Speech at the IMF / AMF Fiscal Forum in Abu Dhabi, February 2016, Followed by a Long Meeting With IMF Managing Director Lagarde, Discussing Lebanon’s Challenges.

Mr. Chairman,

After spending 16 years as Director General of the Ministry of Finance of Lebanon, a country with challenging fundamentals and figures that defy gravity, as fiscal deficit regularly flirts with 10% of GDP, as current account deficit floats around 20% of GDP, as the balance of payments has been in deficit for four consecutive years, and as debt to GDP remains among the highest in the world, I can tell you that issues such as mobilizing budget resources, increasing government revenue, broadening the tax base, and enhancing fairness in the system, are permanent challenges that require adequatetough legislative measures, and credible law enforcement.

During those years, I had the privilege of very successfully introducingthe Value-Added Tax in Lebanon in 2002, as well as the financial interest tax, while restructuring the whole income tax system. As I am currently desperately trying to eliminate some important loopholes in our tax environment, I would like to quickly mention that both the VAT and the income tax reforms greatly helped in increasing the compliance rates due to their nature and to their impact on making the information available. VAT encourages major income tax payers themselves to provide the authorities with credible information as they need to unveil it for VAT refund, and the 5% tax on perceived interest secures sizeable revenue despite the existing banking secrecy law in Lebanon.

At different levels, my aim has been and still is to shift part of the burden away from labor and wages, which remain the main contributors, while submitting various sorts of speculation and rent-based revenue to taxation. Both the Lebanese economy and Lebanon’s society have indeed suffered from the deterioration of the value of labor and production, and from their consequences, such as massive brain drain, lower competitiveness, and poor redistribution of wealth.

At the level of the tax administration, my team succeeded in moving from a structure organized by taxes to a function-based administration, which secured the taxpayers services and the compliance analyses that are needed to improve performance.

In parallel, we moved from systematically auditing the big ones to expanding compliance to everyone, thus achieving much more with the same limited resources. I could talk about those issues for hours.Basically, within a given system, adequate administrative measures are always needed to strengthen compliance and meet the objectives and targets, through for instance curtailing corruption within the system, increasing the efficiency and effectiveness through procedures and intelligent solutions, and moving the workforce higher on the learning curve.

I dealt for nearly two decades and I am still dealing with extending compliance in my country, and broadened the tax base by multiplying it by 4.5 within 12 years, and achieved more than 15% yearly increase in tax income on average, but instead of goingthrough that sort of technicalities, I would like to focus instead on issues of principle that are more appropriate to this audience, all of you being top-level decision makers or recognized financial experts.

Having worked closely for nearly two decades with the international financial institutions – namely the IMF, the WB, and also the AMF – on tax, fiscal, financial and structural issues, I would like to focus my short presentation on two issues that,I feel, need to be discussed with the Fund and others, and that are in my view critical headlines for resource mobilization and tax compliance.

These topics are 1/ the access to relevant information by tax authorities, and 2/ the various kinds of behavior leading to lower effectiveness of taxes, particularly in the case of Lebanon, the non-double taxation treaties which eliminate the tax resident notion. Both topics must be looked at keeping in mind the main obstacle to having an ideal tax administration, and that is the vested interest of the elite in having specific deficiencies in the system.

Let me elaborate on each point, and on the reasons leading to that sort of behavior.

1/ The limited access to relevant information is sometimes dictated by reality, as tax agents find themselves unable – or unwilling because they are corrupt or because they are scared – to properly perform their duties.

This is quite understandable in situations where the structures of the State are weak, and where the government is unable to retain the monopoly of the(legitimate) use of violence, let alone in worse situations than those ones.

But there are other cases where access to information is denied by law, and we all know about the controversy of having banking secrecy, bearer shares, and other legal dispositions in place. This makes it very difficult for tax authorities to fully mobilize resources.

But the situation becomes even more difficult and introduces severe distortions in the economy when it becomes structural, and when parliaments effectively work against their administration, as specific laws tacitly or openly provide specific groups with the means to escape from scrutiny. There are a big number of such measures that allow taxpayers to hide information, and they are usually tailored for different businesses or activities, very often under the pretext of allowing some businesses to flourish and attracting investors and capital. We will come back to that in a couple of minutes.

2/ The non-double taxation treaties, which the Managing Director mentioned this morning, effectively eliminate the tax residence principle, and when it is signed with countries that have a much lighter tax burden, if not none, it becomes a very serious drain on the Treasury as it provides avenues for tax fraud. In addition, it is very clear that unless those issues are treated at the international level, the losses will continue to increase. This situation is also created by the need to permanently attract flows of capital and investments into countries.

So in both abovementioned cases, there is the issue of compensating the unavailability of capital. Indeed, worldwide, payments’imbalances have become part of the global economic reality. The US current account deficit and its counterpart, i.e. the surpluses in Asia and also in the Gulf, started with the Reaganomics as an exceptional mobilization of resources, and later became a consequence of the dollar circulation outside the United States.

Savings had to be allowed to be invested abroad, particularly where markets were effective (typically the US), and now, structural imbalances have become a permanent fact. The immediate consequence is naturally a huge development of the intermediation function, which translates immediately into much bigger banks’ balance sheets and much larger financial transactions. And what is true among nations is also true within each nation. Contamination happened through 1-the lowering of public revenue, 2-the advantages obtained by the capital vis-à-vis labor, mainly because of the much higher mobility of the capital when compared to the labor, and also 3-through the necessity of maintaining the high profitability of the financial sphere at the expense of the productive investments.

Capital flows became a necessity, and the cost of maintaining them was continuously growing. On one hand, there is a need to finance a shrinking consumption, and on the other, it is critical to secure high returns for capital surpluses. High returns that very often mean either more debt, or more casinos and speculation (real estate, etc.).The internal disequilibrium becomes also structural.

The only thing we can do in small countries such as Lebanon, or many other Arab countries, is to sit and watch our systems reflect a global trend on which we have practically no influence. It is therefore critical for us to channel the biggest possible part of those financial volumes into investments (which was successfully done by the UAE for instance) and into the reinforcement of our economic cycles.

For those of you who think that I am completely outside my topic, my purpose here is to say that because our fiscal policies are heavily constrained by the situation of our external accounts, precisely because of the facts I was describing, we tend to accept issues like the two I previously mentioned, as the deficit has become structural, and as we are always after increasing the inflows of capital into our economies (Lebanon in this regard is an extreme case). What do small countries do in front of massive financial imbalances? Not much. This situation has to be treated at the higher international level, and this is why an institution like the IMF can play a critical role, as the world needs responses at a very high level to provide small countries with an adequate environment to achieve very high levels of tax compliance.

Let me conclude by saying that tax fairness was historically a product of revolutions. It started when the poor and the weak became able to question the behavior of the elite. Therefore, in countries where the elite detains a big share of the national wealth, it becomes de facto the natural target of the tax authorities, but at the same time, it has the means – whether legal or coercive – to structurally distort the system to its advantage. In those cases, the idea of achieving high compliance rates becomes very theoretical, and compliance needs to wait for the State of Justice and for a better representation of the population to become stronger. In the meantime, the system has to live with a systematic bias in favor of the elites that distorts the redistribution mechanisms and exacerbate the imbalances. If the elites are wise enough, they will gradually reduce those distortions in order to avoid brutal reactions.

Thank you.

Fiscal Forum Abu Dhabi February 2016