Addressing distortions from policy and market failure in design of tax policy and administration in a new paper from the IMF.
Misallocation arises from a number of distortions, created by poorly designed economic policies and market failures, that prevent the expansion of efficient firms and promote the survival of inefficient ones. Countries can chip away at resource misallocation by upgrading the design of their tax systems to ensure that firms’ decisions are made for business reasons and not tax reasons. This chapter provides evidence that countries that address tax treatments that discriminate by asset type, sources of financing, or firm characteristics such as formality and size can achieve significant TFP gains.
Governments should seek to minimize differentiated tax treatment across assets and financing in order to tilt firms’ investment decisions toward assets that are more productive, rather than more tax-favored. If it is well designed, an ACE system or a cash flow tax can address both of these distortions.
Governments should also seek to level the playing field across firms to encourage growth of productive firms. Lower compliance costs and stronger tax enforcement can help reduce the unfair cost advantages informal firms enjoy, which will make room for more productive, tax-compliant firms to increase their market share. Measures include reducing compliance costs (for example, through easy filing) and promoting compliance by ensuring that taxpayers are registered, that they are knowledgeable regarding their tax obligations, and that reporting is accurate. Tax administration should follow a risk-based approach that includes strong audit capacity and taxpayer segmentation. To encourage growth and productivity among small and young firms, tax compliance costs should be reduced. To avoid the “small business trap,” tax relief would be more effective if it were targeted to new rather than small firms
http://www.imf.org/en/Publications/FM/Issues/2017/04/06/fiscal-monitor-april-2017
