs.

Here is what you need to know:

The whole story is a myth.

There never was a big expansion of government spending.

In fact, that has been the key problem with economic policy in the Obama years:

We never had the kind of fiscal expansion that might have created the millions of jobs we need.

Ask yourself: What major new federal programmes have started up since Mr Obama took office?

Health care reform, for the most part, has not kicked in yet, so that cannot be it. So are there giant infrastructure projects under way?  No.

Are there huge new benefits for low-income workers or the poor?  No.

Where is all that spending we keep hearing about?

It never happened.

To be fair, spending on safety-net programmes, mainly unemployment insurance and Medicaid, has risen — because, in case you have not noticed, there has been a surge in the number of Americans without jobs and badly in need of help. And there were also substantial outlays to rescue troubled financial institutions, although it appears that the government will get most of its money back.

But when people denounce big government, they usually have in mind the creation of big bureaucracies and major new programmes.

And that just has not taken place.

Consider, in particular, one fact that may surprise you: The total number of government workers in America has been falling, not rising, under Mr Obama.

A small rise in federal employment was swamped by sharp declines at the state and local level — most notably, by the laying off of schoolteachers. Total government payrolls have fallen by more than 350,000 since January last year. Now, direct employment is not a perfect measure of the government’s size, since the government also employs workers indirectly when it buys goods and services from the private sector.

And government purchases of goods and services have gone up. But adjusted for inflation, they rose only 3 per cent over the last two years — a pace slower than that of the previous two years and slower than the economy’s normal rate of growth.

So as I said, the big government expansion everyone talks about never happened.

This fact, however, raises two questions.

First, we know that Congress enacted a stimulus Bill early last year; why did that not translate into a big rise in government spending?

Second, if the expansion never happened, why does everyone think it did?

Part of the answer to the first question is that the stimulus was not actually all that big compared with the size of the economy.

Furthermore, it was not mainly focused on increasing government spending.

Of the roughly US$600 billion ($785.5 billion) cost of the Recovery Act last year and this year, more than 40 per cent came from tax cuts, while another large chunk consisted of aid to state and local governments. Only the remainder involved direct federal spending.

And federal aid to state and local governments was not enough to make up for plunging tax receipts in the face of the economic slump.

So states and cities, which cannot run large deficits, were forced into drastic spending cuts, more than offsetting the modest rise at the federal level.

The answer to the second question — why there is a widespread perception that government spending has surged, when it has not — is that there has been a disinformation campaign from the right, based on the usual combination of fact-free assertions and cooked numbers. This campaign has been effective in part because the Obama administration has not offered an effective reply.

Actually, the administration has had a messaging problem on economic policy since its first months in office, when it went for a stimulus plan that many of us warned from the beginning was inadequate given the size of the economy’s troubles.

You can argue that Mr Obama got all he could — that a larger plan would not have made it through Congress (which is questionable), and that an inadequate stimulus was much better than none at all (which it was). But that is not an argument the administration ever made. Instead, it has insisted throughout that its original plan was just right, a position that has become increasingly awkward as the recovery stalls.

And a side consequence of this awkward positioning is that officials cannot easily offer the obvious rebuttal to claims that big spending failed to fix the economy — namely, that thanks to the inadequate scale of the Recovery Act, big spending

never happened in the first place.

But if they will not say it, I will: If job creating government spending has failed to bring down unemployment in the Obama era, it is not because it does not work; it is because it was not tried.

 

World faces ‘risks of a currency war’

BEIJING

The

Efforts by the United States and Japan to weaken their currencies would lead to higher global commodity prices and fuel money flows into emerging markets, pushing up inflation as well as stock and property prices, it said. Against this backdrop, there will be considerable pressure on the yuan to rise, the paper said.

The central bank will find it difficult to raise interest rates because an increase in the Chinese yield spread over the US Treasuries would only suck in more cash, it added.

International Monetary Fund member countries sought to defuse currency tensions during the weekend by calling for urgent action to bolster its role in scrutinising policies that could pose a threat to global stability. But they laid out no concrete plans.

In its ongoing fight against inflationary pressures, the People’s Bank of China yesterday ordered the country’s top six lenders to increase the reserve requirement ratio (RRR) by 50 basis points to 17.5 per cent for two months, according to bank officials who requested anonymity because no public announcement was made.

“The RRR hike is used as a clear signal to commercial banks that the central bank is willing to take actions to control lending as necessary,” Goldman Sachs said in a note to clients. — The world faces risks of a currency war that could boost inflation and asset prices in emerging markets, an official Chinese newspaper said yesterday.China Securities Journal said in a front-page editorial that Beijing would have to control the pace of yuan appreciation and refrain from raising interest rates in order to ward off inflows of speculative capital.AGENCIES

 

fInance  mInIsters    ? ? ? ?

crImInals    ? ? ? ?

 

