Fiscal Policy and Tax System

by Shin-ichiro TABATA

March 2001

Economic and Social Research Institute

Contents

Theme of this chapter 1. Changes in the role of finances
(1) Role of finance under controlled economy ··············································· 1 (2) Changes caused by transition to market economy ···································· 2

2. Reduction of expenditures
(1) Necessity to reduce expenditures··························································· 2 (2) Spending on state enterprises ······························································· 3 (3) Subsidy (price-disparity subsidies) ························································ 4 (4) Social expenses ··················································································· 5

3. Securing revenues
(1) Changes in revenue sources and difficulty to expand revenues ·················· 5 (2) Tax system reform ·············································································· 6 [1] History of reform ············································································· 6 [2] Corporate profit tax ········································································ 7 [3] Value-added tax··············································································· 8 [4] Excise tax ······················································································· 9 [5] Export/import duty········································································· 11 [6] Personal income tax ······································································· 13 (3) Problems in tax collection··································································· 13 [1] Inadequate tax system···································································· 13 [2] Inadequate tax-collection system······················································ 13 [3] Recession and liquidity shortage ······················································ 14 [4] Deliberate tax evasion ···································································· 14

4. Fiscal deficits
(1) Factors behind fiscal deficits······························································· 14 (2) Financing fiscal deficits ····································································· 15

5. Regional/local finances
(1) Fiscal relations among central, regional and local governments ··············· 16 (2) Sources of regional/local budgets ························································· 17

Changes in the role of finances (1) Role of finance under controlled economy The role of finance played in the Soviet Union was much bigger than in capitalist countries. its role was to guarantee free education and medical care and provide low-price daily necessities.. in turn. 1 . What are the factors behind the deficits? How the should deficits be financed? (5) With regard to regional/local finances. Most of the profits of state-run enterprises were transferred to the state treasury which. provided funds for almost all investment. the expanded reproduction and income redistribution mechanisms of the national economy were based on state finances.Themes of this chapter (1) With regard to finances. and pension were all managed by the state and funded by the state treasury. first. Education. This is because almost all enterprises were owned by the state and almost all workers were either central or local government employees and because the state was controlling most of the production activity of the enterprises and in sole responsibility of social security. medical care. the state budget accounted for nearly half of GDP as of the end of the 1980s. That is to say. how each tax was introduced? What problems does each tax have? Why do tax revenues remain stagnant? (4) With regard to fiscal deficits. to guarantee stability of national life in a broad sense. the role of the fiscal system in Russia was. to promote economic development by investing funds obtained from a specific source in specific sectors and. second. what problems are involved in expenditures and revenue sources? What problems are involved in fiscal support from the central government? 1. in particular. Under such situations. In short. what changes have been made compared with the Soviet era? What measures have been taken in the past 10 years? What problems do remain unresolved? (2) With regard to expenditures. As Table 1 shows. why was the reduction of expenditures necessary? What problems has the reduction produced? (3) With regard to revenue and with regard to tax system reform.

This resulted in an oversupply of funds to enterprises and households. how to secure the financial resources for state budget was a big problem for the government. Fiscal deficits began to increase drastically in the second half of the 1980s due to a fall in oil prices worldwide. Amid the rapid changes in the way enterprises are owned and business behavioral pattern. these problems still remain unresolved. that accounted for about 8% of GDP are included. the government was already producing a huge amount of fiscal deficits every year. Since prices kept rising at a pace of more than 10% a month in 1994~1995. At the same time. Reduction of expenditures (1) Necessity to reduce expenditures A drastic cut in state budget expenditures was necessary for the following three reasons: [1] When the transition to market economy began (early 1992). the proportion comes to slightly below 40%). However. the government had to keep adopting austere fiscal policies. a decrease in payments of corporate profits to the state treasury by enterprises following their increased discretion.) and privatization of economic activities. etc. it had no choice but to take an austere fiscal policy. state bank) in those days. trade. The decline can be attributed to the abolition of the controlled management system on enterprises (abolition of the material/machinery supply system) and the liberalization (of prices. Since the deficits were financed by direct lending from the central bank (then. it resulted in hyperinflation in 1992~1993. in addition to the task of promoting the transition to market economy.(2) Changes caused by transition to market economy Table 1 also shows that the proportion of state budget to GDP fell to around 30% in and after 1992 (if the non-budget funds. As a result. Therefore. However. fixed-pricing system. causing a severe scarcity of goods under the state-set. and an increase in spending on subsidies and investment. foreign exchanges. a drastic tax system reform was implemented and a new tax-collection system was established. such as pension funds. it produced excessive liquidity. it was necessary to establish a new expanded reproduction mechanism and a new income redistribution system. the Russian government was burdened with the task of putting the fiscal house in order. 2. [2] Since the government implemented “price liberalization” in the initial stage of the transition to market economy amid excessive liquidity. The government was unable to take price 2 .

