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Modest Growth Ahead for Russia, but Opportunities to Boost Formal Employment

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Real GDP growth in Russia surpassed expectations in 2018, reaching 2.3 percent, mostly due to the one-off effects of energy construction. Growth forecasts of 1.2 percent in 2019 and 1.8 percent in both 2020 and 2021 reflect a more modest outlook, in line with Russia’s current potential growth of about 1.5 percent, says the World Bank’s latest Russia Economic Report (#41 in the series).

In the first quarter of 2019, GDP growth slowed for several reasons, including a VAT rate increase, relatively tight monetary policy, a high base from the previous year, and a slowdown in oil production.

High levels of international reserves, low external debt, and a flexible exchange rate regime helped Russia limit exposure to external volatility and absorb external shocks. A new fiscal rule, which ushered in a stronger non-oil/gas current account, also strengthened Russia’s external position.

However, difficult external financial conditions for emerging markets and elevated geopolitical tensions increased net capital outflows to US$ 67.8 billion (about 4.1 percent of GDP) in 2018 and led to a depreciation of the real effective exchange rate of 7.7 percent.

Higher oil prices, combined with a weaker ruble, better tax administration, and a conservative fiscal policy further improved fiscal balances at all levels of the budget system in 2018. The general, federal, and regional governments registered surpluses of 2.9, 2.6, and 0.5 percent of GDP, respectively.

“Russia’s macro-fiscal buffers remain strong, with low public and external debt levels, and fiscal surpluses across all tiers of government,” said Apurva Sanghi, World Bank Lead Economist for Russia, and main author of the report. “This stands in contrast to high and rising public debt levels and narrowing fiscal space in most emerging markets and developing economies.”

Despite recent bailouts, Russia’s banking sector remains relatively weak, with a lower capital adequacy ratio (12.2 percent as of April 2019) and a higher ratio of non-performing loans (10.4 percent) than in other emerging markets. The banking sector remains afflicted with high concentration and state dominance. As of April 1, 2019, the top five banks generated 57 percent of all banking sector profits, and state-owned banks accounted for 62 percent of all banking assets.

Unemployment declined further in the first quarter of 2019, to 4.8 percent. The poverty rate also declined slightly, from 13.3 percent in 2017 to 12.9 percent in 2018. This reduction was driven by growth in the main sources of income, wages and pensions.

Downside risks to Russia’s medium-term growth outlook stem from the potential expansion of economic sanctions, renewed financial turmoil in emerging markets and developing economies, a souring global trade environment, and a dramatic drop in oil prices. On the upside, national projects aimed at strengthening human capital and increasing productivity, if well-implemented, could positively affect Russia’s potential growth in the medium-term.

“When compared to advanced economies, Russia spends less on health and education,” said Andras Horvai, World Bank Country Director for Russia. “The national projects, which would increase expenditures for education by about 0.1 percent of GDP per year, and for health by 0.2 to 0.3 percent of GDP per year, would help reduce the gap.”

The Special Topic of the report examines informal employment in Russia and outlines possible measures to address the lack of formal employment. The share of informal employment, a pervasive phenomenon in Russia, is estimated to range between 15.1 and 21.2 percent. And the fiscal loss of underpayment by informal workers is estimated at between 1 and 2.3 percent of GDP.

The report suggests a three-pronged policy approach that would lead to more flexible labor legislation in certain areas, backed by more effective enforcement; a stronger safety net with better unemployment benefits; and a more mobile workforce. However, systemic solutions to reduce informality will require broader policies, especially faster creation of more formal-sector jobs.

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Tax revenues have reached a plateau

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Tax revenues in advanced economies reached a plateau during 2018, with almost no change seen since 2017, according to new OECD research. This ends the trend of annual increases in the tax-to-GDP ratio seen since the financial crisis.

The 2019 edition of the OECD’s annual Revenue Statistics publication shows that the OECD average tax-to-GDP ratio was 34.3% in 2018, virtually unchanged since the 34.2% in 2017.

