## _wp03209

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### Introduction and summary
- Purpose: highlight unfinished agenda in fiscal systems transformation in CIS countries and identify priorities contributing to macroeconomic stabilization, private sector–led growth, and social needs (including poverty alleviation).
- Emphasis: structural reforms, transparency, and good governance as prerequisites for sustainable growth and effective fiscal policy.
- Paper structure: II—overall fiscal management of the macroeconomy; III—tax policy; IV—tax administration; V—expenditure policy; VI—expenditure management; VII—conclusion.
- Key findings and recommendations:
  - Integrate/consolidate fiscal and quasi-fiscal activities into the budget process to strengthen fiscal policy’s contribution to public policy objectives and to facilitate comprehensive expenditure reform.
  - Consider a more systematic approach to use of privatization receipts; allow “one-off” proceeds to finance one-off transition costs (conceived as an investment in reform).
  - Ongoing tax reform (reduction in income and payroll tax rates and elimination of exemptions) should create a more enabling environment for broad productive sectors; assessment must account for international experience showing CIS countries were, on average (in 2002), relatively low-tax except for payroll tax/social security contribution and VAT.
  - Tax revenues appear positively related to incomes per capita and statutory tax rates; average current tax level about 23 percent of GDP.
  - Tax administration needs to become market-friendly (self-assessment, taxpayer services, enforcement); valorization of personnel and abolition of separate tax police agencies recommended.
  - Expenditure reform priorities: address quasi-fiscal activities/deficits, improve social sector efficiency (health, education, pensions, transfers).
  - Treasuries improved budget execution and cash management; expenditure management lags. MTBFs useful but need to be more comprehensive, specific, and reflective of expenditure reforms. Strengthen internal and external auditing.

### Fiscal management of the macroeconomy (Section II)
- Progress:
  - National budgets more comprehensive, realistic, and transparent; strengthened budget process and technical skills.
  - Most CIS countries have fully operational Treasuries; scope for broader coverage, elimination of exceptions to the Treasury single account, and fuller computerization.
  - Treasuries reduced macroeconomic risks in budget implementation; budgets contributed materially to macroeconomic adjustment.
- Priorities and concerns (bullet points preserve source language):
  - Integrate fiscal and quasi-fiscal activities into the budget process to better assess government size and fiscal stance and to support expenditure reform.
  - Earmarked extra-budgetary funds:
    - Trend toward integrating many such funds into the budget, but several remain (social funds, privatization funds, oil funds in Azerbaijan and Kazakhstan).
    - For funds expected to remain, ensure budgets are: (1) comprehensive and transparent; (2) clearly identify financial linkages with the state budget; (3) fully coordinated with the state budget during formulation, approval, and implementation.
    - Independent audits of extra-budgetary funds’ operations recommended.
    - Privatization funds: variations exist in integration; reports of privatization proceeds used outside the budget process in some cases.
    - Strategic question: best use of “one–off” privatization proceeds — common treatments have been “below the line” and used as general financing for the budget deficit; alternatives include investing proceeds (preferably abroad) or using them to reduce government debt; consider using proceeds to finance one-off transitional costs.
  - Extra-budgetary accounts:
    - Example: 31,000 such accounts at the federal level alone in the Russian Federation, with own resources estimated at 15-20 percent of budget expenditures.
    - Recommendation: consolidate with the state budget at minimum on a gross basis; convert commercial operations into enterprises; integrate operations with Treasury system; where no advantage from earmarking, fully integrate and close accounts.
  - Public Investment Program (PIP):
    - Full integration of PIP (including foreign-financed component) into the state budget is essential for assessing fiscal stance and debt sustainability.
    - Example: first time included in the 2003 Budget in Tajikistan.
  - Quasi-fiscal operations/deficits outside budget:
    - Large quasi-fiscal activities remain in energy, water, housing, communal services, and transport sectors due to below-cost tariffs and forced non-payment.
    - Recommendation: assess and budget for quasi-fiscal operations/deficits and cross-subsidization in the state budget and reflect them in a broad general government balance.
  - Contingent liabilities: need full inventory of contingent/implicit government liabilities and contingency reserves in the state budget.
  - Analytical capacities: strengthen techniques for macroeconomic assumptions, revenue/expenditure estimates, sensitivity and risk scenarios (commodity prices, interest rates), and institutionalize in-house capabilities.

### Tax policy (Section III)
- Background:
  - New Tax Codes in mid-late 1990s aimed for a tax system consistent with a market economy; emphasis on VAT, low taxation of international trade, and payroll taxation financing pensions/transfers.
  - Limiting factors: weak tax administration capacity (especially for SMEs, agriculture) and need for fiscal consolidation, producing heavy/complex tax systems and high statutory rates.
  - Frequent changes led to multiplication of exemptions, tax deferrals, differentiated rates, and delayed VAT refunds/credits in some cases (noted as severe in Ukraine and Tajikistan).
- Second-round tax reform drivers:
  - Political recognition of need for enabling tax environment for productive sectors, aided by economic recovery and improved tax administration.
  - Scope to strengthen revenue mobilization via base broadening and better administration, but reforms must reflect diverse country conditions.
- International comparison and empirical findings:
  - Empirical relationship: tax revenue/GDP positively related to PPP-adjusted income per capita; no distinct CIS “characteristic” beyond income per capita in explaining tax revenue/GDP.
  - Regression results and country comparisons (Annex-based):
    - Georgia and Azerbaijan collect less than predicted international norm; Moldova, Russia, Ukraine, and Uzbekistan collect more.
    - On average, CIS countries should be expected to mobilize about 20–24 percent of GDP in tax revenue (upper bound applies if OECD/graduating transition countries is the orientation).
    - Current average level cited: about 23 percent of GDP.
  - Table-derived country and average outcomes (examples preserved as in source):
    - Average across CIS in one table: Actual 23.4; Low 16.9; Central 20.3; High 24.4; Difference −3.1.
    - In alternative regression with dummies, average: Actual 22.4; Low 20.2; Central 24.2; High 29.0; Difference 0.8.
- Recent tax reform strategies (three main components):
  - Reduction in rates and progressivity of personal and corporate income tax to reduce disincentives and improve compliance.
  - Cuts in payroll tax/social security contribution rates paid by enterprises; re-calibration toward employee contributions and linking contributions to benefits recommended as part of broader social security reform.
  - Broad elimination of tax exemptions and harmonization of differentiated rates to avoid revenue losses from lower rates and level the playing field.

### Box 1 — Tax Reform in Russia Since 1999 (summary as in source)
- Broad Objectives:
  - make the tax system fairer for all, simpler, and more predictable;
  - reduce the tax burden, including by lowering rates;
  - reduce exemptions and increase compliance through improvements in tax administration and more “market friendly” interactions with the taxpayers and tax authorities.
- Measures and Key Changes:
  - Adoption of amendments to Part I of the new Tax Code of 1998; adoption in steps during 2000-01 of Part II provisions.
- Key changes (selected items preserving numeric values and wording):
  - PIT: introduction of a flat 13 percent rate (replacing three-band 12, 20, and 30 percent), while reducing the extent of deductions.
  - EIT: reduction of the overall rate from 35 percent to 24 percent, while eliminating almost all incentives, including investment allowances.
  - VAT: overhaul — eliminate some exemptions, extend to individual entrepreneurs, introduce small-business exemption thresholds. [Note: authorities intend to cut the main VAT rate from 20 to 18 percent in 2004, leaving the preferential rate of 10 percent unchanged].
  - Excises: enhance excise-tax collection; increase in excises on alcohol and oil products.
  - Payroll tax: introduction of a Unified Social Tax (UST) rate of 35.6 percent for wages up to a specified limit, with regressive tax rates above that limit, replacing the 39.5 percent overall payroll taxation previously applicable. [Note: excludes employees’ pension contributions, and employers’ contributions for insurance accident; authorities intend to cut the UST further in 2005 or 2006].
  - Other taxes: introduction of a new mineral extraction tax in 2002; elimination of nuisance taxes, notably the regional sales tax, from 2004.