As a result. As revenues decreased faster than initially expected. causing delays in payments to suppliers and banks. as austere fiscal and monetary policies were thought to be the only effective measures to fight inflation and as it was under pressure from international financial institutions. etc. expenditures were slashed drastically (See Table 2). the principle of reducing expenditures in the amount corresponding to a shortfall of tax revenues was applied strictly.control measures outright in the face of a call for liberalization from international financial institutions. as will be described in (2)~(4). In the first quarter of 1992. the government had to keep slashing expenditures amid decreasing revenues. the financial conditions of state enterprises deteriorated sharply. 3 . During the first quarter of 1992. to establish a specific target for the reduction of fiscal deficits as a priority issue. as state budget revenues decreased sharply due to disorders shortly after the transition to market economy and confusions caused by the demise of the Soviet Union and the independence of the Russian Federation. Although the application of the principle was eased in and after the second quarter of 1992. as the government strictly applied the principle of slashing expenditure corresponding to a shortfall of tax revenues amid the confusions caused by the transition to market economy. Under pressure from international financial institutions. the government kept following the practice of suspending expenditures on some items in case of a revenue shortfall and setting aside beforehand the “protected items” that would not be affected by the suspension. when it became difficult to keep slashing expenditures. In mid-1992. all expenditures on state enterprises were virtually suspended. etc. etc. there were also cuts that generated big problems. They should be evaluated positively from the standpoint of economic development. Among the items whose expenditures were reduced drastically are defense spending and agricultural investment (large irrigation projects) that had not been seen as effective. to come up with specific figures for its economic recovery. the government started increasing expenditures and the central bank began extending loans to rescue the state enterprises. the demise of the Soviet Union and the independence of the Russian Federation. The government was left with no choice but to keep taking austere measures. [3] The government had to cut expenditures drastically. However. They included payments to cover enterprises’ current expenditures and investment funds. (2) Spending on state enterprises Expenditures on state enterprises were slashed drastically (See “National economy expenditures” in Table 2).

Moreover. roads. As the conventional automatic income redistribution mechanism disappeared but no new income redistribution mechanism was created. and heating expenses. gas. The “soft budge constraints” in socialism have yet to be hardened. both retail and wholesale prices were set by the state. electric power and gas companies provided subsidies. and when the latter was higher than the former. Even now. This was partly because of the absence of a bankruptcy law. This mechanism has ceased to exist as a result of price liberalization in 1992. as the economy remained in recession throughout the 1990s. Even now. the balance was paid to the state treasury as trade tax. In Table 2. This is the income redistribution mechanism that was automatically created by the state price-setting system and it played an important role in socialist countries. subsidies are provided to rents. prices of meats and dairy products were kept low by using revenues from taxes on durable consumer goods and liquors. the financial conditions of state enterprises did not improve. in view of their social influence. and passenger fares. (3) Subsidy (price-disparity subsidy) During the Soviet era. When subsidy from the budget is not enough. subsidies to foods. many of the people’s living standards declined. this price-disparity subsidy is included in the “national economy expenditure” (The national economy expenditure of 2000 is small. as it does not include housing/public management). nurseries. were kept provided shortly after the transition to market economy. etc. many of the state enterprises continued to exist by increasing accounts payable. household electricity. 4 . there were many goods and services to which subsidies were kept provided. the state provided subsidy for the balance. given their functions to maintain employment and social infrastructure (such as housing. Most of them received subsidies from regional and local government budgets. After all. there was no mechanism in place to let companies chronically in the red go bankrupt. The government cannot completely liberalize these items and let their prices rise sharply. When the former was higher than the latter. In the case of the Soviet Union. However. and cultural facilities). hospitals. In some regions. with the support from the state budget cut off and going bankrupt not allowed.However. it is a big issue to improve the financial conditions of state enterprises (including joint-stock companies whose stocks are held by the state to a considerable extent) and reduce their dependence on state budget. But a bigger reason was that the government could not let state enterprises go bankrupt.

(4) Social expenses Budgetary expenditures on education. the cut in such social expenses immediately resulted in lowering the living standards of the people. In advanced capitalist countries. However. Still. insurance and pensions were drastically reduced amid inflation (See “Social/Cultural Measures” in Table 2). however. Securing revenues (1) Changes in revenue sources and difficulty to expand revenues 5 . medical care. * Discussion themes ♦ Was it necessary to reduce fiscal spending? Was it necessary to implement price liberalization at a stroke that forced the government to take an austere fiscal policy? ♦ ♦ ♦ What do you think is the ideal relationship between state enterprises and budget? How do you think the various subsidies to the household should be addressed? What reform do you think is necessary in this regard? How do you think the social expenses from the budget should be addressed? What reform do you think is necessary in this regard? 3.A policy to gradually raise the burden on the household is now being implemented in Russia. In Russia. The cross subsidy is straining the management resources of electric power and gas companies and is one of the causes for unpaid or back taxes. Since providing such services free was one of the big characteristics of socialism. since pensions and social insurance were transferred to the non-budget funds in and after 1992 and they accounted for about 8% of GDP. The policy is designed not only to reduce the fiscal burden on the state but also to slash the so-called cross subsidies (subsidies to the household sector provided by the revenues of the industrial sector whose prices are set high) paid by electric power and gas companies. given the fact that GDP itself shrank sharply. such social expenses have virtually decreased drastically. it can be said that the expenditures were not so drastically reduced in terms of the ratio to GDP. part of such social expenses is covered by systems in the private sector. such system has yet to be fully developed. Therefore. their decline both in terms of quantity and quality invited strong public dissatisfaction and the people became disillusioned with market economy.

