How emerging economies can weather the coronavirus recession
As the ongoing coronavirus crisis continues to make its presence felt across the globe, developing countries are unsurprisingly experiencing its effects more keenly. Emerging markets such as Brazil, India and South Africa are in the top five countries worldwide for total confirmed cases, while the economic slowdown engendered by the pandemic is also hitting emerging markets harder.
Indeed, the World Bank has warned that COVID-19 could undo over a decade of economic progress in emerging markets, a significant blow to the global fight against poverty. The international community can help alleviate this setback by providing aid and suspending debt servicing. The most affected countries, however, can also help to lessen the economic blow by addressing inconsistencies in their own financial infrastructure.
Emerging markets especially vulnerable
Progress in bridging the gap between low income countries and advanced economies was already slowing prior to the outbreak of Covid-19. Productivity growth, one of the biggest drivers in lifting millions out of poverty, has been decelerating since the last financial crisis. Productivity levels in emerging markets now comprise less than 20% of the average levels enjoyed by advanced economies. In low-income nations, meanwhile, productivity is just 2% of the average in wealthy countries.
Those concerns are only likely to become more pronounced due to the current health crisis. Indeed, the International Monetary Fund (IMF) estimates over $100 billion in foreign investment was withdrawn from developing markets in the first phase of the pandemic alone, while the Organisation for Economic Cooperation and Development (OECD) predicts FDI to developing countries will drop by $700 billion by the end of 2020.
Even in the so-called “new normal”, we are unlikely to see the same demand for exports in countries like China. Indeed, Bloomberg’s index of commodity prices fell by 20% since the start of the year. Meanwhile, places like the Philippines, Thailand and Montenegro, which depend upon tourism for anywhere between 20% and 25% of their GDPs, are likely to suffer greatly from reduced flights and a plummeting appetite for travel.
All these factors mean emerging markets face serious setbacks in their aspirations for economic development. Over 100 countries have asked the IMF for help – the largest number in a single year since the Fund was established in 1945 – and international investors have a duty to write off or delay outstanding repayments to avoid triggering a crippling chain reaction of mass unemployment, immigration, and protectionism. Thankfully, the IMF and the UN have both suspended repayment programs until later in the year, while the IMF and the World Bank have pledged $1.16 billion to bail out the most vulnerable economies.
Recouping lost revenue
International support may be essential, but emerging markets also have domestic policy options to carry them through the crisis. Their first imperative must be developing new revenue streams to support public expenditures, given that increasing taxes on struggling citizens or businesses isn’t a practical option. Many governments have instead eased tax burdens on individuals and small businesses to avoid hamstringing the economy from the ground up, underlining the need for more diverse sources of tax revenue.
One of the most effective ways of doing so would be to close loopholes that allow billions of dollars to be lost each year to tax evasion and avoidance. Take, for example, the illegal tobacco trade. It’s estimated that eliminating the lucrative black market in tobacco alone would net governments worldwide a cumulative $31 billion, of which $18.3 billion would go to low- and middle-income countries. More importantly, it would help save 164,000 lives every year.
Eliminating this tax gap, however, requires taking on the powerful tobacco industry. Despite the industry’s protestations to the contrary, as much as 70% of the illicit trade is fed by official cigarette manufacturers, with abundant evidence demonstrating Big Tobacco has repeatedly obstructed efforts to clamp down on untaxed cigarettes. The industry has expended considerable energy trying to interfere with systems meant to track and trace tobacco products, which the World Health Organisation has identified as essential tools to stamp out the illicit trade in tobacco and recoup lost tax revenues.
A handful of countries, such as Kenya, have implemented successful track-and-trace schemes on tobacco and other harmful projects (such as alcohol and soft drinks) despite industry interference, seeing substantial increases in tax revenue as a result. On the other hand, some of the world’s wealthiest governing bodies—including the EU—have come under scrutiny for delegating key parts of their tracking systems to tobacco industry proxies.
Building a fairer future
Overcoming the intense pressure that wealthy individuals and corporate interests can leverage over governments in emerging markets is no easy task, but the payoffs are considerable. Africa alone loses over $90 billion per annum to illicit financial flows (IFFs), while it’s thought the developing world as a whole misses out on 1% of its total GDP due to tax evasion.
There are myriad ways to curb these illicit financial flows, but one of the easiest would be to simplify overly complicated tax regimes. In Latin America, for example, the average company must spend 547 hours filing 22 separate payments each year. A World Bank report found reducing the number of payments and the time it took to make them by a mere 10% would incur a corresponding 9.64% rise in compliance.
As such, simplifying tax codes and shutting loopholes designed for use by multinational companies should be a natural solution for struggling economies needing to boost revenue to tackle the current crisis. Plugging these gaps would bring the added benefit of engendering fairer, more equitable financial systems for the average citizen, in rich and lower-income countries alike.
This article does not necessarily reflect the opinions of the editors or management of EconoTimes