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TII SPECIAL
Russia-Ukraine War Rocks Taxation domain Across The World
By Naresh Minocha
Jun 21, 2022

THE lengthening Russia-Ukraine War (RUW) is churning fiscal dynamics across the world. RUW has thus put all stakeholders in the risks-ball gazing mode.

Tax administrations are worried over the fall in revenue and changing revenue-mix due to RUW flux. Simultaneously, they have started levying new taxes such as windfall profit tax on energy companies in certain European countries. Others are toying with idea of new taxes such as a tax on Russian crude exports to give teeth to Western sanctions.

As put by OECD Economic Outlook dated 8th June 2022, "Over the medium and long term, the conflict in Ukraine is raising new fiscal priorities and thus reinforcing the need to change the composition of the public finances. In Europe, many countries are planning to increase expenditure on defence".

It observes : "In addition, the goal of reducing reliance on fossil fuel supplies from Russia has lent new urgency to investments in clean energy and energy efficiency".

According to a recent policy paper authored by two experts from Belgium-based think-tank, Bruegel, "For Europe, the war in Ukraine is a first-order economic shock". Apart from the expenditure on welfare of refugees, Europe is also chipping in military aid to Ukraine. It also has to cope with inflation and its impact on national income.

Discussingtax versus debt as means for managing economic challenges, Bruegel Paper says: "On political economy grounds, the notion of a war tax – a 'Putin tax', as President Biden has called it in the United States, although he was referring to the decrease in real income rather than an explicit tax – may be less unpopular than in other circumstances and underscore the point that contrary to current perceptions in Western Europe a war, even an economic war, is not free ".

RUW is hitting hard the developing countries too. As put by UN Secretary-General António Guterres, " The war in Ukraine is the latest in a cascade of crises for developing countries that continue to struggle to make development progress, achieve vaccine equity and achieve a just and safe recovery. The cost of energy, food and other commodities is rising, further intensifying volatility in global financial markets ".

In Foreword to a report titled ' Financing for Sustainable Development Report (FSDR) 2022 ', Mr. Guterres observes: "In a world of interlinked and systemic risk, GDP is no longer an appropriate metric of how we measure wealth and shared prosperity. We must find ways to take vulnerabilities into account more systematically in the allocation of concessional financing and actions on debt ".

RUW in influencing taxation domain in several ways. First, the War, coupled with endemic Covid-19, is whittling down projections for global GDP growth.

Second, the resulting economic slowdown is triggering fall in revenue receipts, which often outpaces the reduction in GDP growth.

Third, RUW has fuelled a big spurt in global prices of commodities. This hasled many governments into reducing tariff on commodities especially liquid fuels to provide some relief to consumers.

Similarly, certain nations have imposed export duty or non-tariff cubs on sensitive products to manage their prices in domestic markets. It is here apt to cite a 2013 World Bank review of the Food Price Crisis (FPC) of 2008. It has listed lessons for future global food price crisis. A key lesson calls for "a cautious approach is warranted in consideringtax and tariff reductions in a crisis response, to balance price effects with implications for fiscal stress ".

RUW has altered terms of trade between exporters of major commodities and importers. It is as good as abnormal transfer of income from importers to exporters due to steep rise in prices of fuels, food, fertilizers, certain metals and products. RUW has thus given a big blow to cherished goal of inclusive development of all nations.

No wonder then that Benjamin Mandel, Head of Portfolio Strategy at Itaú Asset Management, views RUWas a "regressive global tax" in itself.

In a paper published last month in Journal of International Affairs, Mr Mandel explained: "The shock to commodity prices is not a tax per se, but it shares much in common with a hypothetical global tax on commodity prices and its effect on importer real income. Not least, the low elasticity of demand of commodities for final consumption (or inputs into manufactured goods) translates into a high incidence of the tax on importing nations ".

Another set of key variables impacting economic growth, revenue receipts and inflation is the West's sanctions and Russia's counter-sanctions. Each new set of sanctions gives a new spin to taxation domain.

European Union's sixth announcement of sanctions announced last month is a case in point. It provides for staggered ban on crude oil import from Russia within six months. It also provides for ban the import of refined petro-products within one year.

After this, the USA-based International Working Group on Russian Sanctions (IWGRS) has recommended imposition of "a tax on the sellers of Russian energy into Europe in order to confiscate the funds that the Russian government currently captures in the form of export taxes ".

In a paper dated 9th May 2022, IWGRS has also called for creation of "an escrow regime to capture the balance of Russian export earnings so that they remain outside of Russian governmental control (in much the same way that existing sanctions have impacted Russian central bank reserves) ".

Sanctions on Russia is doing collateral damage to foreign exchange reserves of a few central Asian nations that heavily depend on remittances from its migrant workers. Four million workers from these countries work in Russia. Many have returned to their home countries as sanctions have affected economic activity in Russia

A recent UN release has quoted an official of International Organization for Migration (IOM) as saying "a fall in remittances from Russia will certainly have a detrimental impact on the region's remittance-dependent economies."