### Tax comparisons and empirical magnitudes (selected table figures preserved)
- PIT (Rates / Rev/GDP / Ratio 2/ (a) (b) (b)/(a)) — selected entries:
  - CIS 18.0 2.4 0.13
  - Emerging market 21.3 2.3 0.11
  - Graduating transition 28.4 5.2 0.18
  - OECD 30.0 11.0 0.37
  - EU 32.1 10.5 0.33
- EIT:
  - CIS 25.5 2.8 0.11
  - Graduating transition 25.9 1.8 0.07
  - OECD 31.1 3.7 0.12
  - Emerging market 31.7 3.5 0.11
  - EU 33.3 3.8 0.11
- Payroll tax/social security:
  - Emerging market 16.2 2.6 0.16
  - OECD 20.4 10.1 0.50
  - EU 24.9 11.4 0.46
  - CIS 33.1 5.2 0.16
  - Graduating transition 42.1 11.1 0.26
- VAT:
  - Emerging market 14.8 4.7 0.32
  - OECD 17.0 6.6 0.39
  - EU 19.4 7.1 0.37
  - CIS 19.5 6.7 0.34
  - Graduating transition 20.5 7.6 0.37

### Empirical econometric results (selected statistics preserved)
- Tax Revenue/GDP regressed on ln income (Table 2a):
  - Multiple R 0.779562
  - R Square 0.607717
  - Adjusted R Square 0.601774
  - Standard Error 0.258594
  - Observations 68
  - Coefficients: Intercept 0.103289; ln income 0.346541
- Tax Revenue/GDP regressed on ln income with dummies (Table 2b):
  - Multiple R 0.850209
  - R Square 0.722856
  - Adjusted R Square 0.714329
  - Standard Error 0.219022
  - Observations 68
  - Coefficients: Intercept 0.694061; ln income 0.256394; dummy 0.343703
- PIT Revenue/GDP regressed on rates and income (Table 3):
  - Multiple R 0.846908
  - R Square 0.717253
  - Adjusted R Square 0.707332
  - Standard Error 2.795783
  - Observations 60
  - Coefficients: Intercept -4.290721; rates 0.256997; income 0.000280
- Payroll Tax/Social Security Contribution/GDP regressed on rates and income (ANNEX I/Table 4):
  - Multiple R 0.714196
  - R Square 0.510076
  - Adjusted R Square 0.490864
  - Standard Error 3.641838
  - Observations 54
  - Coefficients: Intercept -2.521468; rates 0.206959; income 0.000321

### Tax administration: progress, weaknesses, and priorities
- Progress:
  - Legal framework largely in place; strengthened institutional arrangements and re-organization of tax agencies along functional departments.
  - Introduction of taxpayer identification numbers (TINs) and improved coordination of information across taxes, aided by computerization.
- Remaining weaknesses:
  - Confusion among taxpayers about rights and obligations; many unregistered taxpayers; limited computerization; auditor/enforcement weaknesses; constrained collection on arrears.
  - Assignment of taxpayers to particular inspectors persists, enabling discretion, negotiation, political interference, and corruption.
  - Valorization of personnel, training, and remuneration of tax inspectors require attention.
- Institutional concerns and recommendations:
  - Parallel existence of Tax Police duplicates functions and increases corruption risk; recommendation: abolition or integration of Tax Police with regular tax agencies after reform.
  - Note from source: In Russia, President Putin recently announced the abolition of the Tax Police (as reported in the source).
  - Large Taxpayer Units (LTUs): focus resources on large taxpayers, but LTUs have had limited success in CIS; recommend dynamic review of LTU coverage and strengthened support.
  - SMEs: consider “simplified” forms of direct taxation for un-incorporated enterprises, balancing simplicity with incentives to transition to full tax system.

### Expenditure policy and composition (Section V and Annex tables)
- Overall adjustment:
  - CIS countries cut public expenditures during transition; average overall public expenditure about 29 percent of GDP (text: "about 29 percent of GDP").
  - Regression confirms total expenditure/GDP positively related to PPP-adjusted income per capita; CIS dummy not statistically significant.
- Predicted vs actual total expenditure/GDP (Table 4 selected country entries preserved):
  - Armenia: Actual 22.4 | Predicted Low 20.6 Central 24.8 High 30.0 | Difference 2.4
  - Azerbaijan: Actual 23.6 | Predicted Low 20.9 Central 25.3 High 30.6 | Difference 1.7
  - Belarus: Actual 46.5 | Predicted Low 26.7 Central 33.1 High 41.0 | Difference -13.4
  - Georgia: Actual 17.5 | Predicted Low 22.8 Central 27.8 High 33.9 | Difference 10.3
  - Kazakstan: Actual 23.4 | Predicted Low 25.4 Central 31.3 High 38.7 | Difference 7.9
  - Kyrgyz Republic: Actual 25.3 | Predicted Low 20.1 Central 24.3 High 29.3 | Difference -1.0
  - Moldova: Actual 33.6 | Predicted Low 19.2 Central 23.1 High 27.7 | Difference -10.5
  - Russia: Actual 36.5 | Predicted Low 26.6 Central 32.9 High 40.8 | Difference -3.6
  - Tajikistan: Actual 16.6 | Predicted Low 16.9 Central 20.1 High 23.8 | Difference 3.5
  - Ukraine: Actual 36.6 | Predicted Low 22.4 Central 27.3 High 33.3 | Difference -9.3
  - Uzbekistan: Actual 35.2 | Predicted Low 19.6 Central 23.5 High 28.3 | Difference -11.7
  - Average: Actual 28.8 | Predicted Low 21.9 Central 26.7 High 32.5 | Difference -2.2
- Composition and structural issues:
  - Health: CIS spend about 2 percent of GDP on health and about 7 percent as share of total expenditure (text comparison to emerging markets).
  - Education: adversely affected; quality and pay issues reduce effectiveness.
  - Social security and welfare: CIS spend about a third of public expenditures on social security and welfare; spending focused on general entitlements rather than targeted programs.
  - Government wage bill as percent of GDP is lower than other groupings despite relatively high public employment, reflecting low/compressed public sector wages.
- Policy implications and reform priorities:
  - Structural reforms required to address distortions and inefficiencies in expenditure composition and micro-level rates of return.
  - Priorities: civil service reform; health and education reform; pension reform; reduction of explicit and implicit subsidies.

### Utility sector reform and quasi-fiscal activities (Section II excerpt)
- Quasi-fiscal activities in utilities/energy remain large; budget transfers generally insufficient to cover them.
- Package of measures to address quasi-fiscal pressures:
  - Eliminate pressures on enterprises to continue delivering services to customers who fail to pay.
  - Increase tariff collection rates and collect on arrears (including credible threat to cut delivery).
  - Ensure budget allocations for entities using services at higher tariffs are sufficient to avoid arrears.
  - Eliminate preferential tariffs based on Soviet-era privileges.
  - Introduce well targeted compensation schemes for poor households.
  - Adjust utility tariffs toward full cost recovery.
- Complementary reforms: corporatization; strengthen operational/financial management; privatization; appropriate regulatory frameworks.
- Sequencing and design:
  - Strengthen payment discipline and introduce targeted compensation schemes before raising tariffs.
  - Compensation design options: means-tested transfers, categorical testing, life-line tariffs; means-tested more efficient but require administrative capacity.
  - Lack of individual gas metering complicates enforcement and design.
- Financing challenges example (preserve numeric estimate):
  - In Russia, estimates suggest that if households are to spend no more than 22 percent of their disposable income on communal services including gas and electricity, full cost recovery might imply household compensations amounting to as much as 3–4 percent of GDP.
- Political economy:
  - Replacing Soviet-era privilege categories with poverty-based compensation requires significant political will; compensation schemes should be phased out over the medium-term as incomes rise.

### Expenditure management, MTBF, and institutional capacity
- Expenditure management weaknesses:
  - Problems with realistic and timely revenue projections; cash arrears remain common.
  - Weak control of commitments; underbudgeting for utilities; unfunded mandates cause commitment arrears.
  - Limited emphasis on efficiency and performance of expenditures; internal and external auditing weak.
  - Corrupt practices in acquisition of goods and services appear common.
- Institutional capacity and decentralization:
  - Improve capacities at central and local levels; personnel must link expenditure programs with policy objectives and develop plans minimizing input costs.
- Medium-Term Budget Framework (MTBF) role and recommendations:
  - MTBF should generally be a three-year rolling horizon integrating the PIP with the state budget.
  - MTBF should: encompass broad definition of general government operations; go beyond broad aggregates for outer years; integrate domestic and foreign-financed PIP; explicitly integrate quasi-fiscal activities; recognize multi-year impact of key expenditure reforms; coordinate with poverty reduction strategies and fiscal sustainability assessment.
  - Preconditions: strengthen analytical capabilities of personnel.
- Specific reform priorities in budget management:
  - Extend Treasury system to all levels of government and extra-budgetary funds/accounts.
  - Adopt transparent and realistic assumptions for expenditure provisioning (especially utilities).
  - Develop program budgeting and integrate PIP with current expenditure programs.
  - Strengthen capacities to assess rates of return and rank investment projects.
  - Formalize mid-year budget reviews.
  - Strengthen control of expenditure commitments, public procurement laws, and enforcement.
  - Increase transparency and integrity of privatization; integrate privatization flows within the budget; consider parliamentary Privatization Commission oversight and audits.
  - Improve internal auditing and build independent external auditing capacity focused on execution and value-for-money audits.

### Selected country notes and examples (as in source)
- Tax concessions to energy enterprises as compensation for quasi-fiscal activities; Armenia increased explicit subsidies to prevent tax arrears by energy enterprises.
- Lack of gas meters complicates cutting delivery for households; Tajikistan pursuing gas meter installation financing with funds from China.
- Underbudgeting for utilities a major problem in Azerbaijan, Georgia, and Ukraine.
- Russia experimented with utility contract registration to improve commitment control.
- Kazakhstan introduced “passports” to monitor and evaluate budget programs.
- Audit and control institutions examples: Account Chamber (Russia), Control Chamber of the National Assembly (Armenia), State Control Office (Ukraine), Accounting Committee (Kazakhstan), State Financial Control (Tajikistan); independent audit function still being set up in Azerbaijan.