pharoah88      ( Date: 11-Oct-2010 12:55) Posted: today Monday October 11, 2010 B4 IMF agrees to be ‘currency cop’ after calls from world’s governments WASHINGTON Officials including United States Treasury Secretary Timothy Geithner and Egyptian Finance Minister Youssef Boutros-Ghali said the lender should outline how countries can expand their economies without damaging those of other nations. China is accused of keeping the yuan undervalued to boost exports, while low interest rates in the US and other industrial nations are blamed for propelling capital flows into emerging markets. “The IMF has an important role to play to help ensure that progress towards rebalancing strengthens," Mr Geithner said at the IMF's annual meeting on Saturday in Washington. “It is ultimately the responsibility of countries to act but the IMF must speak out effectively about challenges and marshal support for action." Currency intervention has returned to the fore as countries from China to Brazil and Japan try to restrain their exchange rates to secure a trading edge. That has roiled currency markets as has the prospect of easier monetary policy from the Federal Reserve. The US dollar fell last week to its lowest in 15 years against the yen. IMF Managing Director Dominique Strauss-Kahn accepted the role of currency cop and said the fund would publish reports highlighting linkages between economies as part of a “systemic stability initiative”. The IMF's steering committee also said it should “deepen its work” on capital flows, exchange rate movements and the accumulation of reserves. “The need to have this kind of spillover report has been discussed for months and now it's part of our toolbox,” Mr Strauss-Kahn said. It may already be too late to stop a shift towards protectionism. Ukraine's Deputy Premier, Mr Serhiy Tigipko, said in a Washington interview that his country may become the latest emerging market to consider capital controls to prevent short-term investments from fuelling volatility in its currency, the hryvnia. India may also intervene “to prevent volatility and prevent the disruption of the macroeconomic situation”, Reserve Bank of India Governor Duvvuri Subbarao told reporters in Washington. The IMF studies will focus on the US, China, the UK, Japan and the euro area. They will show, for instance, how US monetary policy affects capital flows to other countries. Canadian Finance Minister Jim Flaherty said there is broad support for Mr Strauss-Kahn's enhanced role and warned the restraining of some currencies risks fanning protectionism. China, the world's fastest growing major economy, has limited gains in the yuan to about 2 per cent against the dollar since June. “There's general agreement that the IMF has an important role to play," Mr Flaherty told reporters. “There have been discussions here with respect to developing rules of the road or guidelines with respect to how countries deal with their currencies.” The IMF has a weak record on pushing governments to change their policies towards trade and exchange rates. A 2006 effort to oversee the rebalancing of the world economy petered out and China has repeatedly rejected the fund's analysis. “For lack of a better alternative, the IMF has to play an active role in trying to mitigate currency competition,” said Mr Eswar Prasad, a senior fellow at the Brookings Institution and a former IMF official. “But the IMF power is really limited to persuasion because it has few good instruments to promote cooperation among member countries who are unwilling to modify their policies.” While UK official questioned the new approach, telling reporters it sounded like the IMF would now just carry out its regular reviews of economies at the same time, Mr Boutros-Ghali said “the IMF is the place to deal with these issues”. Developing economies that compose the Group of 24 said low interest rates in the advanced world have left them vulnerable to exchange rate appreciation and overheating. Brazil has already stepped up intervention in the currency market in a bid to prevent its currency, the real, from rallying. Chinese officials said they “We are committed to a more flexible exchange regime,” People's Bank of China Deputy Governor Yi Gang said yesterday. — Global governments have tasked the International Monetary Fund (IMF) with calming the recent outbreak of tensions over currencies amid signs they are already triggering a protectionist backlash.will stick to a gradual rise in the yuan's value to avoid social turmoil.Bloomberg

 

 

today Monday October 11, 2010 B4

IMF agrees to be ‘currency cop’ after calls from world’s governments

WASHINGTON

Officials including United States Treasury Secretary Timothy Geithner and Egyptian Finance Minister Youssef Boutros-Ghali said the lender should outline how countries can expand their economies without damaging those of other nations.

China is accused of keeping the yuan undervalued to boost exports, while low interest rates in the US and other industrial nations are blamed for propelling capital flows into emerging markets.

“The IMF has an important role to play to help ensure that progress towards rebalancing strengthens," Mr Geithner said at the IMF's annual meeting on Saturday in Washington. “It is ultimately the responsibility of countries to act but the IMF must speak out effectively about challenges and marshal support for action."

Currency intervention has returned to the fore as countries from China to Brazil and Japan try to restrain their exchange rates to secure a trading edge.

That has roiled currency markets as has the prospect of easier monetary policy from the Federal Reserve. The US dollar fell last week to its lowest in 15 years against the yen.

IMF Managing Director Dominique Strauss-Kahn accepted the role of currency cop and said the fund would publish reports highlighting linkages between economies as part of a “systemic stability initiative”. The IMF's steering committee also said it should “deepen its work” on capital flows, exchange rate movements and the accumulation of reserves. “The need to have this kind of spillover report has been discussed for months and now it's part of our toolbox,” Mr Strauss-Kahn said.

It may already be too late to stop a shift towards protectionism.

Ukraine's Deputy Premier, Mr Serhiy Tigipko, said in a Washington interview that his country may become the latest emerging market to consider capital controls to prevent short-term investments from fuelling volatility in its currency, the hryvnia.

India may also intervene “to prevent volatility and prevent the disruption of the macroeconomic situation”, Reserve Bank of India Governor Duvvuri Subbarao told reporters in Washington.

The IMF studies will focus on the US, China, the UK, Japan and the euro area. They will show, for instance, how US monetary policy affects capital flows to other countries.

Canadian Finance Minister Jim Flaherty said there is broad support for Mr Strauss-Kahn's enhanced role and warned the restraining of some currencies risks fanning protectionism.

China, the world's fastest growing major economy, has limited gains in the yuan to about 2 per cent against the dollar since June.

“There's general agreement that the IMF has an important role to play," Mr Flaherty told reporters. “There have been discussions here with respect to developing rules of the road or guidelines with respect to how countries deal with their currencies.”

The IMF has a weak record on pushing governments to change their policies towards trade and exchange rates. A 2006 effort to oversee the rebalancing of the world economy petered out and China has repeatedly rejected the fund's analysis.

“For lack of a better alternative, the IMF has to play an active role in trying to mitigate currency competition,” said Mr Eswar Prasad, a senior fellow at the Brookings Institution and a former IMF official. “But the IMF power is really limited to persuasion because it has few good instruments to promote cooperation among member countries who are unwilling to modify their policies.”

While UK official questioned the new approach, telling reporters it sounded like the IMF would now just carry out its regular reviews of economies at the same time, Mr Boutros-Ghali said “the IMF is the place to deal with these issues”.

Developing economies that compose the Group of 24 said low interest rates in the advanced world have left them vulnerable to exchange rate appreciation and overheating. Brazil has already stepped up intervention in the currency market in a bid to prevent its currency, the real, from rallying.

Chinese officials said they

“We are committed to a more flexible exchange regime,” People's Bank of China Deputy Governor Yi Gang said yesterday. — Global governments have tasked the International Monetary Fund (IMF) with calming the recent outbreak of tensions over currencies amid signs they are already triggering a protectionist backlash.will stick to a gradual rise in the yuan's value to avoid social turmoil.Bloomberg

 

A Black Swan Event in China?

Random thoughts on a China housing bubble, a fragile economy, and an agricultural 'doomsday' scenario.

by Rick Bradner

I’ll preface my remarks by stating my bias up front. I love China, the Chinese people, the food, the chaos, the confusion, the expectations, and all the contradictions. I’ve traveled there more than 10 times in the last 20+ years and have just returned from a 5 week visit. I lived and worked in Kunming from 1997-1999.

First, a brief recap on how we got here:

China has been in a more or less constant state of upheaval for the last 100 years beginning in 1912 when a revolutionary military uprising led to the provisional government of the Republic of China being formed in Nanjing by Sun Yat-sen. This republican government was fragmented and fairly powerless.