and unified social tax was implemented from the beginning of 2001. a stable tax system has yet to be firmly in place. and export/import duties were introduced. In fact. excise tax. transaction tax and special trade revenue (this is included in “Revenues from foreign economic activity” in Table 3) constituted the three major sources of state budget. trade liberalization and foreign exchange liberalization (See Table 3). This is to say. excise taxes and export duties. Moreover. the state enterprise profit deduction that was based on the state ownership of enterprises ceased to exist as a system and the transaction tax and special trade revenue ceased to exist as a result of price liberalization. 2 that stipulates value-added tax. personal income tax. new taxes were introduced at a stroke with the start of a switchover to market economy in 1992. and intentional evasion of taxes. The work on the rest of the code is still going on. a wholesale tax reform has been under way since the beginning of 2001. Since the previous tax system was not suitable for market economy. tax collection system. [1] It was difficult to establish a new tax system. As things stand now. corporate profit tax. it was necessary to make various modifications to each of the new tax systems introduced. were introduced and tax collection began. many taxes that were not in place before. 1 of the Tax Code that outlines these laws was implemented from the beginning of 1999 and the Vol. In the process of the transition to market economy. value-added/excise taxes. But in terms of the ratio to GDP. state enterprise profit deduction. it was impossible to carry out tax reform in several months. There are two major reasons that make it difficult to increase revenue. it was necessary to reform the system drastically. This was due to inadequacy in the tax system. These taxes were introduced based on the “Basic Law on Tax System” and other laws related to individual taxes that were announced in December 1991. In their stead. (2) Tax system reform [1] History of reform In Russia. However. Work to unify these tax laws into a tax code began in the second half of 1990s and the Vol. such as corporate profit taxes. it is not as large as that of the previous three major sources of revenue. value-added taxes. Since then.Before the switchover to market economy. or in several years for that matter. [2] Tax revenue was not as much as the new tax system intended to collect and nonpayment of taxes was common. recession and lack of liquidity. these laws were revised repeatedly. It is said that if corporations have to pay taxes exactly in accordance with the 6 .

A profit tax was introduced from the beginning of 1991 based of the “Taxes from enterprises. the kinds of taxes are defined by the Tax Code (federal law) and no new tax can be established and implemented at the regional (subjects composing the Federation) or local levels. So. excise tax. 1990. Each tax system reform is partly designed to cope with such behavior of corporations. The profit tax was revised repeatedly with regard to its tax rate and the distribution rate to the federal budget and regional budget. with the portion that goes to federal budget set at 17% for the first quarter of 1992. The rate was first set at 32%. the former has yet to be introduced. In Russia. toward easing the tax-paying burden and have corporations pay taxes exactly. Moreover. sales tax. two laws concerning corporate income tax (on profits plus labor payments) and corporate profit tax . But. trusts and organizations. Corporate asset tax. customs duty. land tax. unified social tax. advertisement tax. etc. a part of the federal tax becomes a source of budget revenues for regional and local governments. The tax rate for the portion that goes to federal budget was set at 13% for the second to fourth 7 . (i) Federal tax: Defined by the Tax Code (federal law) and imposed on all territory of Russia. corporate profit tax. mineral/raw material foundation reproduction deduction. etc. The tax rate was set at 22% for the portion that goes to federal budget and at up to 23% for the portion that goes to the budgets of federation-composing republics and local governments.were adopted in December 1991. the classification into the three kinds is not based on to which level of budget each tax is paid. Personal asset tax. The latter was introduced in 1992 and then it was scheduled to shift to the former. (iii) Local tax: Defined by the Tax Code and the laws of local governments and imposed in respective local area. It is especially true of state enterprises that are under strict supervision of the tax authorities. It was introduced in the closing days of the Soviet Union. The Russian taxes can be classified into the following three kinds according to what level of legislative organ can establish and implement the tax in what areas. there appeared a move. [2] Corporate profit tax The corporate profit tax was introduced in place of the state enterprise profit deduction in the socialist era. etc.Russian tax system. Value-added tax.” a Soviet Union law of June 14. personal income tax. Meanwhile. corporations take various measures to avoid paying taxes. natural resource utilization fees. But up to the present. For example. it would become an extremely big burden on them. (ii) Regional tax: Defined by the Tax Code and regional laws and imposed in respective region. especially from around 1999.

there arose calls among CIS that their trade should be treated in the same way as trade with countries other than CIS. The tax rate and the distribution rate to federal and regional budgets are likely to be revised again before they are incorporated into the Tax Code shortly. But in response to criticism that the rate is too high. The regional budgets’ shares of value-added tax revenues were set within a range of 8 . The tax rate was initially set at 28% across the board. as the gap between the idea and the reality widened. the profit tax rate was lowered to 30% in April 1999. There was distinction between trade with CIS and trade with countries other than CIS.S. with the portion to federal budget set at 11% and the portion to regional budgets at up to 19%. just as in trade with other countries. a system based on the idea of treating trade among CIS in the same way as domestic transactions. a system that. However. Starting in July 2001. With regard to trade with countries other than CIS. in principle. 2 of the Tax Code. Another problem with regard to the value-added tax was taxation on imports and exports. imposes taxes on imports but no taxes on exports is to be applied to trade with CIS. The issue was settled by the Vol. exports were taxed and imports were tax exempted. depending on economic conditions and economic policy of the times. Although the rates were kept unchanged thereafter. the same treatment as in Europe and the U. with the portion that goes to federal budget set at 13% and the portion that goes to the budgets of regional governments at up to 22%. But. the taxes on exports of oil and gas to CIS will remain as they are. The system of imposing taxes on exports but no taxes on imports worked in favor of Russia in terms of tax revenue. The value-added tax was lowered to 20% in the beginning of 1993 and the rate on foods and child goods was set at 10%. the value-added tax was imposed on imports from February 1993 but exports were kept tax-free. as part of easing the tax burden on corporations. The revisions had something to do with the problem of federal government’s financial assistance to regional governments. But. [3] Value-added tax The value-added tax was introduced in the beginning of 1992 as the most important indirect tax after the abolition of the transaction tax. the list of items subject to the 10% tax was revised frequently. This was partly because Russia chronically posted a surplus in its trade with other CIS nations on the strength of its exports of oil and gas. the rate on some foods was lowered to 15% as early as February the same year. The profit tax rate was raised to 35% in 1994.quarters of 1992 and at 10% for 1993. with regard to trade with CIS. Then. Revisions have been made repeatedly with regard to the distribution of value-added tax revenues to federal and regional budgets.