### Concluding remarks
- The paper summarizes fiscal reforms in CIS countries, presents an agenda of priorities for further reforms, and outlines a strategy to implement them. Main findings and recommendations emphasize integration of quasi-fiscal activities into budgets, tax base broadening and administration strengthening, structural expenditure reforms across social sectors, and institutional capacity building.

*Source: _wp03209 (PDF chapter).*

### References..............................................................................................................

### References

### Text Tables
- 1a.   Tax Revenue: By How Much Are Countries Above/ Below the  
        International Norm? .........................................................................................................15
- 1b.   Tax Revenue: By How Much Are Countries Above/Below the  
        International Norm? .........................................................................................................15
- 2.     Tax  Comparisons  1/ .......................................................................................................19
- 3.     Comparisons of  General Government Expenditures ......................................................26
- 4.     Total Expenditure: By How Much Are Countries Above/Below the  
        International Norm? .........................................................................................................27

### Annex Tables
- 1a.   Total Tax Revenue of General Government ....................................................................37
- 1b.   Tax   Rates .........................................................................................................................38
- 2a.   Tax Revenue/GDP Regressed on PPP-Adjusted Income Per Capita...............................39
- 2b.   Tax Revenue/GDP Regressed on PPP-Adjusted Income Per Capita...............................40
- 3.     Personal Income Tax (PIT) Revenue/GDP Regressed on Rates, and  
        PPP-Adjusted Income Per Capita ....................................................................................41
- 4.     Payroll Tax and Social Security Contribution/GDP Regressed on Rates........................42
- 5.     PIT Revenue: By How Much Are Countries Above/Below the  
        International Norm? .........................................................................................................43
- 6.     Payroll Tax/Social Security Revenue: By How Much Are Countries .............................44
- 7a.   General Government Expenditure, by Economic Type ...................................................45
- 7b.   General Government Expenditure, by Function ..............................................................46
- 8.     Expenditure/GDP Regressed on PPP-Adjusted Income Per Capita ................................47

- Text Box

*Source: _wp03209 - References..............................................................................................................*

### 1. Tax Reform in Russian Since 1999 .............................................................................18

### 1. Tax Reform in Russian Since 1999

### Introduction and summary
- Purpose: highlight the unfinished agenda in fiscal systems transformation in CIS countries, identify priorities contributing to macroeconomic stabilization, private sector–led growth, and social needs (including poverty alleviation).  
- Emphasis: structural reforms, transparency, and good governance as prerequisites for sustainable growth and effective fiscal policy.  
- Paper structure (sections summarized): II—overall fiscal management of the macroeconomy; III—tax policy; IV—tax administration; V—expenditure policy; VI—expenditure management; VII—conclusion.  
- Key summarized findings and recommendations:
  - Integration/consolidation of fiscal and quasi-fiscal activities into the budget process is necessary to strengthen fiscal policy’s contribution to public policy objectives and to facilitate comprehensive expenditure reform.
  - Consider a more systematic approach to use of privatization receipts that could allow “one-off” proceeds to finance one-off transition costs (conceived as an investment in reform).
  - Ongoing tax reform (reduction in income and payroll tax rates and elimination of exemptions) should create a more enabling environment for broad productive sectors; assessment must account for international experience showing CIS countries were, on average (in 2002), relatively low-tax except for payroll tax/social security contribution and VAT.
  - Tax revenues appear positively related to incomes per capita and statutory tax rates; average current tax level about 23 percent of GDP—constraints exist on raising tax/GDP much above that without stronger tax administration. Some Caucasus countries have scope to improve tax revenue effort.
  - Tax administration needs to become market-friendly (self-assessment, taxpayer services, enforcement); valorization of personnel and abolition of separate tax police agencies recommended.
  - Fiscal adjustment has reduced general government expenditure to levels broadly in line with international norms given incomes per capita, but significant quasi-fiscal activities/deficits remain and distort expenditure composition and efficiency—broad expenditure reforms needed, especially in social sectors (health, education, pensions, transfers).
  - Treasuries have improved budget execution and cash management; expenditure management (formulating expenditure policies/plans that maximize returns) lags. MTBFs are useful but need to be more comprehensive and specific and reflect expenditure reform impacts. Internal and external auditing needs further development.

### Fiscal management of the macroeconomy (Section II)
- Progress:
  - National budgets more comprehensive, realistic, and transparent; budget process strengthened (legislative improvements and technical skills).
  - Cash implementation improved due to Treasuries; most CIS countries have fully operational Treasuries with scope for broader coverage, elimination of exceptions to the Treasury single account, and fuller computerization.
  - Treasuries substantially reduced macroeconomic risks in budget implementation; national budgets contributed materially to macroeconomic adjustment.
- Priorities and concerns:
  - Integrate fiscal and quasi-fiscal activities into the budget process to better assess government size and fiscal stance and to support expenditure reform.
  - Earmarked extra-budgetary funds:
    - Trend toward integrating many such funds into the budget, but several remain (social funds, privatization funds, oil funds in Azerbaijan and Kazakhstan).
    - For funds expected to remain, ensure budgets are: (1) comprehensive and transparent; (2) clearly identify financial linkages with the state budget; (3) fully coordinated with the state budget during formulation, approval, and implementation.
    - Independent audits of extra-budgetary funds’ operations recommended.
    - Privatization funds: variations exist in integration; reports of privatization proceeds used outside the budget process in some cases; transparency improvements in privatization process needed.
    - Strategic question: best use of “one–off” privatization proceeds—common treatments have been “below the line” and used as general financing for the budget deficit; alternatives include investing proceeds (preferably abroad) or using them to reduce government debt. Consideration of using proceeds to finance one-off transitional costs (investment in reform) warranted.
  - Extra-budgetary accounts:
    - Distinct from earmarked funds; these are “own” resources/accounts of budget entities (e.g., hospitals, schools, institutes) used for wages, purchases, or investment outside state budget.
    - Example: 31,000 such accounts at the federal level alone in the Russian Federation, with own resources estimated at 15-20 percent of budget expenditures.
    - Unless consolidated, these accounts distort assessment of government size and budget deficits and complicate fiscal reform design. Recommendations: consolidate with the state budget at minimum on a gross basis; where commercial operations occur, convert entities into enterprises and consider privatization; integrate operations with Treasury system; where no advantage from earmarking, fully integrate and close accounts.
  - Public Investment Program (PIP):
    - Full integration of PIP (including foreign-financed component) into the state budget is recent but essential for assessing fiscal stance and debt sustainability.
    - Integration requires comprehensive accounting of domestically and foreign-financed investment expenditures (including net lending when government liability involved) and inclusion of associated recurrent expenditures and receipts.
    - Foreign-financed capital expenditure inclusion example: first time included in the 2003 Budget in Tajikistan.
  - Quasi-fiscal operations/deficits outside budget:
    - Progress made in eliminating certain quasi-fiscal activities (e.g., directed lending) but large quasi-fiscal activities remain in energy, water, housing, communal services, and transport sectors.
    - Causes: government-controlled tariffs below cost recovery; forcing enterprises to accept non-payment while delivering services; ad hoc transfers from enterprises to budget; pressuring enterprises to finance government projects outside state budget.
    - Consequences: enterprises finance these deficits via higher debt and decapitalization, implying a laxer apparent fiscal stance and jeopardizing future growth.
    - Recommendation: assess and budget for quasi-fiscal operations/deficits and cross-subsidization in the state budget and reflect them in a broad general government balance to improve transparency and enable strategies to phase them out.
    - Contingent liabilities: limited assessment in most CIS countries; need full inventory of contingent/implicit government liabilities and contingency reserves in the state budget.
  - Analytical capacities: further strengthen capacities and techniques for macroeconomic assumptions, revenue/expenditure estimates, sensitivity and risk scenarios (commodity prices, interest rates), and institutionalize in-house capabilities; external scrutiny encouraged.