Following  the death of Sun in 1925, China descended into a more or less constant state of civil unrest including the Sino-Japanese War (1937–1945) ending in 1949 with the defeat of Chiang Kai-shek by the Communist forces of Mao Zedong. A range of policies aimed at social engineering such as “ the 100 Flowers Campaign”, “the Great Leap Forward” and “the Great Sparrow Campaign” added greatly to the human toll wrought by the drought of 1959-60. It was estimated that at least 25 million and possibly as many as 35 million Chinese died due to famine.

This was followed in short order by “The Cultural Revolution” which officially ran from 1966-1976 and ended with Mao’s death. Among other things, The Cultural Revolution brought the education system to a virtual standstill, with many teachers and professors being sent for “re-education” and this is still having an enormous impact on Chinese development policy.

The last major “revolution” was far more positive, when Dèng Xiaopíng came to power and opened up China to capitalism 30 years ago. The time since has been the longest period of stability the country has enjoyed in at least 150 years.

Is that Swan Black?

Education & the new leaders – The Cultural Revolution is the pivotal event in recent Chinese history. Economically, a major transition the country is going through as a result of the Cultural Revolution is replacing that generation’s relatively uneducated workforce with the “post-revs”. All else aside, this should deliver a significant move in productivity.

Politically, the next group scheduled to assume leadership of China beginning in 2012 will include the first of the post-Cultural Revolution generation to receive what would be considered a modern education. It’s an open question as to what direction they will take the country. As the first computer generation, will they be open to a more liberal policy on internet access, or having never experienced the ravages of war, will they be less adverse to military adventures?

Japan - Notwithstanding the enormous recent investments Japan has made, nor official denials, the Chinese neither like nor trust Japan. The memories of the atrocities of the Sino-Japanese War have not diminished. On my recent visit I saw frequent references to and recounting of Japan’s brutality in China. A military conflict between the nations within the next 15 years is a real (if small) possibility.

China’s bubble

All protestations to the contrary, I believe that China is in the midst of a housing bubble approaching the levels of those in the U.S.pre-2008. Currently, there are NO property taxes  in China. Given the limited number of available investment options, this has resulted in a large number of housing units being built and left vacant. I’ve heard estimates for different cities ranging from 30%-55%. There has been discussion recently of introducing a property tax. It makes a lot of sense to do so as it would take a bit of air out of the “bubble” in prices and generate some revenue for hard-pressed municipalities who have to supply services, but many of the developers are government owned, carry a large inventory of unsold units, and have a substantial interest in stalling this idea for as long as possible. \

If a property tax comes about it will be quite low initially but the threat of escalation could  take a lot of new construction out of the equation. This could seriously impact the commodities markets. Here’s a link to a discussion of the issue on China’s CCTV:

http://english.cntv.cn/program/dialogue/20100907/105849.shtml

“A disaster for the world”

Premier Wen Jiabao said Wednesday (Oct.6) that a rapid shift in the value of the yuan would be “a disaster for the world” I wouldn’t argue that the RMB isn’t over-valued, but given that it’s pretty much the only major economy that’s reasonably stable at the moment, this is probably not the best time to kick the legs out from under their chair. The Chinese economy is really only 30 years old and is still pretty fragile; anything but a gradual move could derail it and the global recovery. “If the yuan isn’t stable, it will bring disaster to China and the world,” the Premier warned. I don’t think he’s too far off the mark.

China’s “Great Depression”?

Something I’ve been thinking about a lot lately and that is admittedly pretty far off the map, is the possibility of a “Black Swan” agriculture event in China. In 2008 I often countered the contention that the U.S. was then headed for another “Great Depression” by pointing out that in 1930 20% of the U.S. work force were farm workers (2% today) and that the “Dust Bowl” drought of the ‘30’s  generated a 15%+ unemployment rate all by itself.  This on the heels of the 1929 economic crash, created the “Great Depression”; a true “Black Swan”event.

Official numbers suggest that farming in China still accounts for 800 million (61%) of it’s 1.3 billion people. Imagine for a moment the chain of events that might follow a repeat of the 1958-1960 drought.

For anyone interested in a daily update on the view from Beijing, there is an English language version of CCTV;  http://english.cntv.cn/01/index.shtml

 

 

http://www.imf.org/external/pubs/ft/issues/issues27/index.htm

IMF  2001

ECONOMIC
ISSUES
NO.  27

Tax Policy for Developing Countries
Vito Tanzi, Howell Zee March 2001

© 2001 International Monetary Fund


[Preface]  [Tax Policy for Developing Countries] 
[Level of Tax Revenue]  [Composition of Tax Revenue?] 
[Selecting the Right Tax System] 
[Tax Policy Challenges Facing Developing Countries]  [Author Information]


Preface

The Economic Issues series aims to make available to a broad readership of nonspecialists some of the economic research being produced on topical issues by IMF staff. The series draws mainly from IMF Working Papers, which are technical papers produced by IMF staff members and visiting scholars, as well as from policy-related research papers.

This Economic Issue is based on IMF Working Paper 00/35 "Tax Policy for Emerging Markets," by Vito Tanzi and Howell Zee. Citations for the research referred to in this shortened version are provided in the original paper which readers can purchase (at $10.00 a copy) from the IMF Publication Services or download from www.imf.org. David Driscoll prepared the text for this pamphlet.

Tax Policy for Developing Countries

Why do we have taxes? The simple answer is that, until someone comes up with a better idea, taxation is the only practical means of raising the revenue to finance government spending on the goods and services that most of us demand. Setting up an efficient and fair tax system is, however, far from simple, particularly for developing countries that want to become integrated in the international economy. The ideal tax system in these countries should raise essential revenue without excessive government borrowing, and should do so without discouraging economic activity and without deviating too much from tax systems in other countries.

Developing countries face formidable challenges when they attempt to establish efficient tax systems. First, most workers in these countries are typically employed in agriculture or in small, informal enterprises. As they are seldom paid a regular, fixed wage, their earnings fluctuate, and many are paid in cash, "off the books." The base for an income tax is therefore hard to calculate. Nor do workers in these countries typically spend their earnings in large stores that keep accurate records of sales and inventories. As a result, modern means of raising revenue, such as income taxes and consumer taxes, play a diminished role in these economies, and the possibility that the government will achieve high tax levels is virtually excluded.