Major reforms to personal and corporate taxes in the United States prompted a significant drop in tax revenues, which fell from 26.8% of GDP in 2017 to 24.3% in 2018. These reforms affected corporate income tax revenues, which fell by 0.7 percentage points, and personal income tax revenues (a fall of 0.5 percentage points).

Decreases were also seen in 14 other countries, led by a 1.6 percentage point drop in Hungary and a 1.4 percentage point drop in Israel. In contrast, nineteen OECD countries report increased tax-to-GDP ratios in 2018, led by Korea (1.5 percentage points) and Luxembourg (1.3 percentage points).

In 2018, four OECD countries had tax-to-GDP ratios above 43% (France, Denmark, Belgium and Sweden) and four other EU countries also recorded tax-to-GDP ratios above 40% (Finland, Austria, Italy and Luxembourg). Five OECD countries (Mexico, Chile, Ireland, the United States and Turkey) recorded ratios under 25%. The majority of OECD countries had a tax-to-GDP ratio between 30% and 40% of GDP in 2018.

Corporate income tax revenues continued their increase since 2014, rising to 9.3% of total tax revenues across the OECD in 2017. This is the first time corporate income tax revenues have exceeded 9% of total tax revenues since 2008.

In contrast, the share of social security contributions in total tax revenues continued the consistent decline seen in recent years, dropping to 26% in 2017, compared to 27% in 2009. Other tax types have not exhibited a clear trend in recent years.

This year’s report contains a Special Feature that reconciles data on environmentally related tax revenues in Revenue Statistics with the OECD Policy INstruments for the Environment (PINE) database. This exercise provides higher-quality data for policymakers and researchers in this important policy area.

The Special Feature shows that environmentally related tax revenues accounted for 6.9% of total tax revenues on average in OECD countries in 2017, ranging from 2.8% in the United States to 12.5% in Slovenia and Turkey. As a share of GDP, environmental taxes account for 2.3% on average, with country shares ranging from 0.7% in the United States to 4.5% in Slovenia. The largest share of ERTRs is derived from energy taxes, both on average and in nearly every OECD country, accounting for nearly three-quarters of ERTRs, according to the report.

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India: Step up reform efforts to increase quality jobs and incomes

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India is set for a modest recovery after a loss of momentum, as reforms to simplify taxation, lighten business regulations and upgrade infrastructure start to bear fruit. Further reforms to modernise the economy are now needed to drive the creation of high-quality jobs, as well as measures to improve public services and welfare, according to a new OECD report.

The latest OECD Economic Survey of India notes that while India has greatly expanded its participation in global trade in recent years, private investment remains relatively weak, the employment rate has declined amid a shortage of quality jobs, rural incomes are stagnating, and per-capita income varies considerably across states. 

“India is now well established as a growth champion and a major player in the global economy,” said OECD Chief Economist Laurence Boone, launching the Survey in New Delhi. “However, this slower pace of growth underlines the need to fully implement existing reforms and continue lowering barriers to trade to generate the investment and jobs India needs to raise living standards across the country.”

The Survey sees India’s GDP growth recovering to 6.2% in 2020 and 6.4% in 2021 after dipping to 5.8% in 2019 following several years of robust growth. Restoring growth to the higher levels needed to provide ample jobs and ease inequality will require accelerating the pace of structural reforms to revive investment and exports.

Improving the health of the financial sector, where the share of non-performing loans has declined but remains high, will be key to supporting investment. The Survey recommends speeding up bankruptcy procedures and improving governance in the banking sector.  

India has ramped up its participation in international trade since slashing tariffs in the 1990s. Its share of global goods and services exports reached 2.1% in 2018, up from 0.5% in the early 1990s, thanks to a strong performance in sectors like information technology and pharmaceuticals. Addressing remaining infrastructure bottlenecks by modernising ports and adding roads will be key to boosting India’s competitiveness. Reducing restrictions to services trade imposed by trading partners and by India on imports would further boost trade in services, also giving a lift to manufacturing and the general economy. OECD estimates suggest India would be the biggest beneficiary of a multilateral cut in services trade restrictions. Even without a multilateral agreement, moving alone to overhaul regulations would have a positive impact.