### Tax policy (Section III)
- Background:
  - New Tax Codes in mid-late 1990s represent significant reform aiming for a tax system consistent with a market economy; focus on VAT, low taxation of international trade, reliance on payroll taxation to finance pensions/transfers.
  - Limiting factors: weak tax administration capacity (especially for SMEs, agriculture) and need for fiscal consolidation, leading to relatively heavy/complex tax systems and high statutory rates.
  - Frequent changes in tax systems; earlier changes often supported vested interests leading to:
    - Multiplication of exemptions across income/profit taxes, VAT, and import duties; tax deferrals widely used to subsidize enterprises (examples: Ukraine and Georgia).
    - Differentiated rates (e.g., excise rates higher on imports than domestic goods in Ukraine and Tajikistan).
    - Measures undermining coherent tax policy such as indefinitely delaying VAT refunds/credits (noted as severe in Ukraine and Tajikistan).
- Second-round tax reform drivers:
  - Political recognition of need for enabling tax environment for productive sectors, aided by economic recovery and improved tax administration.
  - Scope exists to strengthen revenue mobilization via base broadening and better administration, but directions of reform must reflect diverse country conditions and evolving expectations of government provision.
- International comparison and empirical findings:
  - Empirical relationship: tax revenue/GDP positively related to PPP-adjusted income per capita; no distinct CIS “characteristic” beyond income per capita in explaining tax revenue/GDP.
  - Regression results and country comparisons (Annex-based):
    - Georgia and Azerbaijan collect less than predicted international norm; Moldova, Russia, Ukraine, and Uzbekistan collect more.
    - On average, CIS countries should be expected to mobilize about 20–24 percent of GDP in tax revenue (upper bound applies if OECD/graduating transition countries is the orientation), which is close to current average level.
    - Current average level cited: about 23 percent of GDP.
  - Table-derived country and average outcomes (selected figures from the text; all values preserved as in source):
    - Russia actual tax revenue example: 34.9 (predicted central 21.3? and other range values shown in table—refer to source tables for full detail).
    - Average across CIS in one table: Actual 23.4; Low 16.9; Central 20.3; High 24.4; Difference −3.1.
    - In alternative regression with dummies, average: Actual 22.4; Low 20.2; Central 24.2; High 29.0; Difference 0.8.
- Recent tax reform strategies (three main components):
  - Reduction in rates and progressivity of personal and corporate income tax:
    - Rationale: high and progressive rates create disincentives to produce/invest and reduce compliance; lower rates may encourage formalization of grey economy and perceptions of fairness; supply-response financing growth is unlikely—revenue effect through improved compliance is speculative.
    - Perception of fairness also depends on government delivering value-for-money services.
  - Cuts in payroll tax/social security contribution rates paid by enterprises:
    - Current pattern: enterprise-paid rates high in virtually all CIS countries; employee-paid rates low; linkage between contributions and benefits limited.
    - Effects: high employer rates encourage grey economy, discourage compliance; reducing employer burden and re-calibrating toward employee contributions could improve formal employment and compliance, especially if individuals can link contributions to benefits (requires regular reporting of individual social security account information—a capability most CIS countries lack).
    - Any cut in labor taxation must be assessed within broader social security reform.
  - Broad elimination of tax exemptions and harmonization of previously differentiated rates:
    - Essential to avoid revenue losses from lower overall rates and to level the playing field for productive sectors; Russia’s implementation summarized in the source (Box 1).
- Empirical cross-country statutory rate and revenue performance findings (Table 2 summary):
  - CIS countries have the lowest average statutory rates for personal income tax (PIT).
  - CIS countries have, after the ten graduating transition countries, the highest average rate for payroll tax/social security contribution.
  - CIS countries are about as efficient as emerging markets in collecting revenue from PIT and payroll contributions, but efficiency is lower than in graduating transition countries—suggesting scope for improvement at current or lower rates.
  - Based on estimated coverage of revenue base relative to GDP, CIS countries perform almost as well as OECD in collecting EIT and VAT—limited room for significantly higher collections from these sources without efficiency gains.
  - Caveat: nominal GDP underestimation in CIS countries could bias assessments upward.

*Source: 1. Tax Reform in Russian Since 1999 (PDF chapter).*

### Box 1. Tax Reform in Russia Since 1999

### Box 1. Tax Reform in Russia Since 1999

### Broad Objectives
- make the tax system fairer for all, simpler, and more predictable;
- reduce the tax burden, including by lowering rates;
- reduce exemptions and increase compliance through improvements in tax administration and more “market friendly” interactions with the taxpayers and tax authorities.

### Measures and Key Changes (implementation steps)
- adoption of amendments to Part I of the new Tax Code of 1998, to support the required improvements in tax administration;
- adoption in steps during 2000-01 of the provisions of Part II of the new Tax code, covering the “substantive taxes.”

Key changes:
- PIT: introduction of a flat 13 percent rate (replacing the three-band tax rates of 12, 20, and 30 percent), while reducing the extent of deductions;
- EIT: reduction of the overall rate from 35 percent to 24 percent, while eliminating almost all incentives, including the investment allowances;
- VAT: overhaul of the system, inter alia, eliminating some exemptions, extending the application of the tax to individual entrepreneurs, while introducing small-business exemption thresholds. [Note: the authorities intend to cut the main VAT rate from 20 to 18 percent in 2004, leaving the preferential rate of 10 percent unchanged];
- Excises: provisions to enhance excise-tax collection and to counteract avoidance/evasion schemes; increase in excises on alcohol and oil products;
- Payroll tax: introduction of a Unified Social Tax (UST) rate of 35.6 percent for wages up to a specified limit, with regressive tax rates applicable for wages above that limit, replacing the 39.5 percent overall payroll taxation previously applicable. [Note: excludes the employees’ pension contributions, and the employers’ contributions for insurance accident, at various rates; also, the authorities intend to cut the UST further in 2005 or 2006];
- Other taxes: introduction of a new mineral extraction tax in 2002; and elimination of various nuisance taxes, most significantly, the regional sales tax, from 2004.

*Source: IMF Country Reports.*

### Tax Comparisons (selected figures from Table 2 and related notes)
- Table notes:
  - 1/ For each tax, countries are ranked according to highest (average) statutory rates.
  - 2/ Ratio can be viewed as a measure of efficiency in terms of coverage of the revenue base relative to GDP.
  - Sources: Annex Tables 1a and 1b.

- PIT (Rates / Rev/GDP / Ratio 2/ (a) (b) (b)/(a)) — selected entries as presented:
  - CIS 18.0 2.4 0.13
  - Emerging market 21.3 2.3 0.11
  - Graduating transition 28.4 5.2 0.18
  - OECD 30.0 11.0 0.37
  - EU 32.1 10.5 0.33

- EIT:
  - CIS 25.5 2.8 0.11
  - Graduating transition 25.9 1.8 0.07
  - OECD 31.1 3.7 0.12
  - Emerging market 31.7 3.5 0.11
  - EU 33.3 3.8 0.11

- Payroll tax/social security:
  - Emerging market 16.2 2.6 0.16
  - OECD 20.4 10.1 0.50
  - EU 24.9 11.4 0.46
  - CIS 33.1 5.2 0.16
  - Graduating transition 42.1 11.1 0.26

- VAT:
  - Emerging market 14.8 4.7 0.32
  - OECD 17.0 6.6 0.39
  - EU 19.4 7.1 0.37
  - CIS 19.5 6.7 0.34
  - Graduating transition 20.5 7.6 0.37

### Empirical findings on revenue mobilization and income per capita
- Econometric analysis regressing revenue/GDP on both tax rates and PPP-adjusted income per capita indicates:
  - Both for the PIT and payroll tax/social security contribution, revenues strongly and positively correlate with both the (average) statutory rates, and the PPP-adjusted income per capita, raising doubt on any Laffer-curve effect;
  - There does not appear to be a CIS characteristic to the observed relationships, as a CIS dummy variable is neither significant or adds noticeably to the overall fit;
  - On average, the CIS countries appear to perform marginally better than predicted by the international norm regarding the PIT, but marginally worse for the payroll tax/social security contribution (Annex tables 5 and 6);
  - Consideration of the PPP-adjusted income per capita somewhat tampers the assessment of the scope for improvement in collections;
  - Among individual CIS countries, diversity in performance is large: Azerbaijan and Belarus collect less under the PIT than predicted, but Ukraine and Russia, more.

- Policy implication for SMEs:
  - The emergence of many new SMEs in successful transition cases makes it important to find ways to reasonably tax these enterprises without imposing excessive administrative requirements;
  - Pay special attention to “simplified” forms of direct taxation for un-incorporated enterprises, balancing simplicity against not discouraging transition to the full-fledged tax system.

- Excise policy observations:
  - CIS countries could collect relatively higher amounts of revenue from excises, though overall performance is not worse than emerging market economies;
  - Often room exists to reduce the range of goods and services subject to excises (limit to fuel, tobacco, and alcohol);
  - Problems include relatively low rates and difficulties with tax administration;
  - Experience in the Caucasus and Central Asia points to need for harmonization of tax rates across countries to reduce incentives for smuggling.

- Energy sector taxation debate:
  - For oil and gas rich countries, there has been debate on shifting a greater share of the tax burden onto the energy sector to assist SMEs and professional classes outside the energy sector and potentially reduce Dutch Disease risk;
  - Caution: properly designed taxation of the energy sector could still adversely affect production and investment incentives, especially in marginal fields; taxation of energy exports remains distortionary but popular because it is easy to administer and serves as substitute to royalty payments.

- Transparency and legal consistency:
  - Pending removal of exemptions, need to recognize and quantify tax expenditures and tax deferrals/arrears in the state budget (grossing-up) to introduce greater transparency;
  - Need to eliminate inconsistencies between Tax Codes and other tax and economic laws and decrees, in particular Investment Codes, as uncertainty discourages domestic and foreign investors.

