Covid-19, AfCFTA and driving domestic resource mobilization in Africa through effective taxation for Agenda 2063
The Agenda 2063 is Africa’s audacious goal to transform the continent into a powerhouse of the future through sustained and inclusive growth. As is the case with developmental goals, sustainable financing is critical to the success of the Agenda 2063. Accordingly, the African Union (AU) has stated that domestic resource mobilization is a key priority in the actualization of the Agenda 2063 as African countries have resolved “to look inwards to mobilize domestic resources to finance and accelerate its transformation, integration, peace, security, infrastructure, industrialization”.
Despite efforts to ensure domestic resource mobilization in line with the continental goals and objectives, most African states continue to struggle. The devastating impact of the covid-19 pandemic on the economies of most African states has not helped matters. At the AU Ministerial meeting of the Extraordinary Specialized Technical Committee on Finance, Monetary Affairs, Economic Planning and Integration in December 2020, the AU recognized that the African economy will go into a recession for the first time in twenty-five years. When one considers the financial implications of the goals captured in the Agenda 2063, the need for economic recovery and improved domestic resource mobilization becomes urgent.
The role of taxation in domestic resource mobilization
Taxation has the potential to be a key driver of economic growth and development on the continent. However, for this to happen, it is important for African states to ensure that they have a tax system that is efficient. The African Tax Administration Forum (ATAF) notes that this is important if African states are to have sustainable domestically-generated revenue to reduce the reliance placed on foreign aid and investment. While taxation remains the most sustainable option in the drive for improved domestic resource mobilization, a number of issues unique to the African political economy appear to be militating against its effective utilization for economic growth.
AfCFTA as a threat to domestic resource mobilization post-Covid
On January 1, 2021 Africa took the bold step to begin trading in the single African economy. Although much of this ‘implementation’ appears to only exist in principle, research suggests that once the AfCFTA fully takes off; it will boost intra-African trade and consequently boost Africa’s GDP. Despite the optimism for the economic potentials of improved intra-African trade, economists have argued that implementing the AfCFTA has the potential to reduce public revenues in the short-term. Proponents argue that the AfCFTA has the potential to cause a reduction in public revenues derivable from; tariffs, import duties, etc. in the short-term. The countries who are most likely going to feel this impact are the poorer nations with economies that are reliant on public revenues from intra-Africans trade, such as Malawi, etc.
However, despite the potential to lose public revenue in the short-term, research also suggests that improved intra-African trade will lead to an increase in indirect tax revenues for African countries. This is one of the long-term advantages of the AfCFTA on the African economy. The need to ensure that the economies of the most vulnerable African states do not suffer more shocks (through the implementation of the AfCFTA), while trying to recover from the impact of covid-19 in the coming years has to be considered and addressed.
Tax loopholes as threats to domestic resource mobilization
Beyond the AfCFTA, other threats to improving domestic resource mobilization exist on the continent. For instance, the AU recently noted that the tax-to-GDP ratio in most African countries is abysmal. The average tax-to-GDP ratio on the continent as at 2018 was 18 percent compared to the average in Organisation for Economic Cooperation and Development (OECD) of 34.2 percent. There are a number of things which can be done to improve tax revenues on the continent. In its recent briefing to the AU in December 2020, the ATAF recognized the untapped goldmine that is the informal economy in Africa. The ATAF stated that the continent should mobilize efforts to ensure that the stakeholders in the informal sector are brought into the tax net. The objective behind this is to widen the tax base and ultimately improve tax revenues on the continent. To highlight the tax potentials of the informal economy in Africa, a report by Chatham House Royal Institute of International Affairs noted that the informal economy accounts for about 64 percent of GDP in Nigeria. Undeniably, addressing the issues with the informal sector will greatly benefit the economy. However, for this to happen, the tax authorities in various African states will have to ensure proper civic education with clear targets, financial inclusion programmes, and liaising with regulators in the informal economy, etc.
Also, African states should ensure that they participate actively in the ongoing global reforms of international tax rules to protect their tax bases. In 2013, the OECD began a process of reforming the international tax rules which have been in existence for over a century. At the early stages, only OECD states participated in the process. However, a number of initiatives have been introduced to encourage widespread participation to ensure that there is a global consensus on the new international tax rules that are created. Unfortunately, more than 50 percent of African states have not been participating actively in the reform process. It is important that African states participate for a number of reasons. To ensure that the new system is favourable to African countries, African states have to participate in their numbers, and adopt a common position in negotiations.
Tax revenues can also be used to drive domestic resource mobilization that is often lost to Illicit Financial Flows (IFFs) and Base Erosion and Profit Shifting (BEPS) on the continent. A report released by the United Nations Conference on Trade and Development (UNCTAD) in 2020 stated that Africa loses USD89 Billion to IFFs annually. This situation is caused by the BEPS activities of MNEs operating in Africa who exploit tax loopholes in the jurisdictions they operate and deploy sophisticated tax avoidance strategies to shift profits to low tax jurisdictions. These activities have the effect of eroding the domestic tax base of African states.
Domestic resource mobilization remains a key priority if the continent will have a shot at achieving its ambitious developmental goal. As the pandemic rages on and leads to slower economic growth on the continent, African states must take strategic steps towards improving their public revenues. While some countries have embarked on a huge revenue tax drive, it is important to note that without making significant efforts to widen the tax base, imposing more taxes is unsustainable and has the potential to harm the economy in the long run.
Furthermore, African states should recognize that taking steps to eliminate tariffs (against the backdrop of the slow-paced economic recovery from Covid-19) may lead to reduction in public revenue in the short-term, depending on how reliant on public revenues from intra-African trade the economy is. This makes it important for states to ensure that they maximize the indirect tax revenues that the AfCFTA has the potential to provide. Finally, participating in the ongoing global reform is important for African states to ensure that they pursue greater taxing rights and that the international tax rules that emerge from this process is favourable to African states.
Olika is an associate of Kenna Partners.