IMPACT OF VAT ON POOR HOUSEHOLDS IN BOTSWANA

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					IMPACT OF VAT ON POOR
   HOUSEHOLDS IN
     BOTSWANA

             by
       Achieng Okatch
            Poverty and Inequality
   Botswana has experienced a decline in poverty since
    1985/86.
     HIES of 1985/86 – poverty rate was 59%
     HIES of 1993/94 – poverty rate was 47%

     HIES of 2002/03 – poverty rate was 30%

   Although poverty has declined significantly, income
    inequality has worsened over the period 1993/94 to
    2002/03, with the Gini coefficient increasing from
    0.537 to 0.573.
   The present level of the incidence of poverty is still
    inconsistent with the national development objective of
    building a “Compassionate, Caring and Just Nation”
    envisaged in Botswana’s Vision 2016.
                    The Problem

   Government Revenue
     Sixteen years prior to 1998/99, there were no budget
      deficits
     Budget deficits were realised in a number of years
      starting in 1998/99.
     Deficits can be attributed to the limited prospects of
      substantial increase in Government revenues outside
      the mineral sector,
     Growth in Government revenue has also reduced by
      trade agreements as SACU-USA Trade Agreement,
      the European Union-South African Free Trade
      Agreement and SADC Free Trade Protocol
        Objectives of the Study

The study seeks to;
 the examines tax liability of current VAT
  rates, using micro-simulation techniques,
 propose new VAT rates that will strike
  balance between reducing poverty and
  income inequality, while, at the same time,
  ensuring an adequate collection of
  Government revenue.
                    Methodology
The study uses or assumes
     HIES 2002/03 dataset – 6053 Households and 23 823
      individuals
     Poverty datum line constructed by the Central Statistic
      Office - based on a theoretical consumption basket, which
      is assumed to correspond to a minimum amount goods and
      services required by households in Botswana to attain an
      acceptable minimum standard of living. The poverty datum
      line takes into account factors, such as region, price and
      composition of the household.
     Assumes constant expenditure - a change in VAT will not
      change the household expenditures but rather the quantity
      purchased.
     Static micro-simulation
     Distributional Characteristic derived from the Theory of
      Marginal Tax Reforms (TMTR)
              Methodology (cont)

Distributional Characteristic
     Derived from TMTR (Which stipulates that the social
      welfare effect of a marginal price change, due to tax, is
      given by the weighted sum of each household’s
      consumption of that good)
     Measures how heavily the consumption of a good is
      concentrated on the poor
     Used to identify goods candidate for having reduced tax
      rates on equity grounds
     Takes into consideration social weights of the households
      and consumption of the good by households
                    Current VAT Rates

   Two VAT rates in Botswana,
     the standard rate (10%)

     the zero rate

         exports
         international transport services (passengers or goods),
         maize and sorghum (in all forms)
         petrol and diesel.
   Exempted goods
     accommodation

     international financial services

     education

     specified drugs, as indicated in the Drugs and Related
      Substances Act.
                        Limitations
   Its difficult to estimate the VAT on Medical expenditure
     The dataset does not record the household expenditure on the
        exempted drugs separately
     Poorer households use Government clinics and hospitals, which
        charge a standard consultation fee of P2, irrespective of the
        service provided; and this rate is not subject to VAT.
     Richer households use private medical services, which are
        subject to VAT
     Individual covered by medical insurance only pay between 0% to
        10% of the medical cost and all the VAT.
   Its difficult to VAT estimate on transport
Tax incidence of VAT by Decile,
Gender of Household Head and Strata
            Average HH
               Total                                     Average HH
            Consumpti-   Effective     Gender of HH         Total         Effective
 Decile         on       VAT Rate         head          Consumption       Vat Rate
Decile 1            78      6.25%    Male                          1367      6.83%
Decile 2           156      6.62%    Female                        815       6.99%
Decile 3           225      6.75%
Decile 4           310      6.97%
Decile 5           424      7.02%                       Average HH
Decile 6           587      6.99%                          Total          Effective

Decile 7           828      7.24%    Strata             Consumption       Vat Rate

Decile 8          1210      7.14%    Towns and cities              1486      6.80%
Decile 9          1942      7.15%    Urban villages                970       7.34%

Decile 10         5413      6.86%    Rural areas                   582       6.56%
Budget Shares
                            Budget Shares
                                    Chart 1d: Budget Share


               5%

               4%
Budget Share




               3%

               2%

               1%

               0%
                    1   2    3        4       5            6      7     8          9   10
                                                  Decile