### Tax Administration: progress, remaining challenges, and priorities
- Progress reported:
  - Legal framework for tax administration largely in place;
  - Strengthened institutional arrangements (Revenue Ministries, upgraded tax and customs committees) with closer links to Ministry of Finance;
  - Re-organization of tax agencies along functional departments (return filing/payment, audit, collection enforcement, appeals);
  - Introduction of taxpayer identification numbers (TINs) and taxpayer registration;
  - More effective coordination of information across income, VAT, customs duties, and payroll tax/social security contribution, including through computerization.

- Remaining weaknesses:
  - Taxpayers often confused about rights and obligations and interpretation of tax laws;
  - Functional departments hampered by weak institutional arrangements and technical capacities;
  - Many taxpayers who should be registered still are not;
  - Computerization often remains limited;
  - Assignment of taxpayers to particular inspectors remains common, allowing discretion, negotiation, political interference, and corruption;
  - Audit functions remain weak, and ability to collect on tax arrears hampered by administrative or legal restrictions and lack of political will;
  - Valorization of tax administration personnel through training and strengthening managers’ capacities is key;
  - Remuneration of tax inspectors and incentive schemes is a frequent issue.

- Institutional structure concerns:
  - Parallel existence of Tax Police alongside collection enforcement departments duplicates functions, doubles burden on taxpayers, and increases scope for corruption;
  - Recommendation: abolition or integration of Tax Police with regular tax agencies following reform to create an environment more supportive of private sector development;
  - Note: In Russia, President Putin recently announced the abolition of the Tax Police (as reported in the source).

- Large Taxpayer Units (LTUs) and priority setting:
  - Principle: focus resources on large taxpayers rather than chasing small unlikely contributors;
  - LTUs have had more limited success in CIS compared to elsewhere, possibly due to recovery driven by new smaller private enterprises;
  - Suggestion to look dynamically at LTU coverage and secure stronger government commitment to support their operations;
  - Need greater resources to identify relatively small but highly profitable new private enterprises for integration into the tax net;
  - Possible approach: set relatively high thresholds for registration under full income tax and VAT while implementing “simplified” taxes for small businesses, mindful of concerns about complexity and discouraging formalization.

### Expenditure Policy (relevant fiscal context)
- Overall adjustment:
  - All CIS countries forced to cut public expenditures during first decade of transition; severity varied with ability to mobilize resources;
  - End of initial round of adjustment: CIS countries have on average overall public expenditure of about 29 percent of GDP, only marginally higher than emerging market economies but significantly lower than graduating transition countries and high income OECD countries.

- Regression/prediction results on expenditure/GDP:
  - Econometric analysis confirms relationship between total expenditure/GDP and PPP-adjusted income per capita; CIS dummy not statistically significant;
  - Table 4 (predicted vs actual total expenditure/GDP, based on regression with 80 percent confidence interval):
    - Armenia: Actual 22.4 | Predicted Low 20.6 Central 24.8 High 30.0 | Difference 2.4
    - Azerbaijan: Actual 23.6 | Predicted Low 20.9 Central 25.3 High 30.6 | Difference 1.7
    - Belarus: Actual 46.5 | Predicted Low 26.7 Central 33.1 High 41.0 | Difference -13.4
    - Georgia: Actual 17.5 | Predicted Low 22.8 Central 27.8 High 33.9 | Difference 10.3
    - Kazakstan: Actual 23.4 | Predicted Low 25.4 Central 31.3 High 38.7 | Difference 7.9
    - Kyrgyz Republic: Actual 25.3 | Predicted Low 20.1 Central 24.3 High 29.3 | Difference -1.0
    - Moldova: Actual 33.6 | Predicted Low 19.2 Central 23.1 High 27.7 | Difference -10.5
    - Russia: Actual 36.5 | Predicted Low 26.6 Central 32.9 High 40.8 | Difference -3.6
    - Tajikistan: Actual 16.6 | Predicted Low 16.9 Central 20.1 High 23.8 | Difference 3.5
    - Ukraine: Actual 36.6 | Predicted Low 22.4 Central 27.3 High 33.3 | Difference -9.3
    - Uzbekistan: Actual 35.2 | Predicted Low 19.6 Central 23.5 High 28.3 | Difference -11.7
    - Average: Actual 28.8 | Predicted Low 21.9 Central 26.7 High 32.5 | Difference -2.2

- Composition and structural issues:
  - Functional classification observations:
    - Health has been most adversely affected; CIS countries spend about 2 percent of GDP on health and about 7 percent as share of total expenditure, similar to emerging market economies;
    - Education similarly affected; inefficiencies (poor quality materials, low pay) reduce effectiveness;
    - CIS countries spend about a third of public expenditures on social security and welfare — not out of line with OECD/graduating transition but significantly higher than emerging market economies; spending appears focused on general entitlements rather than well-targeted social programs;
  - Economic classification observations:
    - Government wage bill in CIS measured in percent of GDP is lower than other groupings despite relatively high public employment, reflecting low and compressed public sector wages;
    - This has provided room for relatively more spending on other goods and services and transfers compared with emerging market countries.

- Policy implications and reform priorities:
  - Need far-reaching structural reforms to address distortions and inefficiencies in expenditure composition and micro-level rates of return;
  - Improve ability to translate policy objectives into targeted budgets and ensure effective implementation;
  - Maintain focus on civil service reform, health and education reform, pension reform, and reduction of explicit and implicit subsidies.

- Civil service reform:
  - Establishment of Civil Service Agency (possibly overseen by a Parliament Commission) to define qualifications, job categories, pay scales, maintain employment data, and develop reform plans;
  - Challenges include separating civil service from political jobs, introducing Civil Servants Code of Conduct and Financial Disclosure, reducing excessive personnel in some sectors, and managing short-term wage bill increases due to severance costs.

- Health and education reform priorities:
  - Emphasize provision of basic services, introduce formal cost recovery/fees, eliminate/formalize informal payments, target assistance to the poor, rationalize infrastructure, privatize less basic services, reduce and retrain personnel to allow wage increases;
  - Specific priorities: shift public resources from hospitals to primary health care; focus public resources on general education while increasing students/teacher ratios.

- Pension reform priorities:
  - Initial parametric reforms (lengthening retirement age, eliminating early retirement privileges, tightening eligibility, deferring benefits for working pensioners);
  - Need to sequence implementation of multi-pillar pension systems while strengthening administrative capacities and developing capital markets for funded schemes;
  - Rebalancing contributions and incentives away from enterprises to individual workers expected to improve compliance and allow lowering of payroll tax and combined payroll tax/social security contribution;
  - Transitional financing issues remain (how to finance transitional deficit if moving to funded second pillar, and whether state budget resources or benefit reductions are required).

- Subsidies:
  - Reduction/elimination of quasi-fiscal activities and deficits in energy, water, housing, communal services and transportation sectors remains a key challenge requiring concerted implementation of a package of measures.

*Source: IMF Country Reports.*

### Section II, these quasi-fiscal activities and deficits have tended to remain quite large, with

### _wp03209 - Section II, these quasi-fiscal activities and deficits have tended to remain quite large, with

### Utility sector reform and quasi-fiscal activities
- Quasi-fiscal activities and deficits in utility and energy sectors have tended to remain quite large, with any direct subsidies or tax expenditures from the budget generally insufficient to cover them.
- Package of measures to address quasi-fiscal pressures:
  - Elimination of pressures on enterprises to continue delivering services to customers who fail to pay (industrial enterprises, households, and budget entities).
  - Steps to increase utility tariff collection rates and to collect on arrears (including through credible threat to cut delivery).
  - Ensure budget allocations for budget entities using these services at higher tariffs are sufficient to avoid incurring arrears.
  - Eliminate preferential tariffs based on Soviet era categories of privileges.
  - Introduce a well targeted scheme to partly compensate poor households from the impact of necessary increases in utility tariffs.
  - Adjust utility tariffs toward full cost recovery.
- Complementary sector reforms needed:
  - Full corporatization.
  - Strengthening operational and financial management (reduction of technical and other losses, including thefts).
  - Privatization.
  - Setting up an appropriate regulatory framework.

### Sequencing, targeting, and implementation issues
- Sequencing: Strengthening payment discipline and introducing well targeted compensation schemes should precede raising utility tariffs. This is critical for poor CIS countries given low per capita incomes and severe relative over-investment under the Soviet system.
- Design challenges for compensation schemes:
  - Targeted cash transfers based on means or categorical testing, or life-line tariffs, are options.
  - Means-tested transfers are more efficient but require greater administrative capacity to administer the means-test formula.
  - Lack of individual gas metering complicates both design and enforcement of payment discipline.
- Financing challenges:
  - Unless schemes are sufficiently narrow, amounts involved can be rather large.
  - Example: In Russia, estimates suggest that if households are to spend no more than 22 percent of their disposable income on communal services including gas and electricity, full cost recovery might imply household compensations amounting to as much as 3–4 percent of GDP.
- Political economy:
  - Replacing Soviet era categories of privileges by new categories based on poverty requires significant political will.
  - Compensation schemes should be phased out over the medium-term as incomes increase and consumption patterns adjust.

