Notwithstanding the legendary politeness of the Bretton Woods institutions, the Djibouti government’s finances are demonstrably in a mess. Despite endless ‘reform projects’, government debt fluctuates wildly from one year to the next, and repayment deadlines are unnecessarily missed – a terrible waste of scarce resources in a country with extreme poverty and poor social indicators.
In mid 2010 the IMF described the Djibouti debt position as unsustainable. Since then, economic conditions and government revenues have reportedly worsened, as the message has gone out about rising impunity in governance, and several investors have notably been scared away – or driven away by arbitrary taxes and ‘permissions’. Extremely low productivity in state spending and financial scandals have led to high spending but low multiplier effects. Spending is also poorly focused and poverty alleviation and eradication programmes are weak.
These problems exist despite strong income growth over the last five years from the free zone, the ports, and employment arising from the transit of emergency supplies to the region. In addition, direct and indirect income related to foreign bases now exceeds $200m per annum – a large sum considering that the population is only 600,000 plus 200,000 refugees.
In addition to this income, the government imposes punitive taxes on employment and most types of transaction. Djibouti has one of the most complex and arbitrary taxation systems in the world, with employers paying between five and seven employment taxes, four to nine transaction & project taxes, and various corporate income taxes and different types of import duty (almost all goods are imported). Almost certainly these taxes are way beyond the optimum levels with respect to tax revenue elasticities. This fact is demonstrated by the practice of goods being brought into Ethiopia via Djibouti port, duty paid, and then sent back to Djiboutii to the end purchaser, and similar ‘boomerang’ transit goods from Somalia.
Many taxes are administratively decided upon, rather than approved by parliament, and small businesses can suffer from surprise new taxes equivalent to several years turnover, arbitrarily applied. Some taxes are applied retrospectively. Imported food is taxed, which provides problems for the poor.
Several studies and proposals have been made for reform, but remain unimplemented, including a partially implemented VAT.
The key fiscal reform of great urgency is debt management. Payment schedules need to be respected, domestic arrears need to be settled, and the debt portfolio needs a greater shift to concessionary finance. Debts have been rescheduled under the Paris Club but better processes in government will lead to better control of debt.
It is important not to further upset the fiscus through tax reform. However a radical simplification is overdue, especially for employment taxes, and elasticities need to be examined to assess the scope for overall tax reductions.
With the current weakness of the domestic economy it makes no sense to attempt to extend VAT across the whole economy – instead focusing on tourism and mobile telecoms. However, as the domestic economy gains strength and dependence on imports lessens, it will be economically and politically beneficial to extend VAT to other sectors. One tax which should be removed forthwith is food taxes, which hurt the very poor.
There is a security dimension too to tax reform. Heavy taxes and punitive regulations have created a large informal sector that pays no tax at all – some of it based on smuggling, and ‘mafia-ised’ sectors. The double taxation on personal and corporate income tax is a particular culprit. As tax reforms are implemented the economy will need to be weaned off tax evasion.
A technical reform with far reaching implications is the ending of separate revenue and capital budgets – and outdated system which is a hangover from the 1970s. This much discussed reform needs to be completed, in order to stop the bad practice of providing money for capital projects but insufficient or zero money for operational or maintenance costs.
Getting things done
There are several simplifications which can be implemented immediately. These changes can be coupled with legislation to restrict arbitrariness in the system, reduce corruption and ensure that all taxation has a legal footing in legislation passed in detail by the National Assembly.