                            Communication     Recreation and Culture   Education
                             Budget Shares
                                  Chart 1b: Budget Shares


               12%

               10%
Budget share




               8%

               6%
               4%
               2%

               0%
                     1   2    3     4        5             6         7           8   9   10
                                                 Deciles

                                  Rent      Ulitilties         Household goods
                              Budget Shares
                                   Chart 1c: Budget Shares

                12%
Budget Shares




                10%
                8%
                6%
                4%
                2%
                0%
                      1   2    3      4         5             6       7            8   9   10
                                                    Deciles


                                   Medical services       Transport       petrol
                             Budget Shares
                                 Chart 1e: Budget Shares

               18%
               16%
               14%
Budget share




               12%
               10%
               8%
               6%
               4%
               2%
               0%
                     1   2   3       4        5             6       7    8   9   10
                                                  Deciles


                                         Personal Care          Others
    Distributional Characteristic Results
   To calculate, expenditure were aggregated into 40 groups
   Goods that should be zero rates
       (1) Sorghum and maize,
       (2) Sugar,
       (3) Oils and fats,
       (4) Other cereals (grains) and bread,
       (5) Other fuel (paraffin, menthylated spirit, charcoal, gas, coal and firewood)
       (6) Dairy products and eggs,
       (7) Vegetables,
       (8) Meats,
       (9) Tobacco,
       (10) Fish,
       (11) Personal care,
       (12) Non-alcoholic drinks,
       (13) Other foods,
       (14) Water
       (15) Fruits.
                          Simulations
VAT Simulations
 Alternative scenario 1 (AS1)
       Zero rate - petrol and diesel,
       Exempt rentals
       15 goods that are highly consumed by the poor
           Including Tobacco
       Imposing a VAT of 10% on the other 23 goods
           Including medical expenditure, construction, education
   Alternative scenario 2 (AS2)
       Same as AS1 except that instead of a 10% VAT, a 14% is
        imposed on the 23 goods
Incidence of VAT for the Alternative
VAT Scenarios
                   Effective Vat rate       Effective Vat rate
      Deciles   Alternative Scenario 1   Alternative Scenario 2
Decile 1                         1.50%                    2.03%
Decile 2                         1.91%                    2.58%
Decile 3                         2.43%                    3.28%
Decile 4                         2.96%                    4.00%
Decile 5                         3.12%                    4.22%
Decile 6                         3.83%                    5.18%
Decile 7                         4.34%                    5.86%
Decile 8                         4.71%                    6.37%
Decile 9                         5.30%                    7.16%
Decile 10                        5.91%                    7.99%
Number of Gainers and Losers at the
Two Proposed Alternative Scenarios
                       At 10% VAT                          AT 14% VAT
Deciles     Gainers            Losers            Gainers         Losers
Decile 1              92.15%            1.05%          84.83%           9.00%
Decile 2              95.99%            2.47%          90.35%           8.26%
Decile 3              94.80%            3.40%          83.84%           14.86%
Decile 4              94.58%            4.55%          75.91%           23.37%
Decile 5              95.62%            3.29%          79.28%           20.30%
Decile 6              94.31%            3.87%          65.32%           33.44%
Decile 7              96.87%            2.57%          60.40%           39.32%
Decile 8              95.67%            4.01%          48.14%           51.77%
Decile 9              95.72%            4.01%          34.33%           65.53%
Decile 10             87.85%            12.05%         18.47%           81.43%
     Comparison of Current VAT Rates
       with the Alternative Scenarios
                              Current VAT                                Alternative
           Indicators             rate          Alternative Scenario 1   Scenario 2


incidence of poverty                30.33%                    27.02%           27.40%


% poor that gain                            -                 93.09%           86.42%


% poor that lose                            -                   1.81%           9.00%


% non-poor that gain                        -                 95.01%           67.29%


% non-poor that lose                        -                   3.99%          32.03%


Government Revenue Increase                 -          _- P14 837 805     -P 2 284 621
          Policy Recommendations
   Zero rating of the 15 goods whose consumption is heavily
    concentrated by the poor leads to more progressive VAT
    regimes. This is the case for both scenarios when 10% and 14%
    VAT rates are applied to goods that are not heavily consumed by
    the poor.
   The 14% VAT rate is preferred, and hence recommended on
    goods that are not highly consumed by the poor, as it decreases
    Government revenue by a smaller amount and at the same time
    also reduces poverty.