### Financing transitional costs of expenditure reform
- Transitional costs of expenditure reform could be substantial, especially in poor CIS countries.
- Financing options and considerations:
  - Foreign assistance in the form of highly concessional financing, and preferably grants, can accommodate larger deficits without raising significant macroeconomic stabilization or fiscal sustainability issues.
  - One-off privatization proceeds could be used to finance one-off transitional costs, though available financial resources might not be large.

### Expenditure management: challenges and broad findings
- Progress has been made in establishing Treasuries, improving budget execution and cash management.
- Persistent weaknesses:
  - Problems with realistic and timely revenue projections; cash management often erratic when assumptions on availability of resources fail.
  - Cash arrears (even for protected items like wages and social payments) remain common.
  - Control of commitments generally weak; underbudgeting for certain expenditures (utilities) continues.
  - Maintenance of unfunded mandates results in commitment arrears.
  - Limited evidence of a “rational” approach to expenditure adjustment.
  - Instances of overperformance in tax revenue raised questions about proper use of resources.
  - Budget outcomes often differ from plans in aggregates and allocation, raising questions about expenditure control and integrity of budget implementation.
  - Internal and external auditing of budget execution remain generally weak.
  - Little emphasis on efficiency and performance of expenditures; corrupt practices in acquisition of goods and services appear common.

### Institutional capacity and decentralization
- Addressing weaknesses requires improving institutional capacities at central and local government levels; this is important if decentralization is part of efficiency improvements (health and education).
- Personnel involved in budget formulation and execution must be able to:
  - Think strategically in linking expenditure programs with specific government policy objectives.
  - Develop expenditure plans that minimize input costs.

### Medium-Term Budget Framework (MTBF) and strategic budgeting
- MTBF (usually a three-year rolling horizon integrating the PIP with the state budget) is an important tool to introduce strategic thinking in budget formulation; several CIS countries have made progress (Kazakhstan, Armenia, Kyrgyz republic, Moldova, Tajikistan; process initiated in Russia and Ukraine).
- MTBF should:
  - Encompass as broad a definition of general government operations as possible in a multi-year horizon.
  - Go beyond broad aggregates for outer years.
  - More fully integrate domestic and foreign financed components of the PIP within government priorities and annual budget plans, especially linkages with current expenditure programs.
  - Explicitly integrate key quasi-fiscal activities.
  - Explicitly recognize multi-year impact of key expenditure policy reforms (phasing-out of quasi-fiscal activities and deficits, civil service reform, health and education reform, pension reform).
  - Be coordinated and consistent with poverty reduction strategies in PRGF countries and facilitate broad fiscal sustainability assessment.
- Preconditions: Further strengthening of analytical capabilities of personnel involved.

### Specific reform priorities in the budget management framework
- Continue extension of the Treasury system to all levels of government, including operations of earmarked extra-budgetary funds and extra-budgetary accounts.
- Refine and adopt transparent and realistic assumptions to formulate requests for expenditure provisions in the budget, especially utilities.
- Develop “program budgeting” to enhance efficiency of expenditures; progress made toward proper functional and economic classifications of the budget.
- Strengthen capacities to assess rates of return of domestic and foreign-financed investment projects and to rank them; PIPs have been mainly donor-driven to date.
- Formalize a mid-year review of budget implementation to realign aggregates and allocations to new macroeconomic and policy developments.
- Strengthen capacities to control expenditure commitments, including for utilities and the wage bill (noting unfilled vacancies and general provisions for allowances complicate control).
- Strengthen public procurement laws and regulations, enforce them, train civil servants, and hold them fully accountable.
- Increase transparency and integrity of privatization; integrate privatization revenue and expenditure flows within the budget; consider parliamentary Privatization Commission supervision and regular internal and external audits.
- Improve internal auditing as both financial control and a tool to assess efficiency and performance of public expenditures.
- Build on progress developing legal basis, independence, and operational capacities for independent external auditing; ensure external audit agencies focus on auditing execution, not formulation, of the state budget, and encourage value-for-money audits in addition to financial audits.

### Notable country-specific notes and examples
- Footnotes and country instances:
  - Instances of tax concessions to energy enterprises as compensation for quasi-fiscal activities; Armenia increased explicit subsidies to prevent tax arrears by energy enterprises.
  - Lack of gas meters makes cutting delivery for households a difficult option.
  - Imaginative financing arrangements for gas meter installation (possibly with foreign assistance) could help; Tajikistan is pursuing this with funds from China.
  - Russia example on household burden and compensation requirements (see financing challenges above).
  - MTBF progress noted in Kazakhstan, Armenia, Kyrgyz republic, Moldova, Tajikistan, Russia, and Ukraine.
  - Underbudgeting for utilities is a major problem in Azerbaijan, Georgia, and Ukraine.
  - Russia has experimented with a system of utility contract registration to improve commitment control.
  - Kazakhstan introduced “passports” to monitor and evaluate budget programs.
  - Audit and control institutions mentioned: Account Chamber (Russia), Control Chamber of the National Assembly (Armenia), State Control Office (Ukraine), Accounting Committee (Kazakhstan), State Financial Control (Tajikistan); independent audit function still being set up in Azerbaijan.

### Concluding remarks (paper summary)
- The paper summarized the state of play with fiscal reforms among the CIS countries, presented an agenda of priorities for further reforms, and a strategy to implement them. The main findings and recommendations were summarized in the paper.

*Source: _wp03209 - Section II, these quasi-fiscal activities and deficits have tended to remain quite large, with (PDF chapter).*

### introduction. The substantial progress made in building fiscal systems that are more

### _wp03209 - introduction. The substantial progress made in building fiscal systems that are more

### Progress and public policy objectives
- Substantial progress was made in building fiscal systems that are more transparent and effective for the conduct of macroeconomic policies and the pursuit of public policy objectives.
- Key public policy objectives identified:
  - Present the private sector with an enabling fiscal environment.
  - Address social needs.
- Assessment: "More has probably been achieved with regard to the former objective than the latter."

### Levels of tax revenue and expenditure
- Broad finding: The CIS countries now have levels of tax revenues and expenditures that are not out of line with international norms, taking into account the income differentials.
- Heterogeneity noted:
  - For some individual countries the size of government (at least of that covered by the formal transactions of the general government) has become small by international standards.
  - In a few others, it remains too big.
- Specific regional note: "Among the Caucasus countries, in particular, there is room for increasing the tax revenue effort."

### Main fiscal challenges and policy directions
- Primary challenge: Improve the efficiency of tax revenues and, especially, of expenditures.
  - Given inefficiencies of the current expenditure system, the fact that the expenditure level is barely equal to that of emerging market economies suggests that the delivery of public services is inadequate by international standards.
- Tax-side reforms recommended:
  - Broadening the tax base.
  - Strengthening tax administration.
  - These measures could allow some further reduction of rates in limited cases.
- Expenditure-side reforms recommended:
  - Structural reform of the expenditure system is necessary to improve delivery of public services.
  - Structural reform is likely to take more time given the complexities involved.

### Institutional and capacity requirements
- Building technical capacities and institutions is a prerequisite to:
  - Improve tax administration standards.
  - Develop and manage more efficient expenditure plans.
- International support: Broad-based international expertise and advice on a fairly large scale will continue to be necessary for some time.