with the rate set at 18% ad valorem. under which transaction tax revenues were distributed in varying rates to each federation-composing republic and region. Luxury goods include alcohol. etc. This was mainly because Russia 9 . As to the excise tax on exports and imports. 15% for the second quarter of the same year. The excise tax on oil was introduced in September 1992. The excise tax on oil and gas is viewed as a kind of differential rent. automobiles. it was actually applied to only 24 of the 89 regions (subjects composing the Federation). Judging from these items. about 60% of excise tax revenues came from oil and gas. The excise tax rate on oil was revised frequently. or 30% for the third and fourth quarters of that year. and was changed to 85% vs. The regional governments’ shares of value-added tax revenues were set at 25% across the board for the second quarter of 1994 as a result of the introduction of the regional financial assistance fund that uses value-added tax revenues as its financial source. 100% of value-added tax revenues are to be distributed to the federal budget and none to regional budgets. it can be said that the excise tax is the successor to the transaction tax during the Soviet era. The excise tax was introduced in the beginning of 1992. But. into account. there is no big change in the items subject to the tax. in November the same year. The shares were set at 20% across the board for the second quarter of 1992 and at 20%. Although the tax rate was changed frequently. [4] Excise tax Items subject to the excise tax are divided into two groups: luxury goods and oil/gas. its system and rate were revised frequently in close connection with the movement of export prices and export duties on oil and gas. Although the shares for 1993 and the first quarter of 1994 were in principle set at 20% (excluding value-added tax on imports). 25%. This differentiation in distribution share meant federal government’s financial assistance to regional governments and was a legacy of the system during the Soviet era. different rates were set for different oil exploration companies by taking their production conditions. gasoline. That a different rate is set for a different company is a big characteristic of the excise tax on oil and it was basically maintained until the end of 1999. In 2001. The distribution rate of 75% to federal budgets and 25% to regional budgets was kept until the end of the first quarter of 1999. and other sophisticated consumer goods. Therefore.1~100% for the first quarter of 1992. The rate for 57 other regions was set at 50% and for the remaining 8 regions at 22~48%. the same system was adopted and the same problems occurred as in the case of the value-added tax. During 1997~1999.

Although the rate was revised later.was under pressure from international financial institutions. the excise tax on oil was unified and set at 55 rubles per ton in January 2000 and raised to 65 rubles per ton in January 2001. The rate was first raised by an average 30% in September 1993 and then switched to specific duty and set at average 14. since the export duty on gas was not set at a high level as compared with oil. However. After the financial crisis of 1998. As the export duty on oil was lowered drastically in April 1996 and abolished in July the same year. Meanwhile. its revenue was smaller than the revenue from the excise tax on gas. including those on oil. though the excise tax on gas was cut to 15% in January 1999. the excise tax on oil was set at an average 55. the tax rate of 15% is being applied to exports not only to Belarus and other CIS countries as well. as it was vulnerable to inflation and fluctuations of dollar-denominated export prices. with the rate set at 15% ad valorem. as from January 2001. The cut was designed to reduce the cases of unpaid or back taxes as well as to lessen the tax burden on corporations. the excise tax on gas was raised as in the case of oil. In response to the devaluation of the ruble after the financial crisis of 1998. etc. The rate was raised to 25% in March 1995 and to 30% in September 1995. Incidentally. it was decided to introduce a system to raise the excise tax by 3. it remains as the uniform ad valorem tax. In other words. the rate on gas bound for exports (except that to Belarus) was kept at 30%. In response to the gradual cut of the export duty on gas and its abolition in April 1996. The distribution rates of excise tax revenues to federal and regional budgets are as 10 . The excise tax on gas was introduced in August 1993. The excise tax on oil was raised to make up for decreasing revenues from the export duties that were scheduled to be lowered gradually and abolished ultimately. it was decided to index the price every month by taking ruble’s exchange rate against the dollar into account. Meanwhile.000 rubles per ton in April 1996 and at 70. the tariff rate was raised sharply in line with a steep rise in oil prices.200 rubles per ton in April 1995. the specific duty was raised to average 39.750 rubles per ton in June 1994.000 rubles in July and was thereafter to be indexed every month. But. to abolish export duties. the excise tax on gas bound for exports is playing the same role as the export duty on oil. export duties were again introduced in the beginning of 1999. That there was no difference in excise tax rate between that on gas for domestic use and that on gas bound for exports has something to do with the fact that export duty on gas was not introduced again. This indexation method was in place until the end of 1996.400 rubles every time the export duty is cut by 1 ECU. At the same time. Since export duty on oil was also introduced as will be described later.

