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GTAP Resource #1734

by Kowalski, Przemyslaw


Tariff revenue concerns have emerged as an important issue in the framework of multilateral trade negotiations under the Doha Development Agenda. The July framework agreement explicitly identified the tariff revenue issue as a challenge for countries dependent on revenues from import tariffs and instructed the Negotiating Group on Non-agricultural Market Access to take into account the particular needs that may arise for the Members concerned. This paper attempts to aid this process by: discussing the methodological issues associated with estimating revenue impacts; providing impact estimates for a sample of developing countries; linking the differences in impacts to cross-country differences in existing tariff regimes as well as properties of formulas for tariff cuts; and, discussing efficient tax replacement policies and past experiences.

Methodology, model and data
At the outset, using the TRAINS data, the paper discusses current patterns of tariff protection across economic sectors and regions. The structure of developing countries’ tariff protection is further analyzed in the context of protective and fiscal goals of tariff policies. Next, the paper presents different formula approaches to tariff reductions and addresses their revenue properties. A discussion of tax reform policies that could accompany tariff reform and lessen potential revenue losses follows. In the empirical part, the paper presents results of simulations of tariff revenue and welfare effects using the linear and Swiss tariff reduction formulas for a sample of 24 developing countries. Two models are used in the simulations: a simple partial equilibrium model which employs tariff-line TRAINS data and the standard GTAP general equilibrium model which employs a pre-release of the GTAP 6 database. Based on the simulation results, the paper offers a discussion of cross-country differences and provides sensitivity analysis by changing formula coefficients. A comparison of estimates from the two models and across formulas is also provided. Finally, the paper offers a simulation of the welfare effects of reducing tariffs and simultaneously replacing lost tariff revenues with revenues from consumption tax. This involves a change of closure of the standard GTAP model where the ratio of taxes to income is swapped with a consumption tax in order to generate a tax replacement scenario, whereby taxes remain a constant share of national income. The representation of consumption tax in the GTAP database and its implications for simulation results are discussed. The paper concludes with policy implications.

Selected findings

• The fact that in several developing countries many tariffs have not been bound or have been bound at rates that are significantly higher than applied duties highlights the need to seek ambitious tariff liberalisation commitments in the context of the Doha round of negotiations in order to secure meaningful welfare gains for participants. At the same time, large binding overhangs imply that unused protection can be significantly reduced contributing to greater certainty about the future levels of tariff protection without implying any losses to government tariff revenue. In fact, binding of unbound lines and reduction of existing binding overhangs may positively affect trade flows and revenue collection by providing an upper ceiling on applied rates and thereby constraining the uncertainty with respect to future protection levels.
• Many developing countries’ applied tariff schedules are characterised by high dispersion of tariff rates in low import demand elasticity sectors and prevalence of high tariff rates in high import demand elasticity sectors. Such a structure of applied rates may in fact lessen any negative revenue impacts of tariff reduction as compared to a situation where high rates are applied on low elasticity products.
• Given that the initial levels of tariffs and the structure of trade of any one country are our starting point, the results following reductions in tariffs are totally driven by the adopted modality for tariff reduction. That is, the extent of changes in tariff revenues are determined by the formula used to reduce tariffs. Simulation results of tariff reduction using the Swiss formula indicate considerable cross-country differences in trade, welfare and revenue impacts. This is due to differences in the initial levels of tariffs and differences between bound and applied rates. In particular, countries with higher initial tariffs and lower binding overhang experience deeper percentage revenue loss but also larger trade creation and welfare gains. Cross-country variation in revenue impacts does not seem to be driven by differences in these countries’ aggregate responsiveness to trade price changes (for a given set of trade elasticities).
• The link between the initial level of tariffs and the depth of proportional revenue reduction where high tariff countries experience deeper percentage reductions in tariff revenue can be associated with the properties of the Swiss formula itself (and the assumed trade elasticities) and does not extend to the case of a linear formula which is also examined here.
• Simulations results of tariff reduction using the linear formula also indicate considerable differences in trade and welfare impacts across countries. Nevertheless, in contrast to the Swiss formula, the revenue impacts are more homogenous across countries and related positively to the initial level of tariffs. Reduction of tariffs according to the linear formula with a coefficient of 50 per cent yields global welfare gains comparable to those achieved with a Swiss formula with a coefficient of 10. The Swiss formula, however, yields more favorable revenue effects.
• The required fiscal adjustment will depend on a given percentage impact on tariff revenue and shares of tariff revenues in the total government revenue and GDP. Estimates for 12 countries in our sample indicate that in nine cases the potential tariff revenue reductions are relatively small and the required fiscal adjustment is therefore manageable, especially given the net efficiency gains that are expected to result from liberalization. In some cases, however, the required fiscal adjustment may be more extensive.
• The results of the simulation according to the Swiss formula where tariff revenue losses are replaced with consumption tax indicate that there is scope for obtaining welfare gains from the joint package of tariff and tax reform without compromising public revenue. Under certain conditions, an accompanying tax replacement policy would reduce only partially the welfare gains arising from improvements to resource allocation associated with tariff reform.
• The literature points to both successful and failed attempts at co-ordinating tariff and domestic tax reforms. The mixed evidence calls for a forward looking approach to addressing the adjustment costs that may be associated with tariff cuts agreed in the DDA negotiations. Such an approach could involve both an advance analytical assessment of which countries may be particularly vulnerable as well as an integration of revenue concerns into SDT provisions be it in the form of extended implementation periods or coordinated financial assistance provided to disadvantaged developing countries to help them overcome financial, technical or capacity constraints associated with a tariff-cum-tax reform.

Resource Details (Export Citation) GTAP Keywords
Category: GTAP Application
2005 Conference Paper
Status: Published
By/In: Presented at the 8th Annual Conference on Global Economic Analysis, Lübeck, Germany
Date: 2005
Created: Kowalski, P. (4/30/2005)
Updated: Batta, G. (6/21/2005)
Visits: 2,291
No keywords have been specified.

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