### Selected statistical and regression results (from Annex I)
- Table 1a: Unweighted average (Emerging groups and CIS):
  - Unweighted average (Graduating transition economies): 32.57.75.21.87.63.50.50.111.12.0
  - Unweighted average (Emerging market countries): 18.15.72.33.54.72.22.30.92.62.1
  - Unweighted average (CIS countries): 23.46.12.42.86.72.31.30.75.22.5
- Table 2a. Tax Revenue/GDP Regressed on PPP-Adjusted Income Per Capita (log form)
  - Regression Statistics:
    - Multiple R 0.779562
    - R Square 0.607717
    - Adjusted R Square 0.601774
    - Standard Error 0.258594
    - Observations 68
  - ANOVA:
    - Regression df 1 SS 6.837287 MS 6.837287 F 102.2461 Significance F 4.82E-15
    - Residual df 66 SS 4.413479 MS 0.066871
    - Total df 67 SS 11.250766
  - Coefficients:
    - Intercept 0.103289 (Standard Error 0.314553, t Stat 0.328367, P-value 0.743674, Lower 95% -0.524737, Upper 95% 0.731315)
    - ln income 0.346541 (Standard Error 0.034271, t Stat 10.111680, P-value 4.82E-15, Lower 95% 0.278116, Upper 95% 0.414966)
- Table 2b. Tax Revenue/GDP Regressed on PPP-Adjusted Income Per Capita (log form; dummy variable for OECD, ten graduating transition countries, and CIS)
  - Regression Statistics:
    - Multiple R 0.850209
    - R Square 0.722856
    - Adjusted R Square 0.714329
    - Standard Error 0.219022
    - Observations 68
  - ANOVA:
    - Regression df 2 SS 8.132685 MS 4.066342 F 84.76761 Significance F 7.73E-19
    - Residual df 65 SS 3.118081 MS 0.04797
    - Total df 67 SS 11.25077
  - Coefficients:
    - Intercept 0.694061 (Standard Error 0.28966, t Stat 2.396124, P-value 0.019457, Lower 95% 0.115571, Upper 95% 1.27255)
    - ln income 0.256394 (Standard Error 0.033816, t Stat 7.582126, P-value 1.61E-10, Lower 95% 0.18886, Upper 95% 0.323929)
    - dummy 0.343703 (Standard Error 0.066141, t Stat 5.196545, P-value 2.20E-06, Lower 95% 0.211611, Upper 95% 0.475795)
- Table 3. Personal Income Tax (PIT) Revenue/GDP Regressed on Rates, and PPP-Adjusted Income Per Capita
  - Regression Statistics:
    - Multiple R 0.846908
    - R Square 0.717253
    - Adjusted R Square 0.707332
    - Standard Error 2.795783
    - Observations 60
  - ANOVA:
    - Regression df 2 SS 1130.202 MS 565.1012 F 72.296849 Significance F 2.32E-16
    - Residual df 57 SS 445.5349 MS 7.816402
    - Total df 59 SS 1575.737
  - Coefficients:
    - Intercept -4.290721 (Standard Error 1.111348, t Stat -3.860824, P-value 0.000291, Lower 95% -6.516159, Upper 95% -2.065283)
    - rates 0.256997 (Standard Error 0.045850, t Stat 5.605118, P-value 6.32E-07, Lower 95% 0.165183, Upper 95% 0.348811)
    - income 0.000280 (Standard Error 3.86E-05, t Stat 7.254000, P-value 1.20E-09, Lower 95% 0.000203, Upper 95% 0.000357)

*Source: _wp03209 - introduction.*

### ANNEX                                                                                                I

### ANNEX I

### Regression Statistics: Payroll Tax and Social Security Contribution/GDP (Table 4)
- Multiple R: 0.714196
- R Square: 0.510076
- Adjusted R Square: 0.490864
- Standard Error: 3.641838
- Observations: 54

ANOVA
- Regression df: 2; SS: 704.2361; MS: 352.1181; F: 26.54893; Significance F: 1.25E-08
- Residual df: 51; SS: 676.4122; MS: 13.262984
- Total df: 53; SS: 1380.648

Coefficients
- Intercept: Coefficient: -2.521468; Standard Error: 1.520914; t Stat: -1.657864; P-value: 0.103484; Lower 95%: -5.574828; Upper 95%: 0.531892
- rates: Coefficient: 0.206959; Standard Error: 0.036714; t Stat: 5.637105; P-value: 7.55E-07; Lower 95%: 0.133253; Upper 95%: 0.280665
- income: Coefficient: 0.000321; Standard Error: 5.19E-05; t Stat: 6.195839; P-value: 1.01E-07; Lower 95%: 0.000217; Upper 95%: 0.000426

- Sources: Annex Table 1a and staff calculations.
- Note: Table 4 — Payroll Tax and Social Security Contribution/GDP Regressed on Rates and PPP-Adjusted Income Per Capita.

### PIT Revenue: Actual, Predicted, and Difference (Table 5)
- Data (Actual / Predicted / Difference) — (In percent of GDP) 1/
  - Armenia: 0.9 0.4 -0.5
  - Azerbaijan: 1.9 2.8 0.9
  - Belarus: 3.0 3.4 0.4
  - Georgia: 1.9 1.1 -0.8
  - Kazakstan: 2.1 2.3 0.2
  - Kyrgyz republic: 1.4 0.4 -1.0
  - Moldova: 2.1 0.9 -1.2
  - Russia: 3.3 1.6 -1.7
  - Tajikistan: 1.2 -0.1 -1.3
  - Turkmenistan: 1.9 1.9 0.0
  - Ukraine: 4.9 2.9 -2.0
  - Uzbekistan: 3.6 2.7 -0.9
  - Average: 2.4 1.7 -0.7
- Sources: Annex Tables 1a and 3.
- 1/ Based on the regression model PIT revenue/GDP regressed on PIT rates, and PPP-based income per capita.

### Payroll Tax/Social Security Revenue: Actual, Predicted, and Difference (Table 6)
- Data (Actual / Predicted / Difference) — (In percent of GDP) 1/
  - Armenia: 2.8 2.2 -0.6
  - Azerbaijan: 2.2 4.8 2.6
  - Belarus: 11.9 8.9 -3.0
  - Georgia: 1.8 4.8 3.0
  - Kazakstan: 3.6 7.3 3.7
  - Kyrgyz Republic: 3.5 5.2 1.7
  - Moldova: 7.4 4.6 -2.8
  - Russia: 7.7 7.7 0.0
  - Tajikistan: 1.9 3.3 1.4
  - Turkmenistan: 3.4 7.3 3.9
  - Ukraine: 9.0 7.2 -1.8
  - Uzbekistan: 6.7 7.2 0.5
  - Average: 5.2 5.9 0.7
- Sources: Annex Tables 1a and 4.
- 1/ Based on the regression model payroll tax and social security contribution/GDP regressed on rates, and PPP-based income per capita.

### General Government Expenditure, by Economic Type (Table 7a)
- Table format: (In percent of GDP) Year; Total (incl. Lending minus Repayment); Goods and Services; Of which: Wages; Transfers; Of which: Transfers to Households; Interest; Capital Expenditure; Lending minus Repayment.
- Selected country values (examples as presented):
  - Canada 2001: Total 42.5; Goods and Services 20.9; Wages 11.0; Transfers 13.6; Transfers to Households 9.3; Interest 5.2; Capital Expenditure 2.4; Lending minus Repayment 0.3
  - United States 2001: Total 32.7; Goods and Services 13.9; Wages 7.7; Transfers 12.9; Transfers to Households 8.9; Interest 2.9; Capital Expenditure 3.0; Lending minus Repayment 0.0
  - Korea 1997: Total 16.5; Goods and Services 4.7; Wages 2.2; Transfers 3.4; Transfers to Households 3.1; Interest 0.5; Capital Expenditure 3.8; Lending minus Repayment 4.1
- Averages:
  - Average OECD: Total 43.4; Goods and Services 16.7; Wages 9.4; Transfers 17.5; Transfers to Households 12.7; Interest 3.7; Capital Expenditure 3.9; Lending minus Repayment 0.6
  - Average EU: Total 45.8; Goods and Services 17.2; Wages 10.4; Transfers 19.9; Transfers to Households 14.7; Interest 4.6; Capital Expenditure 4.2; Lending minus Repayment 0.0
- CIS countries (selected):
  - Armenia 2002: Total 22.4; Goods and Services 13.1; Wages 2.6; Transfers 3.0; Transfers to Households 0.9; Interest 0.9; Capital Expenditure 4.7; Lending minus Repayment 0.7
  - Russia 2001: Total 36.5; Goods and Services 15.4; Wages 5.8; Transfers 14.2; Transfers to Households 8.0; Interest 2.7; Capital Expenditure 5.1; Lending minus Repayment -0.8
  - Average (CIS countries): Total 28.8; Goods and Services 13.3; Wages 5.3; Transfers 9.4; Transfers to Households 6.8; Interest 1.7; Capital Expenditure 4.0; Lending minus Repayment -0.1
- Sources: GFS and staff estimates, IMF.
- 1/ Data from FAD emerging markets database.