Second, it is difficult to create an efficient tax administration without a well-educated and well-trained staff, when money is lacking to pay good wages to tax officials and to computerize the operation (or even to provide efficient telephone and mail services), and when taxpayers have limited ability to keep accounts. As a result, governments often take the path of least resistance, developing tax systems that allow them to exploit whatever options are available rather than establishing rational, modern, and efficient tax systems.

Third, because of the informal structure of the economy in many developing countries and because of financial limitations, statistical and tax offices have difficulty in generating reliable statistics. This lack of data prevents policymakers from assessing the potential impact of major changes to the tax system. As a result, marginal changes are often preferred over major structural changes, even when the latter are clearly preferable. This perpetuates inefficient tax structures.

Fourth, income tends to be unevenly distributed within developing countries. Although raising high tax revenues in this situation ideally calls for the rich to be taxed more heavily than the poor, the economic and political power of rich taxpayers often allows them to prevent fiscal reforms that would increase their tax burdens. This explains in part why many developing countries have not fully exploited personal income and property taxes and why their tax systems rarely achieve satisfactory progressivity (in other words, where the rich pay proportionately more taxes).

In conclusion, in developing countries, tax policy is often the art of the possible rather than the pursuit of the optimal. It is therefore not surprising that economic theory and especially optimal taxation literature have had relatively little impact on the design of tax systems in these countries. In discussing tax policy issues facing many developing countries today, the authors of this pamphlet consequently draw on extensive practical, first-hand experience with the IMF's provision of tax policy advice to those countries. They consider these issues from both the macroeconomic (the level and composition of tax revenue) and microeconomic (design aspects of specific taxes) perspective.

Level of Tax Revenue

What level of public spending is desirable for a developing country at a given level of national income? Should the government spend one-tenth of national income? A third? Half? Only when this question has been answered can the next question be addressed of where to set the ideal level of tax revenue; determining the optimal tax level is conceptually equivalent to determining the optimal level of government spending. Unfortunately, the vast literature on optimal tax theory provides little practical guidance on how to integrate the optimal level of tax revenue with the optimal level of government expenditure.

Nevertheless, an alternative, statistically based approach to assessing whether the overall tax level in a developing country is appropriate consists of comparing the tax level in a specific country to the average tax burden of a representative group of both developing and industrial countries, taking into account some of these countries' similarities and dissimilarities. This comparison indicates only whether the country's tax level, relative to other countries and taking into account various characteristics, is above or below the average. This statistical approach has no theoretical basis and does not indicate the "optimal" tax level for any country. The most recent data show that the tax level in major industrialized countries (members of the Organization for Economic Cooperation and Development or OECD) is about double the tax level in a representative sample of developing countries (38 percent of GDP compared with 18 percent).

Economic development will often generate additional needs for tax revenue to finance a rise in public spending, but at the same time it increases the countries' ability to raise revenue to meet these needs. More important than the level of taxation per se is how revenue is used. Given the complexity of the development process, it is doubtful that the concept of an optimal level of taxation robustly linked to different stages of economic development could ever be meaningfully derived for any country.

Composition of Tax Revenue

Turning to the composition of tax revenue, we find ourselves in an area of conflicting theories. The issues involve the taxation of income relative to that of consumption and under consumption, the taxation of imports versus the taxation of domestic consumption. Both efficiency (whether the tax enhances or diminishes the overall welfare of those who are taxed) and equity (whether the tax is fair to everybody) are central to the analysis.

The conventional belief that taxing income entails a higher welfare (efficiency) cost than taxing consumption is based in part on the fact that income tax, which contains elements of both a labor tax and a capital tax, reduces the taxpayer's ability to save. Doubt has been cast on this belief, however, by considerations of the crucial role of the length of the taxpayer's planning horizon and the cost of human and physical capital accumulation. The upshot of these theoretical considerations renders the relative welfare costs of the two taxes (income and consumption) uncertain.

Another concern in the choice between taxing income and taxing consumption involves their relative impact on equity. Taxing consumption has traditionally been thought to be inherently more regressive (that is, harder on the poor than the rich) than taxing income. Doubt has been cast on this belief as well. Theoretical and practical considerations suggest that the equity concerns about the traditional form of taxing consumption are probably overstated and that, for developing countries, attempts to address these concerns by such initiatives as graduated consumption taxes would be ineffective and administratively impractical.

With regard to taxes on imports, lowering these taxes will lead to more competition from foreign enterprises. While reducing protection of domestic industries from this foreign competition is an inevitable consequence, or even the objective, of a trade liberalization program, reduced budgetary revenue would be an unwelcome by-product of the program. Feasible compensatory revenue measures under the circumstances almost always involve increasing domestic consumption taxes. Rarely would increasing income taxes be considered a viable option on the grounds of both policy (because of their perceived negative impact on investment) and administration (because their revenue yield is less certain and less timely than that from consumption tax changes).

Data from industrial and developing countries show that the ratio of income to consumption taxes in industrial countries has consistently remained more than double the ratio in developing countries. (That is, compared with developing countries, industrial countries derive proportionally twice as much revenue from income tax than from consumption tax.) The data also reveal a notable difference in the ratio of corporate income tax to personal income tax. Industrial countries raise about four times as much from personal income tax than from corporate income tax. Differences between the two country groups in wage income, in the sophistication of the tax administration, and in the political power of the richest segment of the population are the primary contributors to this disparity. On the other hand, revenue from trade taxes is significantly higher in developing countries than in industrial countries.

While it is difficult to draw clear-cut normative policy prescriptions from international comparisons as regards the income-consumption tax mix, a compelling implication revealed by the comparison is that economic development tends to lead to a relative shift in the composition of revenue from consumption to personal income taxes. At any given point of time, however, the important tax policy issue for developing countries is not so much to determine the optimal tax mix as to spell out clearly the objectives to be achieved by any contemplated shift in the mix, to assess the economic consequences (for efficiency and equity) of such a shift, and to implement compensatory measures if the poor are made worse off by the shift.

Selecting the Right Tax System

In developing countries where market forces are increasingly important in allocating resources, the design of the tax system should be as neutral as possible so as to minimize interference in the allocation process. The system should also have simple and transparent administrative procedures so that it is clear if the system is not being enforced as designed.