In the case of imports. Although export duties are extremely unusual taxes by world standards. Since the Russian domestic market was cut off from the world market and since there was a significant discrepancy in pricing system between the two. in particular. the second largest revenue source next to the value-added tax. the Trade Corporation purchased goods from domestic corporations at domestic prices (ruble) and sold them to foreign corporations at trade prices (foreign currency). and ethyl alcohol. The mechanism that automatically transferred such revenues to the state coffers disappeared as a result of the liberalization of prices and trade in 1992. they accounted for about 20% of the federal budget revenues in 2000. and regional budgets receive 100% of the revenues from other items. But. The special trade revenues are included in “Revenues from foreign economic activity” of Table 3. as the state set prices and monopolized trade. [5] Export/import duty Since Russia is a big exporting country of oil.follows and they remain almost unchanged from the beginning: federal budget receives 100% of the tax revenues from oil. During the Soviet era. the export/import duties amounted to about 3. export duties and import duties were introduced. gas. the Trade Corporation purchased goods from foreign corporations at trade prices (foreign currency) and sold them to domestic corporations at domestic prices (ruble). taxes on exports were always a big source of revenues for the state budget. they were introduced on many export items in the beginning of 1992 as they were expected to fill the gap in difference between domestic and foreign prices that existed even after the 11 . however. The balance of these transactions calculated in the ruble became a special trade revenue. when export duties increased sharply due to a steep rise in oil prices in 2000. federal and regional budgets receive 50% each of the revenues from vodka and liquors. gas and other mineral resources and since there was a big difference between foreign currency-denominated export prices and ruble-denominated domestic prices. These revenues were called special trade revenues and acquired by the Trade Corporation (the state organization that monopolized trade) that worked intermediary of trade between domestic corporations and foreign corporations. etc. In the case of exports. After 1970. The figures of “revenues from foreign economic activity” of the Table 3 for 1996 onward do not include export/import duties. automobiles. Since all of the export/import duties become revenues of the federal government.3% of GDP. such revenues were automatically transferred to the state coffers. oil products. or about half the level before the transition to market economy. the Trade Corporation was able to reap a huge amount of profits from trade. the corporation was able to boost revenues from energy exports that were increasing year after year. In its place.

the duties were revised almost every year. that raised objection to the export duties from the standpoint of promoting trade liberalization. export duties are imposed on exports of oil and excise taxes are imposed on exports of gas. Thereafter. There were no import duties in the first half of 1992 because prices of imported goods were extremely high as a result of the sharp depreciation of the official rate caused by the transition to market economy (but. automobiles. export duties were imposed only on a handful of items. Among them are oil and oil products and their duties were raised sharply during 1999~2000 in response to steep rises of their prices in the world market. etc. they were revised immediately in August the same year and set at 15% in principle and 20~50% on alcohol. etc. after November 1993. the export duties were ECU-denominated specific duties. 10~25% on alcohol. however. and foods and medical supplies were exempted from the duties. But the mainstream of the direction. it was possible to import at lower prices. Import duties were first introduced in July 1992. Under the current system. Export duties are not imposed on gas. home electric appliances. in effect. including oil and gas. Therefore. another major foreign currency earner along with oil. especially in and after 1998. As a result. Export duties were not applied to exports to CIS countries during 1992 but began to be applied in February 1993. The discrepancy between domestic and export prices widened again as a result of the sharp depreciation of the ruble during the financial crisis of 1998 and this prompted the restoration of the export duties in the beginning of 1999. Import duties are not applied to trade with the CIS bloc. This reflected domestic producers’ demand for higher import duties on one hand and the need to lower the duties in connection with Russia’s desire to join the WTO on the other.liberalization of prices. in 1996 and ultimately abolished on July 1. apparently in response to international financial institutions. Export/import duties are not applied to all trade. etc. The import duties that were introduced in July 1992 were 5% in principle. home electric appliances. automobiles. However. is toward lowering the duties. But. Compared with the previous export duties. the items subject to new export duties are limited to only major export items. the direction of the revisions was not constant and varied from one item to another. existed in around 1992 and 1993). When the number of items subject to export duties was increased in July 1992. as multiple exchange rates. 1996. Initially. the number of the items was reduced and tax rates were lowered. some of the new items were taxed ad valorem. initially they were not applied to exports to CIS countries but. from mid-1999 began to be applied to CIS countries except customs 12 . When export duties were re-introduced in the beginning of 1999.

Given these facts. a 13 . The government apparently thought the even if the tax rate was raised. The distribution rates to federal and regional budgets were set at 1% vs. state budget and state enterprises were under unsystematic management and the practice of collecting taxes from enterprises and individuals did not exist. The progressive tax system was abolished and a uniform 13% tax was applied. Belarus. the original system was restored in 2000 and under which the basic rate of 12% and progressive rates for three different income groups were applied. 99%. which is basically modeled on the Russia-era personal income tax system that was implemented in July 1992. Up to 1998. tax revenues would increase. The customs union members are Russia. [2] Inadequate tax-collection system During the Soviet era. The revision has something to do with the fact that although many Russians have more than one job. 10% of the personal income tax revenues were allotted to the federal budget as an upkeep of the social field facilities and housings that were transferred to the regional authorities in 1994. In 2001. with the revenues from the former allotted to the federal budget and those from the latter allotted to regional budgets. But. A system of a basic rate of 12% and a progressive tax rate that differs according to income group was in place until 1998. etc. respectively. a radical revision was made in accordance with the Vol. Kyrgyzstan. it was difficult to establish a tax collection system in a short period of time in terms of organization. [1] Inadequate tax system In view of the fact that many taxes that are completely new had to be introduced in a short period time. system and personnel. Even now. Only during 1995~1996. they pay income tax for only one job. 2 of the Tax Code. Kazakhstan. But. a fixed rate of 3% and progressive tax rates ranging from 9% to 42% were introduced. this cannot be avoided.union members. there were revisions almost every year as to the number of income groups and the tax rate for each group. and Tajikistan. [6] Personal income tax A new personal income tax system was introduced in the beginning of 1992. personal income tax revenues were in principle treated as income of regional budgets. (3) Problems in tax collection The following four points can be sited as the main reasons that made nonpayment of taxes common and prevented tax revenues from increasing. The revenue distribution rates to federal and regional budgets were set at 16% and 84%. Under the system that was applied in 1999.