### General Government Expenditure, by Function (Table 7b)
- Table format: (In percent of GDP) Year; Total General Public; Defense; Public Order; Education; Health; Social Security; Housing; Recreation; Economic Affairs; Other.
- Selected country values (examples as presented):
  - Canada 2001: Total 42.1; General Public 2.0; Defense 1.2; Public Order 2.1; Education 8.4; Health 7.1; Social Security 13.1; Housing 1.0; Recreation 1.0; Economic Affairs 4.6; Other 1.7
  - United States 2001: Total 32.7; General Public 2.8; Defense 3.0; Public Order 1.8; Education 7.5; Health 7.3; Social Security 8.1; Housing 0.8; Recreation 0.4; Economic Affairs 3.0; Other -2.0
  - Korea 1997: Total 12.3; General Public 0.9; Defense 2.9; Public Order 1.1; Education 3.6; Health 0.1; Social Security 1.9; Housing 0.4; Recreation 0.1; Economic Affairs 4.1; Other -2.8
- Averages:
  - Average OECD: Total 42.8; General Public 2.6; Defense 1.9; Public Order 1.4; Education 5.6; Health 5.6; Social Security 13.5; Housing 1.3; Recreation 0.9; Economic Affairs 4.6; Other 0.7
  - Average EU: Total 45.8; General Public 2.6; Defense 1.7; Public Order 1.2; Education 4.8; Health 4.7; Social Security 15.8; Housing 1.5; Recreation 0.7; Economic Affairs 4.2; Other 1.4
- CIS countries (selected functional shares):
  - Armenia 2002: Total 22.4; General Public 1.6; Defense 2.7; Public Order 1.2; Education 2.1; Health 1.1; Social Security 1.8; Housing 1.0; Recreation 0.8; Economic Affairs 3.0; Other 4.2
  - Russia 2001: Total 37.4; General Public 2.8; Defense 3.1; Public Order 1.8; Education 3.0; Health 1.9; Social Security 9.4; Housing 2.3; Recreation 0.6; Economic Affairs 5.7; Other 6.7
  - Average (CIS countries): Total 28.4; General Public 2.0; Defense 1.6; Public Order 1.6; Education 3.9; Health 2.1; Social Security 7.9; Housing 1.1; Recreation 0.7; Economic Affairs 3.1; Other 3.6
- Sources: GFS and staff estimates, IMF.
- Notes:
  - 1/ Breakdown by functional expenditures is incomplete due to lack of information on either local or state budget expenditure.
  - 2/ Data from FAD emerging markets database.
  - 3/ Breakdown excludes PIP.

### Regression Statistics: Expenditure/GDP Regressed on PPP-Adjusted Income Per Capita (log form) (Table 8)
- Multiple R: 0.676809
- R Square: 0.458070
- Adjusted R Square: 0.449186
- Standard Error: 0.257848
- Observations: 63

ANOVA
- Regression df: 1; SS: 3.428049; MS: 3.428049; F: 51.560655; Significance F: 1.13E-09
- Residual df: 61; SS: 4.055632; MS: 0.066486
- Total df: 62; SS: 7.483681

Coefficients
- Intercept: Coefficient: 1.091864; Standard Error: 0.337925; t Stat: 3.231082; P-value: 0.001989377; Lower 95%: 0.416141; Upper 95%: 1.767587
- ln income: Coefficient: 0.263881; Standard Error: 0.036749; t Stat: 7.180575; P-value: 1.13E-09; Lower 95%: 0.190396; Upper 95%: 0.337366

- Sources: Annex Table 7a and staff calculations.
- Note: Table 8 — Expenditure/GDP Regressed on PPP-Adjusted Income Per Capita (log form).

*Source: _wp03209 - ANNEX I*

### REFERENCES

### REFERENCES

### Public expenditure, health, and education in CIS-7
- Betley, M., 2003, “Public Expenditure in the CIS-7,” Mokoro, UK, prepared for the Lucerne Conference of the CIS-7 Initiative.
- Bonilla-Chacin, M., E. Murrugarra, and M. Temourov, World Bank, 2003, “Health Care during Transition, and Health Systems Reform: Evidence from the Poorest CIS Countries,” prepared for the Lucerne Conference of the CIS-7 Initiative.
- Burnett, N. and R. Cnobloch, 2003, “Public Spending on Education in the CIS-7 Countries: The Hidden Crisis,” World Bank, prepared for the Lucerne Conference of the CIS-7 Initiative.
- Summers, V., and K. Baer, 2003, “Revenue Policy and Administration in the CIS-7: Recent Trends and Future Challenges,” IMF, prepared for the Lucerne Conference of the CIS-7 Initiative.
- Saavalainen, T., and J. ten Berge, 2003, “Energy Conditionality in Poor CIS Countries,” unpublished.

### Fiscal adjustment, structural reform, and privatization
- Bulir, A. and S. Moon, 2003, “Do IMF-Supported Programs Help Make Fiscal Adjustment More Durable?,” IMF Working Paper No. 03/38 (Washington, International Monetary Fund).
- Davis, J., R. Ossowski, T. Richardson, and S. Barnett, 2000, “Fiscal and Macroeconomic Impact of Privatization,” Occasional Paper No. 194 (Washington, International Monetary Fund).
- Pirtila, J., 2001, “Fiscal Adjustment and Structural Reforms in Transition Economies: and Empirical Analysis,” Economics of Transition, Vol. 9, No. 1, pp. 29—52.
- Purfield, Catriona, 2003, “Fiscal Adjustment in Transition Countries: Evidence from the 1990s,” IMF Working Paper No. 03/36 (Washington, International Monetary Fund).
- Ustinov, A.V., 2002, “The Long-Term Impact of Structural Reforms on the Budget of the Russian Federation,” in Problems of Economic Transition, Vol. 45 (May 2002), pp.21-53.

### Tax reform and revenue policy
- (Staff team led by) Ebrill, L. and O. Havrylyshyn, 1999, “Tax Reform in the Baltics, Russia, and Other Countries of the Former Soviet Union,” Occasional Paper No. 182 (Washington, International Monetary Fund).
- Mansoor, Ali, and Nikola Spatafora, 2002, “Tax Reform in Russia since 1999,” in Russian Federation: Selected Issues and Statistical Appendix, IMF Country Report 02/75 (Washington: International Monetary Fund), pp. 59—78.
- Mitra, P. and Stern, N., 2003, “Tax Systems in Transition”, Policy Research Working Paper No. 2947, World Bank.
- PriceWaterhouse Coopers, various years, Individual Taxes and Corporate Taxes, John Wiley & Sons, Inc.
- Gupta, S., L. Leruth, L. de Mello, and S. Chakravarti, 2001, “Transition Economies: How Appropriate is the Size and Scope of Government?,” IMF Working Paper No. 01/55 (Washington: International Monetary Fund).

### Fiscal transparency and ROSC reports
- IMF, 1999, Ukraine: Experimental IMF Report on Observance of Standards and Codes (ROSC), I. Fiscal Transparency (Washington, International Monetary Fund).
- —— 2000, Azerbaijan Republic: Report on the Observance of Standards and Codes (ROSC), I. Fiscal Transparency (Washington, International Monetary Fund).
- —— 2001, Latvia: Report on the Observance of Standards and Codes (ROSC), I. Fiscal Transparency (Washington: International Monetary Fund).
- ——, 2002 a, Armenia: Report on the Observance of Standards and Codes-Fiscal Transparency Module, IMF Country Report SM/02/37 (Washington: International Monetary Fund).
- ——, 2002 b, Republic of Lithuania: Report on the Observance of Standards and Codes-Fiscal Transparency Module, IMF Country Report SM/02/250 (Washington: International Monetary Fund).
- ——, 2002 c, Republic of Kazakhstan: Report on the Observance of Standards and Codes-Fiscal Transparency Module, IMF Country Report SM/02/317 (Washington, International Monetary Fund).
- ——, 2003, Russian Federation: Report on the Observance of Standards and Codes- Fiscal Transparency Module, (draft) (Washington: International Monetary Fund).

### Pensions and social sector reform
- De Castello Branco, M., 1998, “Pension Reform in the Baltics, Russia, and Other Countries of the Former Soviet Union”, IMF Working Paper No. 98/11 (Washington, International Monetary Fund).
- Schiff, J., N. Hobdari, A. Schimmelpfennig, and R. Zytek, 2002, “Pension Reform in the Baltics: Issues and Prospects,” IMF Occasional Paper No. 200 (Washington, International Monetary Fund).

### Energy sector and quasi-fiscal activities
- Petri, M., Taube, G., and Tsyvinski, A., 2002, “Energy Sector Quasi-Fiscal Activities in the Countries of the Former Soviet Union,” IMF Working Paper No. 02/60 (Washington, International Monetary Fund).

### Russia-specific studies and fiscal policy
- Diamond, J., 2002, “The New Russian Budget System: A Critical Assessment and Future Reform Agenda,” IMF Working Paper No. 02/21 (Washington, International Monetary Fund).
- Lewis, M., 2003, “Medium-Term Fiscal Stance and the Potential Role of an Oil Stabilization Fund,” in Russian Federation-Selected Issues, IMF Country Report 03/142 (Washington, International Monetary Fund).
- Mansoor, Ali, and Nikola Spatafora, 2002, “Tax Reform in Russia since 1999,” in Russian Federation: Selected Issues and Statistical Appendix, IMF Country Report 02/75 (Washington: International Monetary Fund), pp. 59—78.
- Ustinov, A.V., 2002, “The Long-Term Impact of Structural Reforms on the Budget of the Russian Federation,” in Problems of Economic Transition, Vol. 45 (May 2002), pp.21-53.

### World Bank and broader transition analyses
- World Bank, 2002, “Transition: The First Ten years; Analysis and Lessons for Eastern Europe and the Former Soviet Union.”
- ——, 2003, “Understanding Public Sector Performance in Transition Countries” (draft report).
- Bonilla-Chacin, M., E. Murrugarra, and M. Temourov, World Bank, 2003, “Health Care during Transition, and Health Systems Reform: Evidence from the Poorest CIS Countries,” prepared for the Lucerne Conference of the CIS-7 Initiative.

*Source: _wp03209 - REFERENCES*

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