Personal Income Tax

Any discussion of personal income tax in developing countries must start with the observation that this tax has yielded relatively little revenue in most of these countries and that the number of individuals subject to this tax (especially at the highest marginal rate) is small. The rate structure of the personal income tax is the most visible policy instrument available to most governments in developing countries to underscore their commitment to social justice and hence to gain political support for their policies. Countries frequently attach great importance to maintaining some degree of nominal progressivity in this tax by applying many rate brackets, and they are reluctant to adopt reforms that will reduce the number of these brackets.

More often than not, however, the effectiveness of rate progressivity is severely undercut by high personal exemptions and the plethora of other exemptions and deductions that benefit those with high incomes (for example, the exemption of capital gains from tax, generous deductions for medical and educational expenses, the low taxation of financial income). Tax relief through deductions is particularly egregious because these deductions typically increase in the higher tax brackets. Experience compellingly suggests that effective rate progressivity could be improved by reducing the degree of nominal rate progressivity and the number of brackets and reducing exemptions and deductions. Indeed, any reasonable equity objective would require no more than a few nominal rate brackets in the personal income tax structure. If political constraints prevent a meaningful restructuring of rates, a substantial improvement in equity could still be achieved by replacing deductions with tax credits, which could deliver the same benefits to taxpayers in all tax brackets.

The effectiveness of a high marginal tax rate is also much reduced by its often being applied at such high levels of income (expressed in shares of per capita GDP) that little income is subject to these rates. In some developing countries, a taxpayer's income must be hundreds of times the per capita income before it enters the highest rate bracket.

Moreover, in some countries the top marginal personal income tax rate exceeds the corporate income tax by a significant margin, providing strong incentives for taxpayers to choose the corporate form of doing business for purely tax reasons. Professionals and small entrepreneurs can easily siphon off profits through expense deductions over time and escape the highest personal income tax permanently. A tax delayed is a tax evaded. Good tax policy, therefore, ensures that the top marginal personal income tax rate does not differ materially from the corporate income tax rate.

In addition to the problem of exemptions and deductions tending to narrow the tax base and to negate effective progressivity, the personal income tax structure in many developing countries is riddled with serious violations of the two basic principles of good tax policy: symmetry and inclusiveness. (It goes without saying, of course, that tax policy should also be guided by the general principles of neutrality, equity, and simplicity.) The symmetry principle refers to the identical treatment for tax purposes of gains and losses of any given source of income. If the gains are taxable, then the losses should be deductible. The inclusiveness principle relates to capturing an income stream in the tax net at some point along the path of that stream. For example, if a payment is exempt from tax for a payee, then it should not be a deductible expense for the payer. Violating these principles generally leads to distortions and inequities.

The tax treatment of financial income is problematic in all countries. Two issues dealing with the taxation of interest and dividends in developing countries are relevant:

 

• In many developing countries, interest income, if taxed at all, is taxed as a final withholding tax at a rate substantially below both the top marginal personal and corporate income tax rate. For taxpayers with mainly wage income, this is an acceptable compromise between theoretical correctness and practical feasibility. For those with business income, however, the low tax rate on interest income coupled with full deductibility of interest expenditure implies that significant tax savings could be realized through fairly straightforward arbitrage transactions. Hence it is important to target carefully the application of final withholding on interest income: final withholding should not be applied if the taxpayer has business income.
  
• The tax treatment of dividends raises the well-known double taxation issue. For administrative simplicity, most developing countries would be well advised either to exempt dividends from the personal income tax altogether, or to tax them at a relatively low rate, perhaps through a final withholding tax at the same rate as that imposed on interest income.

Corporate Income Tax

Tax policy issues relating to corporate income tax are numerous and complex, but particularly relevant for developing countries are the issues of multiple rates based on sectoral differentiation and the incoherent design of the depreciation system. Developing countries are more prone to having multiple rates along sectoral lines (including the complete exemption from tax of certain sectors, especially the parastatal sector) than industrial countries, possibly as a legacy of past economic regimes that emphasized the state's role in resource allocation. Such practices, however, are clearly detrimental to the proper functioning of market forces (that is, the sectoral allocation of resources is distorted by differences in tax rates). They are indefensible if a government's commitment to a market economy is real. Unifying multiple corporate income tax rates should thus be a priority.

Allowable depreciation of physical assets for tax purposes is an important structural element in determining the cost of capital and the profitability of investment. The most common shortcomings found in the depreciation systems in developing countries include too many asset categories and depreciation rates, excessively low depreciation rates, and a structure of depreciation rates that is not in accordance with the relative obsolescence rates of different asset categories. Rectifying these shortcomings should also receive a high priority in tax policy deliberations in these countries.

In restructuring their depreciation systems, developing countries could well benefit from certain guidelines:

 

• Classifying assets into three or four categories should be more than sufficient—for example, grouping assets that last a long time, such as buildings, at one end, and fast-depreciating assets, such as computers, at the other with one or two categories of machinery and equipment in between.
  
• Only one depreciation rate should be assigned to each category.
  
• Depreciation rates should generally be set higher than the actual physical lives of the underlying assets to compensate for the lack of a comprehensive inflation-compensating mechanism in most tax systems.
  
• On administrative grounds, the declining-balance method should be preferred to the straight-line method. The declining-balance method allows the pooling of all assets in the same asset category and automatically accounts for capital gains and losses from asset disposals, thus substantially simplifying bookkeeping requirements.

Value-Added Tax, Excises, and Import Tariffs

While VAT has been adopted in most developing countries, it frequently suffers from being incomplete in one aspect or another. Many important sectors, most notably services and the wholesale and retail sector, have been left out of the VAT net, or the credit mechanism is excessively restrictive (that is, there are denials or delays in providing proper credits for VAT on inputs), especially when it comes to capital goods. As these features allow a substantial degree of cascading (increasing the tax burden for the final user), they reduce the benefits from introducing the VAT in the first place. Rectifying such limitations in the VAT design and administration should be given priority in developing countries.

Many developing countries (like many OECD countries) have adopted two or more VAT rates. Multiple rates are politically attractive because they ostensibly—though not necessarily effectively—serve an equity objective, but the administrative price for addressing equity concerns through multiple VAT rates may be higher in developing than in industrial countries. The cost of a multiple-rate system should be carefully scrutinized.