considerable portion of tax revenues comes from estate enterprises and joint stock companies in which the state has a major stake. paying taxes in bills. other than ruble became pervasive. tax in arrears increased.4% in 1996. they overlap each other.2% in 1997 and to 5. [3] Recession and liquidity shortage Since the economy was in recession throughout the 1990s. *Discussion themes ♦ ♦ ♦ How should tax reform be implemented? What form of tax system is desirable? In other words. 14 . especially small enterprises. then it increases fiscal deficits (See Table 1). Paying taxes for one’s main business but not for side jobs is a common behavior pattern of Russian enterprises and individuals. As a result. and prolonged recession. [4] Deliberate tax evasion This contains two phenomena: one of them is that tax revenues cannot be expected from activities in the second economy. The ratio of fiscal deficits to GDP rose consistently from 3. A liquidity shortage caused by fiscal austerity also made it difficult for corporations to pay taxes. But. to what tax should importance be attached? On what factor should such decision be based? How should the tax collection rate be raised? 4. Fiscal deficits (1) Factors behind fiscal deficits In the beginning. The tax collection rate from private enterprises. In the case of Russia. an increase in fiscal deficits. to 5. a huge amount of expenditures was the main factor behind fiscal deficits. which in turn prompted frequent offsetting of tax payment and fiscal spending. Most of the fiscal deficits are federal budget deficits. and the other is that corporations and individuals try to avoid tax payment by understating their income.8% in 1998. etc. the problem was that fiscal deficits show no signs of declining. This generated a vicious cycle of a revenue shortfall. fiscal restraint. If revenues do not increase (See 3 (3)) under the circumstances where expenditures cannot be reduced drastically (See 2 (2)~(4)). to 4. remains low. but later the fact that revenues do not increase became a more important factor.2% in 1995. goods. This was related to the fact that fiscal spending was overdue.

fiscal deficits came to be financed by government bonds and borrowings from international financial institutions. accounting for 18% of the state budget expenditures and 5. But it became one of the big factors that caused inflation (See Table 4). the interest rates on government bonds were set at above 100% per annum (the growth rate of consumer prices was 22% in 1996). Some of the conditions (for example. Due to high interest rates on government bonds. however. measures to finance fiscal deficits through the issuance of Euro and other foreign currency bonds were taken in order to curb the issuance of government bonds. government bonds had to be issued for the sole purpose of redeeming previously issued debt paper). private funds were used only for the purchase of government bonds. short-term government bonds (GKOs) with maturity of less than one year and federal bonds (OFZs) with maturity of one year or longer were issued in large quantity and they carried extremely high interest rates. From 1995.5% of GDP in 1998 (See Table 2). in the field of exchange and trade) were not beneficial to the development of the Russian economy (in particular. As of the end of 1997. resulting in crowding out private investment. the real economy). From around 1997. Even in 1997. Behind these moves lied the existence of stable exchange rates and a favorable relationship between international financial institutions and the Russian government. etc. and government bond purchases by foreign investors). foreigners held more than 30% of the outstanding government bonds. This structure of government bond issuance collapsed as a result of the Asian 15 . Moreover. Since the official discount rate stood at above 100% until the first half of 1996. Around 1997~1998. the interest rates on government bonds stood at 20~30% (the growth rate of consumer prices was 11% in 1997). The government bond purchase by foreigners that had initially been restricted was gradually approved in order to curb interest rates on government bonds. Loans from international financial institutions carried various conditions concerning reform of the Russian economy. 70~80% of fiscal deficits were financed by foreign funds (loans from international financial institutions. As for government bonds. Some Russian private banks borrowed foreign currencies on the international financial market to purchase government bonds.(2) Financing fiscal deficits Fiscal deficits were at first financed by direct lending from the central bank. the expenditures necessary for redemption and interest and principal payments began to exceed the revenues from new bond issues around the end of 1997 (in other words. the debt-servicing cost increased. As a natural consequence of these policies.

and villages and the relationship between regional and local budgets are not uniform. autonomous regions. autonomous regions. However. then the budget of next highest administrative division. The relationship varies greatly from one region to another. province. However. about two thirds of the remaining half was budgets of 15 republics composing the federation. towns. The current fiscal relationship of the central. Roughly speaking. *Discussion themes ♦ Do you think that there should be no fiscal deficits? ♦ How should fiscal deficits be financed? 5. Under the three-layered structure. and the remaining one third was budgets of local administrative divisions (territory. counties. However. regional budget and local budget were compiled and approved at the federal. The nesting-box structure was abolished and a new system was adopted. 16 . the state budget was in a nesting-box structure. The government bonds frozen at that time amounted to 280 billion rubles. or about $40 billion if converted by the then official rate. etc.currency crisis and government bond transactions and foreign exchange transactions were suspended in August 1998. province. in which the budgets of lower administrative divisions were incorporated into the budgets of higher administrative divisions. fiscal deficits shrank sharply in 1999 and the government posted a fiscal surplus in 2000. special cities) and local (local self-governing bodies. The government bond market has yet to recover from that time. in many regions. the budget of the highest administrative division was first approved. Regional/local finances (1) Fiscal relations among central. respectively. the problem of repaying debts to international financial institutions remains as a big financial burden on the government. cities. under which the federal budget. and so on downward. regional and local governments During the Soviet era. regional and local levels. The problem of financing fiscal deficits disappeared at least for now. there are big economic discrepancies between their main cities and other cities.). Thanks to economic boom. regional and local budgets are compiled and approved independently. about half of the state budget was federal budget. this was drastically changed in 1991. As to the process of budget compilation. federal. towns and villages) governments is based on the change made in 1991. territory. regional (subjects composting the federation: republics.

