LONDON, 18 July 2003 — An efficient fiscal regime is the backbone of national economic management. Without it, governments would not have the resources to fund infrastructure development, education, primary healthcare, social security and pensions, and the defense of their sovereignty.
Some countries have natural resources such as oil and gas, from which they get export earnings. But even then, they realize that natural resources are indeed finite, and a sound fiscal regime remains the driver of government revenue generation and budget allocation.
The Arab Gulf states, however, remain an exception in terms of tax regimes, in particular personal income tax and indirect taxes. This has contributed to the stereotype notion of the Gulf kingdoms as oil-rich, high salary, free-spending, tax-free havens. The reality is different. High unemployment; a widening gap between rich and poor; a run-down public services sector; an erratic social security and benefit safety net; waste and corruption; and lack of transparency are some of the problems besetting these countries.
Saudi Arabia, Kuwait and even United Arab Emirates have muttered about introducing limited income tax sometime in the future, largely because of IMF pressure on these countries for fiscal reforms as part of larger economic reforms.
News that Bahrain is reviewing a draft policy to introduce a three-percent basic rate of income tax should be welcomed. The Bahraini move, would be merely a starting point — ripe for further reform if the situation demanded. In effect it is an attempt at partial taxation, because the revenue generated would be ring-fenced to finance the introduction of an unemployment benefit system along the lines of the British one. Although the move would be a step in the right direction, it would not contribute significantly to the Bahraini budget.
Even then the three percent is really two percent — employers would contribute one percent, the employee one percent, and the government one percent. In the case of public sector workers (read civil servants and bureaucrats) the state would contribute two percent. This would be the only two-tier partially subsidized tax system in the world. But Bahraini Labor and Social Affairs Minister Majeed Al-Alawi is keen to point that this initiative is not a handout.
You can tax on the basis of levels of income. That is why most Western tax regimes have a starting threshold of income which is universal and a higher rate over a higher income threshold. The levels for each threshold are what usually distinguishes the policies of center-left and center-right governments.
But to discriminate on the basis of public sector and private sector employees is against natural justice and, incidentally, against the principles of an Islamic system of economic management. Zakah, for instance, is based on levels of income and holdings of gold, and not on the basis of whether you work for the government, or a privately-owned bank.
Bahrain, which has aspirations of becoming the center of global Islamic finance and which is trying to stimulate its private sector like all other Gulf states, should re-think the ethos of its proposed fiscal regime. This should be universal — applicable to both nationals and foreigners working in the country. After all, both contribute to the economy.
But unfortunately, this “apartheid” mentality in tax policy seems to be a starting point for fiscal reforms in other Gulf states too.
Both Saudi Arabia and Kuwait are also contemplating introducing income tax for the expatriates working there. The government has already introduced compulsory medical insurance for expatriates (an indirect tax) and hopes to follow suit for all Saudi employees, with the burden falling largely on the employers.
However, there is a perception abroad among the IMF and international business that the Kingdom and other Gulf states are dragging their feet over economic reforms. In the case of Saudi Arabia, for instance, according to the latest report on the Kingdom by Standard Chartered Bank, “proposed legislation concerning capital markets and taxation has also not materialized. The sale of Saudi Telecom shares earlier this year is a step in the right direction, but further progress is needed. The government also needs to address deep-rooted structural fiscal imbalances... Reduction of the fiscal deficit would help contain the government debt stock.”
The Gulf states all face increasing unemployment. Saudi Arabia’s adult male unemployment rate has been put between 25 percent and 40 percent. Bahrain claims to have an unemployment rate of 15 percent, which is likely to be higher, because none of the Gulf states have proper methods of calculating or estimating reliable jobless figures.
This area is probably one of the most crucial areas for development for all the Gulf states over the next decade or so.