The most notable shortcoming of the excise systems found in many developing countries is their inappropriately broad coverage of
products—often for revenue reasons. As is well known, the economic rationale for imposing excises is very different from that for imposing a general consumption tax. While the latter should be broadly based to maximize revenue with minimum distortion, the former should be highly selective, narrowly targeting a few goods mainly on the grounds that their consumption entails negative externalities on society (in other words, society at large pays a price for their use by individuals). The goods typically deemed to be excisable (tobacco, alcohol, petroleum products, and motor vehicles, for example) are few and usually inelastic in demand. A good excise system is invariably one that generates revenue (as a by-product) from a narrow base and with relatively low administrative costs.

Reducing import tariffs as part of an overall program of trade liberalization is a major policy challenge currently facing many developing countries. Two concerns should be carefully addressed. First, tariff reduction should not lead to unintended changes in the relative rates of effective protection across sectors. One simple way of ensuring that unintended consequences do not occur would be to reduce all nominal tariff rates by the same proportion whenever such rates need to be changed. Second, nominal tariff reductions are likely to entail short-term revenue loss. This loss can be avoided through a clear-cut strategy in which separate compensatory measures are considered in sequence: first reducing the scope of tariff exemptions in the existing system, then compensating for the tariff reductions on excisable imports by a commensurate increase in their excise rates, and finally adjusting the rate of the general consumption tax (such as the VAT) to meet remaining revenue needs.

Tax Incentives

While granting tax incentives to promote investment is common in countries around the world, evidence suggests that their effectiveness in attracting incremental investments—above and beyond the level that would have been reached had no incentives been granted—is often questionable. As tax incentives can be abused by existing enterprises disguised as new ones through nominal reorganization, their revenue costs can be high. Moreover, foreign investors, the primary target of most tax incentives, base their decision to enter a country on a whole host of factors (such as natural resources, political stability, transparent regulatory systems, infrastructure, a skilled workforce), of which tax incentives are frequently far from being the most important one. Tax incentives could also be of questionable value to a foreign investor because the true beneficiary of the incentives may not be the investor, but rather the treasury of his home country. This can come about when any income spared from taxation in the host country is taxed by the investor's home country.

Tax incentives can be justified if they address some form of market failure, most notably those involving externalities (economic consequences beyond the specific beneficiary of the tax incentive). For example, incentives targeted to promote high-technology industries that promise to confer significant positive externalities on the rest of the economy are usually legitimate. By far the most compelling case for granting targeted incentives is for meeting regional development needs of these countries. Nevertheless, not all incentives are equally suited for achieving such objectives and some are less cost-effective than others. Unfortunately, the most prevalent forms of incentives found in developing countries tend to be the least meritorious.

Tax Holidays

Of all the forms of tax incentives, tax holidays (exemptions from paying tax for a certain period of time) are the most popular among developing countries. Though simple to administer, they have numerous shortcomings. First, by exempting profits irrespective of their amount, tax holidays tend to benefit an investor who expects high profits and would have made the investment even if this incentive were not offered. Second, tax holidays provide a strong incentive for tax avoidance, as taxed enterprises can enter into economic relationships with exempt ones to shift their profits through transfer pricing (for example, overpaying for goods from the other enterprise and receiving a kickback). Third, the duration of the tax holiday is prone to abuse and extension by investors through creative redesignation of existing investment as new investment (for example, closing down and restarting the same project under a different name but with the same ownership). Fourth, time-bound tax holidays tend to attract short-run projects, which are typically not so beneficial to the economy as longer-term ones. Fifth, the revenue cost of the tax holiday to the budget is seldom transparent, unless enterprises enjoying the holiday are required to file tax forms. In this case, the government must spend resources on tax administration that yields no revenue and the enterprise loses the advantage of not having to deal with tax authorities.

Tax Credits and Investment Allowances

Compared with tax holidays, tax credits and investment allowances have a number of advantages. They are much better targeted than tax holidays for promoting particular types of investment and their revenue cost is much more transparent and easier to control. A simple and effective way of administering a tax credit system is to determine the amount of the credit to a qualified enterprise and to "deposit" this amount into a special tax account in the form of a bookkeeping entry. In all other respects the enterprise will be treated like an ordinary taxpayer, subject to all applicable tax regulations, including the obligation to file tax returns. The only difference would be that its income tax liabilities would be paid from credits "withdrawn" from its tax account. In this way information is always available on the budget revenue forgone and on the amount of tax credits still available to the enterprise. A system of investment allowances could be administered in much the same way as tax credits, achieving similar results.

There are two notable weaknesses associated with tax credits and investment allowances. First, these incentives tend to distort choice in favor of short-lived capital assets since further credit or allowance becomes available each time an asset is replaced. Second, qualified enterprises may attempt to abuse the system by selling and purchasing the same assets to claim multiple credits or allowances or by acting as a purchasing agent for enterprises not qualified to receive the incentive. Safeguards must be built into the system to minimize these dangers.

Accelerated Depreciation

Providing tax incentives in the form of accelerated depreciation has the least of the shortcomings associated with tax holidays and all of the virtues of tax credits and investment allowances—and overcomes the latter's weakness to boot. Since merely accelerating the depreciation of an asset does not increase the depreciation of the asset beyond its original cost, little distortion in favor of short-term assets is generated. Moreover, accelerated depreciation has two additional merits. First, it is generally least costly, as the forgone revenue (relative to no acceleration) in the early years is at least partially recovered in subsequent years of the asset's life. Second, if the acceleration is made available only temporarily, it could induce a significant short-run surge in investment.

Investment Subsidies

While investment subsidies (providing public funds for private investments) have the advantage of easy targeting, they are generally quite problematic. They involve out-of-pocket expenditure by the government up front and they benefit nonviable investments as much as profitable ones. Hence, the use of investment subsidies is seldom advisable.

Indirect Tax Incentives

Indirect tax incentives, such as exempting raw materials and capital goods from the VAT, are prone to abuse and are of doubtful utility. Exempting from import tariffs raw materials and capital goods used to produce exports is somewhat more justifiable. The difficulty with this exemption lies, of course, in ensuring that the exempted purchases will in fact be used as intended by the incentive. Establishing export production zones whose perimeters are secured by customs controls is a useful, though not entirely foolproof, remedy for this abuse.