the financial assistance from the federal budget accounted for 10~14%.As can be seen from Table 1. it is a big problem that the distribution of various expenditures to each level is not well defined. However. under pressure from international financial institutions.). expenditures on state enterprises. building maintenance costs and part of wages are provided from regional budgets on the ground that they are not to be paid from the federal budget. Therefore. etc. are a big burden on regional and local budgets. As to local chapters of federal organs (military. (2) Sources of regional/local budgets During 1996~1998. regional and local governments. they have to contrive funds from their budgets for social expenses and subsidies to the local people in place of the state enterprises. accounting for about 50% of total revenues. Behind this was the fact that many local cities in Russia were dependent on state enterprises in various aspects of people’s life. but those of regional budget (including local budget) showed no big changes. The financial assistance from the federal budget to regional budgets takes various forms. to slash fiscal deficits amid no prospect of revenue increase. corporate profit tax and value-added tax were the three major tax revenue sources for regional budgets (including local budgets). Until this fund was introduced. this is the figure for Russia on the whole. by differentiating the distribution 17 . This was because the federal government. the ratios of the expenditures of regional budget to GDP during the same period were considerably higher than in 1992. forced regional and local governments to take over expenditures. With regard to the fiscal relationship among central. This was particularly true of expenditures on state enterprises. financial assistance to regional budgets were provided in the form of various subsidies and. as was described earlier. By contrast. the personal income tax. statistic commission. If regional and local governments want to tighten budget constraints on state enterprises. the regional financial assistance fund that was first introduced in the second quarter of 1994 is the most important assistance. For example. but the actual payments are made from regional and local budgets. including tax benefits and budget outlay-tax payment offsetting. subsidies (price-disparity subsidies) and social expenses. decisions on raising wages and pensions of public employees are made at the federal level. As will be described later. On the contrary. some regional governments depend much more on the federal budget. At present. the revenues and expenditures of the federal budget in terms of their ratios to GDP were on a downward trend from 1992 to 1998. etc. or merely about 2% of GDP. security organization.

ratios of value-added tax revenues to regional governments. 22% of such revenues were allotted to the fund. In 2000. The basic idea of the fund is to smooth revenues of regional governments and ensure the minimum amount of financial resources. main industrial regions. Among them are regions that produce resources. The ratio of the financial assistance from the funds to total regional budget varies from one region to another. Starting in 1996. regions eligible for funds and the amount of funds to be provided are decided in accordance with a set formula. However. The rest of the regions receive assistance from the fund. the amount of the fund was specified by the Federal Budget Law. Generally speaking. In autonomous jurisdictions with a small scale of public finance. such as oil. the regions whose per-capita regional tax revenues (excluding tax revenues from the federal budget) are below the national average are eligible to receive fund in the amount equal to the difference between their tax revenues and the national average. Initially. there are 89 regions (subjects composing the federation). In 1994. the regions that cannot cover their current expenditures by tax revenues plus the provision of the fund are also provided with the fund. In Russia. The regional financial assistance fund was introduced to break down this situation. the source of the regional financial assistance fund was value-added tax revenues of the federal government. The outline of the fund is as follows: First. 15% (14% from 1998) of the total tax revenues of the federal government (excluding import duties) are allotted to the fund. the ratio stands above 40%. The formula was revised almost every year. the distribution system was not well defined and depended much on negotiations with the central government. Second. Under the system. of which about 10 regions do not receive the regional financial assistance fund. East Siberia and Far East. gas and non-ferrous metals. and the ratio was raised to 27% in 1995. the dependence on the fund is high in the North Caucasus. and the city of Moscow. *Discussion themes ♦ How should the independence of regional/local budgets be ensured? ♦ How should the revenue source of regional/local budgets be secured? 18 .

