The Tribune

By NEIL HARTNELL

Tribune Business Editor

nhartnell@tribunemedia.net

Value-Added Tax (VAT) is already operating at "peak efficiency" and has "limited" ability to further narrow the Bahamas' near-$700 million fiscal deficit without major spending cuts.

The Inter-American Development Bank (IDB), in a paper released yesterday, argued that the Bahamas' 7.5 per cent VAT has "limited long-term capacity" to increase revenues, meaning the Minnis administration must get spending under control.

While the IDB's Caribbean Quarterly Bulletin rated the Bahamas as having the most efficient VAT in the Americas, even better than Canada's, it warned that using this levy to generate more revenues as a percentage of GDP "might be difficult".

As a result, it warned that the Government "must" continue with reforms to cut spending, zeroing in on the bloated civil service's costs and the now-$429 million in annual subsidies to state-owned enterprises as areas meriting significant attention.

The IDB paper also reiterated that the Bahamas was squandering the benefits of the Western Hemisphere's most efficient VAT through ever-increasing spending, which was "outpacing" the rise in revenues.

And with the Deputy Prime Minister yesterday revealing that the projected 2016-2017 fiscal deficit had ballooned to $695 million 'and counting', it said the Bahamas needed a 2.6 percentage point adjustment to its primary balance (the difference between revenues and recurrent spending, with interest payments stripped out) to stabilise its debt-to-GDP ratio.

Based on the newly-revised GDP data, that implies a $265.72 million 'swing' to take the Bahamas' primary balance from a narrow deficit to more than 2 per cent annual surplus.

While the IDB paper was written before the recent national accounts data revisions, its conclusions further emphasise that the Minnis administration needs to deliver on its fiscal consolidation plans - especially spending controls and the proposed Fiscal Responsibility legislation.

"Implementation of VAT in 2015 contributed to an improvement in government revenues by some 3 per cent of GDP (from 16 to 19 per cent from fiscal year 2014-2015 to fiscal year 2015-2016," the IDB's quarterly bulletin said.

"However, further reforms might be required. The current VAT structure appears to have reached peak efficiency, and garnering additional revenue relative to GDP might be difficult. This will probably require either increasing rates (politically unfeasible) or improving efforts to collect current taxes through more efficient measures."

Highlighting the need for Fiscal Responsibility legislation, and so-called 'fiscal rules' that would commit the Government to achieving specific ratios and targets, the IDB paper added: "In terms of expenditure, the only plan at present is the medium term fiscal plan, which recommends (but does not mandate) maintaining expenditures at 23 per cent of GDP.

"The Government of the Bahamas must continue current expenditure reforms to reduce the burden on debt levels. Long-term reforms are needed for state-owned enterprises, which account for [subsidies worth] more than 7 per cent of GDP annually. It is estimated that pension liabilities, under their current structure, will rise to more than 200 per cent of GDP over the next few decades and be fiscally unsustainable."

That refers to the unfunded, 'pay-as-you-go', civil service pension liabilities that the KPMG accounting firm previously estimated at around $1.5 billion. These liabilities are set to increase to $2.5 billion by 2022, and $4.1 billion by 2032, unless reforms are enacted.

The IDB paper, meanwhile, credited VAT's introduction in 2015 for "stabilising" the Government's revenue base, and reducing reliance on import and trade-related taxes that were vulnerable to fluctuations in global economic conditions.

It described the Bahamas' VAT as "one of the most efficient and least distortionary" VATs in the world, due to its low rate/broad base model with few exemptions.

However, the IDB paper made clear that the Government cannot rely on VAT alone to cure its fiscal ills, eliminate the $300 million-plus annual deficits and stabilise the $7.2 billion-plus national debt.

"VAT reforms in 2015 have increased tax revenues in recent years and reduced the Budget deficit in the short-term, but the VAT provides limited long-term capacity to continue increasing revenues to meet rising expenditures," the IDB paper warned.

"Mitigating fiscal challenges requires controlling public sector expenditures. The path of expenditures in the Bahamas is on an upward trajectory and is currently outpacing revenue gains from implementation of the VAT reforms.

"If this trend continues, declining fiscal space and rising debt levels will limit the Government's ability to direct scarce resources to other pro-growth areas such as vital infrastructure development," it continued.

"Successful reforms of expenditures must include plans to restructure the administration of ministries and state-owned enterprises to provide more efficient service with fewer resources, and to channel any savings to partially fund infrastructure maintenance and growth-driven infrastructure development."

The IDB noted the Government's efforts at tax administration reform, and drive to consolidate more than 30 different taxes and revenues streams under the Central Revenue Agency.

This process is due for completion in 2019, but the paper urged the Minnis administration to make the tax-paying process more user-friendly, given that the time involved had quadrupled.

"Currently, there is a lack of online services and e-filing/e-payment options, and few public-facing offices, all of which contributes to long wait times," the IDB paper said. "This has been exacerbated by the complexity of the VAT, despite an online payment system.

"One result has been that the ranking of the Bahamas on the 'ease of paying taxes' indicator in the World's Bank's Doing Business Index has plummeted from 24th to 95th, and the approximate time to pay has increased from 58 to 233 hours."

While government spending has averaged 23 per cent over the past five years, the IDB paper said it accounted for just 6 per cent of gross value-added in the economy. The recurrent budget, accounting for 90 per cent of government spending, is averaging 21 per cent of GDP.

"Wages and salaries, and subsidies and transfers (primarily to state-owned enterprises), account for about a third of the expenditures, or over 7 per cent of GDP each," the IDB paper said. "The remainder of expenditures is for goods and services (3.6 per cent of GDP) and interest payments (3 per cent of GDP).

"As wages and salaries, and subsidies to state-owned enterprises, constitute most of the Bahamian budget, they are the best places to consider improving the efficiency of government expenditures."