Triggering Mechanisms

The mechanism by which tax incentives can be triggered can be either automatic or discretionary. An automatic triggering mechanism allows the investment to receive the incentives automatically once it satisfies clearly specified objective qualifying criteria, such as a minimum amount of investment in certain sectors of the economy. The relevant authorities have merely to ensure that the qualifying criteria are met. A discretionary triggering mechanism involves approving or denying an application for incentives on the basis of subjective value judgment by the incentive-granting authorities, without formally stated qualifying criteria. A discretionary triggering mechanism may be seen by the authorities as preferable to an automatic one because it provides them with more flexibility. This advantage is likely to be outweighed, however, by a variety of problems associated with discretion, most notably a lack of transparency in the decision-making process, which could in turn encourage corruption and rent-seeking activities. If the concern about having an automatic triggering mechanism is the loss of discretion in handling exceptional cases, the preferred safeguard would be to formulate the qualifying criteria in as narrow and specific a fashion as possible, so that incentives are granted only to investments meeting the highest objective and quantifiable standard of merit. On balance, it is advisable to minimize the discretionary element in the incentive-granting process.

Summing Up

The cost-effectiveness of providing tax incentives to promote investment is generally questionable. The best strategy for sustained investment promotion is to provide a stable and transparent legal and regulatory framework and to put in place a tax system in line with international norms. Some objectives, such as those that encourage regional development, are more justifiable than others as a basis for granting tax incentives. Not all tax incentives are equally effective. Accelerated depreciation has the most comparative merits, followed by investment allowances or tax credits. Tax holidays and investment subsidies are among the least meritorious. As a general rule, indirect tax incentives should be avoided, and discretion in granting incentives should be minimized.

Tax Policy Challenges Facing Developing Countries

Developing countries attempting to become fully integrated in the world economy will probably need a higher tax level if they are to pursue a government role closer to that of industrial countries, which, on average, enjoy twice the tax revenue. Developing countries will need to reduce sharply their reliance on foreign trade taxes, without at the same time creating economic disincentives, especially in raising more revenue from personal income tax. To meet these challenges, policymakers in these countries will have to get their policy priorities right and have the political will to implement the necessary reforms. Tax administrations must be strengthened to accompany the needed policy changes.

As trade barriers come down and capital becomes more mobile, the formulation of sound tax policy poses significant challenges for developing countries. The need to replace foreign trade taxes with domestic taxes will be accompanied by growing concerns about profit diversion by foreign investors, which weak provisions against tax abuse in the tax laws as well as inadequate technical training of tax auditors in many developing countries are currently unable to deter. A concerted effort to eliminate these deficiencies is therefore of the utmost urgency.

Tax competition is another policy challenge in a world of liberalized capital movement. The effectiveness of tax incentives—in the absence of other necessary fundamentals—is highly questionable. A tax system that is riddled with such incentives will inevitably provide fertile grounds for rent-seeking activities. To allow their emerging markets to take proper root, developing countries would be well advised to refrain from reliance on poorly targeted tax incentives as the main vehicle for investment promotion.

Finally, personal income taxes have been contributing very little to total tax revenue in many developing countries. Apart from structural, policy, and administrative considerations, the ease with which income received by individuals can be invested abroad significantly contributes to this outcome. Taxing this income is therefore a daunting challenge for developing countries. This has been particularly problematic in several Latin American countries that have largely stopped taxing financial income to encourage financial capital to remain in the country.

 

 

Author Information

 

Vito Tanzi was the Director of the Fiscal Affairs Department of the IMF from 1981 to 2000. He retired from the IMF on December 1, 2000. He holds a Ph.D. from Harvard University and is the author of many books and articles in professional journals.
Howell Zee is the Chief of the Tax Policy Division in the IMF's Fiscal Affairs Department. He holds a Ph.D. from the University of Maryland (College Park) and is the author of many articles in professional journals.

 

 

Peace prize choice incurs China's wrath

Rebuffing Beijing, Nobel panel decides to honour jailed Chinese dissident

Grace Ng The Straits Times Publication Date : 09-10-2010

China reacted with fury on Friday (Oct 8) after its most famous dissident, jailed writer Liu Xiaobo, was awarded the Nobel Peace Prize. Liu, 54, the first Chinese citizen to win the award, was a strike leader during the 1989 Tiananmen protests and was jailed last year for campaigning for political freedoms. The Norwegian Nobel Committee's president Thorbjoern Jagland said it had awarded him the peace prize for his "long and non-violent struggle for fundamental human rights in China". Its decision was a blatant affront to the communist regime's leaders, who - increasingly uneasy about a groundswell of dissent - had earlier warned that giving Liu the award would sour ties between Norway and Beijing. The warnings went ignored and the committee delivered what amounted to a rebuke to Beijing in a statement announcing the award. Released in Oslo, it noted that while China was to be commended for lifting hundreds of millions of people out of poverty and broadening the scope of political participation, it has "distinctly curtailed" freedoms guaranteed in its constitution. In a withering response, the Chinese leadership said the Nobel Committee's decision "blasphemed" the Nobel Prize. "Liu Xiaobo was found guilty of violating Chinese law and sentenced to prison by Chinese judicial organs," said Foreign Ministry spokesman Ma Zhaoxu. "All his actions run contrary to the purpose of the Nobel Peace Prize. By awarding the prize to this person, the Nobel committee has violated and blasphemed the award." China summoned Norway's Ambassador in Beijing to protest against the award, but Oslo said the Nobel committee was independent. News of Liu's award, which was released at 5pm Beijing time, was greeted by a stony wall of silence in local media and on Internet forums. Local media had a virtual blackout on the news and netizens' comments were conspicuous in their absence. Even English-language reports by foreign wire agencies about Liu's award were swiftly deleted from popular websites like kdnet.com. Reaction from ordinary Chinese was also muted, because of the news blackout. But it failed to keep the news from spreading and had Liu's supporters in China cheering the award as a "triumph of justice over oppression". Congratulations also came thick and fast from foreign governments including Germany and France, and from Taiwan President Ma Ying-jeou and the Dalai Lama - which are likely to further infuriate Beijing. 'Relentless champion of human rights for over 20 years' Ironically, Liu could be one of the last in his country to find out that he has been lauded for his relentless championing of human rights over 20 years. Previously incarcerated for his key role in the 1989 Tiananmen protests, he is now serving an 11-year jail sentence. It came after the irrepressible essayist co-wrote the Charter '08, a manifesto calling for the Chinese Communist Party to accept human rights and demanding judicial independence and political reforms. The petition collected 10,000 signatures before it was quickly yanked off the Internet in late 2008. Liu was sentenced on Dec 25 last year, drawing an international outcry. Analysts believe that the Chinese government had chosen to sentence him on Christmas Day to send a pointed message to the West. Last night, his wife Liu Xia said she was "swept over by a hundred different emotions". "I want to tell the whole world: Liu Xiaobo is innocent and I am proud of him," she told Hong Kong-based Cable TV over the phone from her home in western Beijing, which was heavily guarded by plainclothes police. "It's not just a prize for him, but for all those who persist in pushing for democracy, freedom and peace in China, and as well as all prisoners of conscience." Ms Liu said she would tell her husband of his award on Saturday (Oct 9), when she makes her monthly visit to Jinzhou Prison in Liaoning to see him. Chances that either Liu or his wife will be able to visit Oslo to receive the prize, which includes a gold medal and about US$1.46 million, appear slim.