6 31.2 -4.0 13.8 32.7 -5.0 0.2 17.0 1998 100.6 4.8 10.1 2.5 12.8 3.8 8.2 9.8 7.0 23.5 -0.1 1990 46.0 -1.9 1998 25.0 26.8 ⋅⋅⋅ ⋅⋅⋅ 22.8 2.1 27. agriculture.4 5.2 32.0 19.8 19.0 ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ (Note) 1) Figures for 1990 and before are those of the Soviet Union and figures for 1992 and after are those of the Russian Federation.6 16.0 100.0 4.6 0.0 100.8 8.7 23.2 13.0 2.5 6.7 2.” those for 1996~1998 are total of manufacturing.7 ⋅⋅⋅ ⋅⋅⋅ 4.0 30.1 28.1 31.4 -10.0 Revenue Federal budget Regional budget Expenditure Federal budget Regional budget Fiscal deficits (Revenue Expenditure) Federal budget Regional budget ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ 52.0 -4.0 1.0 -9.9 37.2 52.0 2. (Source) State Committee of the Russian Federation on Statistics.1 1.4 1990 100.3 31.< Table 1~4 > (Table 1) State budgets of the Russian Federation/the Soviet Union1) (Ratio to GDP in %) 1988 43.0 1992 28.7 16.3 2.6 14.9 2.0 10.9 7.0 2.2 50.3 12.2 27.3 13.9 12.5 27.1 8.0 38.0 15.2 2000 100.9 5.2 13.4 37.6 ⋅⋅⋅ ⋅⋅⋅ 9.5 15.9 12.9 14.4 18. and housing/public .8 29. 19 transportation.9 (Ratio to GDP in %) 31.9 16.5 4.8 26.2 6.7 3.5 33.2 7.5 11.2 16.7 30.0 (Note) 1) Figures for 1990 and before are those of the Soviet Union and figures for 1992 and after are those of the Russian Federation.7 17.5 1996 26.4 18.1 15.3 9.4 -5.0 34. 2) Figures for 1992~1994 are “Assistance to each economic sector.4 9.5 7.0 52.5 1992 1994 1996 (Composition in %) 100.7 -10.2 28.4 10.4 20.0 10.0 8.9 7.1 7.1 ⋅⋅⋅ ⋅⋅⋅ 7.4 -3.8 6.8 -5.7 1994 28.7 26.4 16.6 17.2 0.3 2000 29.0 13.2 9.7 3.0 19.2 10. State Committee of the Soviet Union on Statistics (Table 2) State budget expenditures of the Russian Federation/the Soviet Union1) 1988 Total expenditures National economy expenditure2) 5) Social/cultural measures3) State management expenditure4) Defense expenditure5) Debt-servicing cost Others Total expenditures National economy expenditure2) 5) Social/cultural measures3) State management expenditure4) Defense expenditure5) Debt-servicing cost Others 100.9 50.4 -0.9 0.4 -3.5 6.1 15.7 4. Russian Ministry of Finance.8 1.2 24.5 5.3 14.7 3.

5 ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ 28.8 43.4 10.5 ⋅⋅⋅ 4.8 ⋅⋅⋅ ⋅⋅⋅ 8. 3) Figures for 1990 and before include science.8 ⋅⋅⋅ ⋅⋅⋅ 7.0 29.4 24.4 22.5 0.1 1.2 21. (Source) State Committee of the Russian Federation on Statistics.0 8.8 40.5 3.2 (Ratio to GDP in %) 28. 5) Figures for 1998 are national economy expenditure plus some defense expenditures.0 14.1 2.management.8 9.5 12. agriculture and transportation.4 12.7 1990 100.2 3.4 46.3 2.9 6.9 23.3 10.4 2000 100.8 ⋅⋅⋅ ⋅⋅⋅ 6.5 2.0 8.7 1992 1994 1996 (Composition in %) 100.7 34.8 10.8 6.7 2.5 3.0 11.0 ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ 16. State Committee of the Soviet Union on Statistics 20 .7 10.3 13.3 10.1 13.7 2.0 28.1 37.5 4.6 15.3 25.5 26.7 2.7 11.3 10.0 100.0 19.9 ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ 7.7 37.1 25.6 9.0 24.6 ⋅⋅⋅ ⋅⋅⋅ 17.0 100. 4) Figures for 1992 and after are total of state management and peace/security.2 21.7 6.7 9.4 ⋅⋅⋅ 4.1 ⋅⋅⋅ ⋅⋅⋅ 4.0 2.9 5.6 3.5 10.6 6.6 2.4 8.1 6.5 2. and those for 2000 are total of manufacturing.2 8.2 2.2 26.1 11.8 1998 100. State Committee of the Soviet Union on Statistics (Table 3) State budget revenues of the Russian Federation/the Soviet Union1) 1988 Total revenue State enterprise profit deduction Profit tax Personal income tax Transaction tax Value-added tax Excise tax Revenues from foreign economic activity2) Others Total revenue State enterprise profit deduction Profit tax Personal income tax Transaction tax Value-added tax Excise tax Revenues from foreign economic activity2) Others 100.0 1.5 15.8 8.5 1.7 4.0 8.1 25.7 29.4 0.7 0. 2) Figures for 1996 and after are only non-tax revenues (Source) State Committee of the Russian Federation on Statistics.2 (Note) 1) Figures for 1990 and before are those of the Soviet Union and figures for 1992 and after are those of the Russian Federation.0 31.

“Quarterly ROTOBO Economic Trend” 21 .7 1995 100.” (Fiscal 1998 research paper consigned by the Ministry of Foreign Affairs) Masaaki Kuboniwa.3 -135.3 68. “The Slav Economy. “Outline of Russian region. 1995 The Japan Institute of International Affairs. 1995 Hiroshi Kimura.” (Fiscal 1999 research paper consigned by the Ministry of Foreign Affairs) The Japan Association for Trade with Russia & Eastern Europe.3 30. Shin-ichiro Tabata.0 -0.0 -2.” Kobun-do.7 1997 100.0 Total deficits Central bank loans Short-term government bonds International financial institution loans Others ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ ⋅⋅⋅ 26.8 (Source) State Committee of the Russian Federation on Statistics Bibliography Kiichi Mochizuki.” Aoki Shoten.0 1996 100.3 -23.6 39.1 26.0 -0. “Current situation of CIS region and future movement. “Current situation of CIS and future movement. “Russia that we want to know more.” 1999 The Japan Institute of International Affairs.2 -106.8 57.0 1999 100.” Kobun-do.(Table 4) Financing of Russian Federation budget deficits (Composition in %) 1994 100.8 1998 100.0 73.3 51.2 8. Shin-ichiro Tabata. Masato Yamamura.4 -23.8 34. “The Russian economy at a turning point.6 229.9 226.3 18. 1999 The Japan Association for Trade with Russia & Eastern Europe.

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