Economic Impact of Agriculture Income Tax on Pakistan by Shehryar Rashid, PSSP
PSSP Working Paper Economic Impact of Agriculture Income Tax on Pakistan’s Economy Shehryar Rashid December, 2012
Background• Pakistan has low tax / GDP ratio compared to neighboring countries. In 2010, tax to GDP ratio was 10%.• In 2010-11, fiscal deficit increased to 6.6% of GDP. Financing of fiscal deficit has shifted towards central bank financing.• In 2011, Government of Pakistan and Planning Commission launched Framework for Economic Growth which aims to achieve 7% economic growth rate in order to successfully absorb new workers.• Pakistan’s agriculture sector employs around 45% of workforce.• Pakistan’s agriculture sector contributes around 21% to Pakistan’s GDP, however contribution to tax revenue is not comparable.
Background Continued• In recent years, the price of certain agriculture commodities has increased which has raised rural incomes.• Income Tax Ordinance of 2001 gave exemption for tax on income from agriculture.• There is a need to reduce government deficit.• Debate over increasing government revenue through agriculture income tax.• Opponents of agriculture income tax argue that agriculture sector is already taxed indirectly through pricing structure.• Supporters of agriculture income tax argue that sector should pay fair share.
Sources of Tax Revenue Contribution (%) in 2009-10 GDP Growth Tax RevenueAgriculture 22 10 1Industry 25 30 63Services 53 60 26Source: Federal Bureau of Statistics, Federal Board of Revenue
Purpose• Calculate terms of trade for agriculture in Pakistan from 2000-01 to 2009-10.• Research effect of an imposition on agriculture income tax on Pakistan’s economy using CGE Model.• Determine effect on production and income.
Terms of Trade Calculation Formula• Terms of Trade compares returns to a sector with payouts made by the sector.• In this case Terms of Trade is comparison of agriculture sector to industrial sector.• Laspeyre’s formula = export price index / import price index.• (Base period 2000-01)
Terms of Trade for Agriculture in Pakistan Year Terms of Trade (TOT) 2000-01 100.00 2001-02 98.80 2002-03 97.34 2003-04 95.47 2004-05 95.10 2005-06 95.57 2006-07 101.03 2007-08 94.97 2008-09 99.42 2009-10 99.16 Terms of Trade is favorable if TOT > 100 Terms of Trade is unfavorable if TOT < 100
Description of Sam• Base year 2007-08• Activities 51: (Agriculture = 12, Industry = 22, and Services = 17)• Commodities 50: (Agriculture = 11, Industry = 21, and Services = 18)• Factors 27: (Labor = 10, Land = 12, and Other Factors = 5)• Households 18: (Rural = 15, and Urban = 3)• Other Institutions Accounts 4
Households in SAM• Household medium and large farm (Sindh, Punjab, and other)• Household small farm (Sindh, Punjab, and other)• Landless farmer (Sindh, Punjab, and other)• Waged rural landless farmer (Sindh, Punjab, and other)• Rural non-farm (quintile 1, quintile 2, and other)• Urban (quintile 1, quintile 2, and other)
SimulationsSimulation DescriptionNumber1 5 percentage point increase in income tax on large - medium farmers only2 10 percentage point increase in income tax on large - medium farmers only3 5 percentage point increase in income tax on large – medium farmers, and 5 percentage point increase in income tax on small farmers
Note on simulations• Closure: Foreign savings is fixed, real exchange rate adjusts. Government savings fixed, government expenditure adjusts.• Static model• Marginal Propensity to save is fixed
Story• Terms of Trade for agriculture sector in Pakistan has improved in recent years.• Public income increasing as a result of tax. Investment is increasing (specifically in non- agriculture sectors).• Demand for labor is increasing in non- agriculture sectors (specifically in construction, manufacturing, and cement).• Minimal impact on GDP.
Conclusion• Terms of Trade estimates suggest that agriculture sector is not at disadvantage. Can think about agriculture income tax.• Agriculture income tax not as harmful to overall economy.• For a country to develop, labor has to shift from agriculture towards industry / services sectors.
Policy Implications / Suggestions• Income tax on agricultural income hurts households producing agricultural commodities but helps non-agriculture sectors.• Argument in favor of income tax on agriculture in order to increase government income and reduce deficit.• Government should promote policies which allow for income tax on agriculture income for large farm owners.