 

 

REVIEW & FORUM  Saturday: 9 OCTOBER 2010 

Beggaring the World Economy

Raghuram Rajan

CHICAGO – Global capital is on the move. As ultra-low interest rates in industrial countries send capital around the world searching for higher yields, a number of emerging-market central banks are intervening heavily, buying the foreign-capital inflows and re-exporting them in order to keep their currencies from appreciating. Others have been imposing capital controls of one stripe or another. In recent weeks, Japan became the first large industrial economy to intervene directly in currency markets.

Why does no one want capital inflows?

Which intervention policies are legitimate, and which are not?

And where will all this intervention end if it continues unabated?

The portion of capital inflows that is not re-exported represents net capital inflows. This finances domestic spending on foreign goods. So, one reason countries do not like capital inflows is that it means more domestic demand “leaks” outside. Indeed, because capital inflows often cause the domestic exchange rate to appreciate, they encourage further spending on foreign goods as domestic producers become uncompetitive.

Another reason that countries do not like foreign capital inflows is that some of it might be “hot” (or dumb) money, eager to come in when foreign interest rates are low and local asset prices are rising, and quick to leave at the first sign of trouble or when opportunities back home beckon. Volatile capital flows induce volatility in the recipient economy, making booms and busts more pronounced than they would otherwise be.

But, as the saying goes, it takes two hands to clap.

If countries could maintain discipline and limit spending by their households, firms, or governments, foreign capital would not be needed, and could be re-exported easily, without much effect on the recipient economy. Problems arise when countries cannot – or will not – spend sensibly.

Countries can overspend for a variety of reasons.

The stereotypical Latin American economies of yesteryear used to get into trouble through populist government spending, while the East Asian economies ran into difficulty because of excessive long-term investment. In the United States in the run up to the current crisis, easy credit, especially for housing, induced households to spend too much, while in Greece, the government borrowed its way into trouble.

Unfortunately, though, so long as some countries like China, Germany, Japan, and the oil exporters pump surplus goods into the world economy, not all countries can trim their spending to stay within their means. Since the world does not export to Mars, some countries have to absorb these goods, and accept the capital inflows that finance their consumption.

In the medium term, over-spenders should trim their outlays and habitual exporters should increase theirs. In the short run, though, the world is engaged in a gigantic game of passing the parcel, with no country wanting to take the habitual exporters’ goods and their capital surpluses. This is what makes today’s beggar-thy-neighbor policies so destructive: though some countries will eventually have to absorb the surpluses and capital, each country is trying to avoid them.

So which policy interventions are legitimate?

Any policy of intervening in the exchange rate, or imposing import tariffs or capital controls, tends to force other countries to make greater adjustments. China’s exchange-rate intervention probably hurts a number of other emerging-market exporters that do not intervene as much and are less competitive as a result.

But industrial countries, too, intervene substantially in markets. For example, while US monetary-policy intervention (yes, monetary policy is also intervention) has done little to boost domestic demand, it has spurred domestic capital to search for yield around the world. The US dollar would fall substantially – encouraging greater exports – were it not for the fact that foreign central banks are pushing much of that capital right back by buying US government securities.

Singapore Banks, Temasek, GIC, MAS, are  SELLING US$ Bonds to  weaken  US$  and  Strengthen S$  ? ? ? ?

All this creates distortions that delay adjustment – exchange rates are too low in emerging markets, slowing their move away from exports, while the ease with which the US government is being financed creates little incentive for US politicians to reduce spending over the medium term.

Rather than intervening to obtain a short-term increase in their share of slow-growing global demand, it makes sense for countries to make their economies more balanced and efficient over the medium term. That will allow them to contribute in a sustainable way to increasing global demand.

China, for example, must move more income to households and away from its firms, so that private consumption can increase.

The US must improve the education and skills of significant parts of its labor force, so that they can produce more of the high-quality knowledge and service-sector exports in which the US specializes. Higher incomes would boost US savings, reducing households’ dependence on debt, even as they maintained consumption levels.

Unfortunately, all this will take time, and citizens impatient for jobs and growth are pressing their politicians. Countries around the world are embracing shortsighted policies that cater to the immediate needs of domestic constituencies. There are exceptions. India, for example, has eschewed currency intervention thus far, even while opening up to long-term rupee debt inflows, in an attempt to finance much-needed infrastructure projects.

India’s willingness to spend when everyone else is attempting to sell and save entails risks that need to be carefully managed. But India’s example also provides a glimpse of what the world could achieve collectively.

After all, beggar-thy-neighbor policies will succeed only in making us all beggars.

Raghuram Rajan, a former Chief Economist of the IMF, is Professor of Finance at the Booth School of Business, University of Chicago, and author of Fault Lines: How Hidden Fractures Still Threaten the World Economy.

Copyright: Project Syndicate, 2010.

www.project-syndicate.org

For a podcast of this commentary in English, please use this link:

http://media.blubrry.com/ps/media.libsyn.com/media/ps/rajan10.mp3

You might also like to read more from Raghuram Rajan

 

Pasted from <http://www.sharejunction.com/sharejunction/postMessage.htm?topicId=8799&msgbdName=User Research/Opinions>

 

 

http://www.project-syndicate.org/commentary/rajan10/English

In Search of Dynamism

 

Why the foreclosure mess could last for years

Paperwork problems will generate a wave of lawsuits and investigations

 

Why the foreclosure mess could last for years


 

 

Not only are there questions about whether seizures were legal, buyers of homes may not own them.