While many millions of Indians have been lifted out of poverty in recent years, too many have no formal employment benefits and little access to finance. Doing more to simplify complex labour laws – many of which discourage hiring by becoming binding as firms grow above stated thresholds – would help raise the share of quality jobs demanded by a fast-growing and well-educated youth population in a country where the vast majority of employment is informal.

The government has made some headway improving access to electricity, drinking water and rural roads. Housing shortages, and poor access to basic amenities, remain acute, particularly in rural areas. Population growth and urbanisation will add to housing pressures already estimated to affect some 40 million households across the country. Developing the currently small rental market could help achieve a pledge to provide a house for all Indians by 2022. Finally, mobilising more revenue from property and personal income taxes could create the fiscal space to raise spending on health, education and social transfers.

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Italian Cities Can Make Doing Business Easier By Learning From Each Other

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Local companies in Italy face varying regulations and procedures for the same business activity depending on where they establish their businesses, says a new World Bank study released today. The study highlights good practices in Italian cities that underscore opportunities for the government to do more to support entrepreneurs and firms across the country.

Doing Business in the European Union 2020: Greece, Ireland and Italy measures the business environment for small and medium-size enterprises in five areas: starting a business, dealing with construction permits, getting electricity, registering property and enforcing contracts. Thirteen cities in Italy are benchmarked: Ancona, Bari, Bologna, Cagliari, Florence, Genoa, Milan, Naples, Padua, Palermo, Reggio Calabria, Rome, Turin.

“We hope that this study will empower policy-makers and practitioners at the national and local levels with data to inform their strategies and help improve the local business regulatory environment across Italy,” said Arup Banerji, World Bank Group Regional Director for the European Union.

A different city is the best performer in each of the areas measured. It is easiest to start a business in Ancona and Milan, deal with construction permits in Cagliari, get a new electricity connection in Bologna, register property in Rome, and enforce a contract in Turin. Overall, Bologna and Milan are the two cities that registered the greatest number of best practices.

“The cities measured in the study have different strengths, which means that Italy can make improvements overall if cities learn from each other and implement successful measures,” said Rita Ramalho, Senior Manager of the World Bank’s Global Indicators Group, which produces the report.

Disparity in regulatory performance are particularly significant in the areas of getting electricity, construction permits, and contract enforcement, while starting a business and registering property are more homogenous, thanks to the nationwide launch of digital tools that streamline regulatory processes.

Time is the dimension that varies the most across the five areas. For example, resolving a commercial dispute takes 860 days in Turin, thanks to efforts started in the early 2000s to reduce case backlogs, as well as the more recent development of specialized court sections, while in Reggio Calabria it takes more than twice as long. Similarly, obtaining a new electricity connection takes two months and a half in Bologna and Rome, but three times longer in Palermo, with the main driver of variance being how long it takes to obtain excavation permits from municipalities.

Despite a number of good practices documented in the study, challenges remain. Firms across Italy still face inefficient and lengthy procedures that carry a high cost. This is particularly the case for the enforcing contracts area, the only indicator where all Italian cities perform below the EU Doing Business average.

Doing Business in the European Union is a series of subnational studies being produced by theWorld Bank Group at the request of and funded by the European Commission. This edition also benchmarks 6 cities in Greece and 5 cities in Ireland, besides the 13 cities in Italy. A first edition, covering 22 cities in Bulgaria, Hungary and Romania, was released in 2017. A second edition, covering 25 cities in Croatia, the Czech Republic, Portugal and Slovakia, was released in 2018.

The work on Italy, carried out with the support of the Minister of Economic Development, is based on the same methodology as the global Doing Business study published annually by the World Bank Group.

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