The simultaneous decreases in GDP and tax and non-tax revenue are mutually reinforcing with the pace of decline not being identical. This trend compels budget planners to bank more on debt even as though it has exceeded sustainable level in many countries. Inflation, which is deemed tax on salaried class, has made economic recovery more daunting.

As put by IMF Managing Director Kristalina Georgieva during April 2022, "Inflation is a threat to financial stability and a tax on ordinary people struggling to make ends meet. In many countries, it has become a central concern, and there is a rising risk that inflation expectations could become de-anchored, which could make inflation more entrenched and harder to control ".

In her speech titled ' Facing Crisis Upon Crisis: How the World Can Respond ' delivered at Washington, she urged the countries to adopt a credible medium-term fiscal path, including equitable tax policies".

RUW-propelled inflation is influencing both monetary and fiscal policies in many countries. Certain nations have reduced taxes on several commodities to rein in galloping prices. How they impact the overall tax receipts of a country remains to be seen.

Other countries especially in Europe have imposed windfall tax on profit of energy companies. Others have either imposed export duties or non-tariff restrictions on commodities& products to prevent shortages& price rise in the domestic markets. Supply chain disruptions have led to development of alternatives, whose tax implications have to be gauged globally.

Several countries are rebooting their respective self-reliance agenda,prompting analysts to see deglobalisation as the new global trend. The focus is on cutting down big-ticket imports to ease pressure on foreign exchange reserves.

The accelerated substitution of imported fuels, for instance, with renewable energy sources means substantial ramp-up of the production of solar, wind and other equipment used for green energy.

Countries like India have decided to speed up their big push towards bio-ethanol and bio-diesel. Such shifts in manufacturing domains influence both taxes and tax expenditures.

How all such variables would change the composition of tax receipts is difficult to forecast. The hard-pressed countries like Sri Lanka and Pakistan have no option but to cut down the consumptive expenditure.

Expropriation of overseas Russian investments & other assets might impact foreign direct investment (FDI) and underlying corporate taxes in the long run. Ukraine has already made radical changes in its direct and indirect taxes to cope with the war and to retain investment by foreign companies. Russia is also expected to make more changes in its taxes to check fall in its GDP growth.

The global outlook becomes hazier if one reckons secondary factors such as unfolding dear-money policy of certain Central Banks, fluctuations in foreign exchange rates and abnormal capital inflows and outflows. The risk of debt payment defaults and recession are thus multiplying by the day,

There is unanimity among analysts that RUW would delay further recovery of pandemic-battered global economy. How and how long it impacts growth in revenue receipts in different countries is hard to gauge due to covid-RUW dynamics.

As put IMF, "The economic effects of the war are spreading far and wide—like seismic waves that emanate from the epicenter of an earthquake—mainly through commodity markets, trade, and financial linkages ". In its latest World Economic Outlook captioned 'War Sets Back the Global Recovery', IMF has forecast a decline in global growth to 3.6 percent in 2022 and 2023 from an estimated 6.1 percent in 2021. It says: "Beyond 2023, global growth is likely to decline to about 3.3 percent over the medium term ".

The world needs studies that simulate the combined impact of Covid-19 & RUW on recovery of global economy and the resulting decline in tax receipts and rise in debt. The simulation models are needed at both global and national levels.

This should help tax administrations optimize tax receipts in toughest times. taxes as a component of GDP and tax to GDP ratio are important determinants of economic growth, social welfare and poverty alleviation.

"The unfolding crisis of the Russia-Ukraine war has widespread tax implications for businesses" says International Tax Review(ITR) editorial dated 28th April 2022. Listing out instances of tax implications, ITR notes that Western sanctions are impacting Russian investments routed through tax havens.

It observes: "The UK government has secured support from the three Crown dependencies and 14 overseas territories, including the British Virgin Islands (BVI), to enforce its sanctions. Russian individuals and companies have long relied on low-tax jurisdictions to do business outside of Russia ".

As holistic studies on tax forecast are hard to come by, national budget planners can make fathom into the enormity and complexity of the dynamic situation by looking at risks perceived by multinational corporations' (MNCs'). MNCs across all sectors have shared different concerns over RUW's short, medium and long-term impact on their businesses.

All financial and corporate regulators across the world should emulate Securities and Exchange Commission (SEC) of USA in seeking information on RUW's impact in a structured format.

SEC recently issued an advisory titled "Sample Letter to Companies Regarding Disclosures Pertaining to Russia's Invasion of Ukraine and Related Supply Chain Issues ". The Letter requires companies to disclose taxes paid to Russia.

In the Management's Discussion & Analysis of financial results, companies have been asked to disclose: " any known trends or uncertainties that have had or are reasonably likely to have a material impact on your cash flows, liquidity, capital resources, cash requirements,financial position, or results of operations arising from, related to, or caused by the global disruption from, Russia's invasion of Ukraine. Trends or uncertainties may include impairments of financial assets or long-lived assets; declines in the value of inventory,investments, or recoverability of deferred tax assets; the collectability of consideration related to contracts with customers; and modification of contracts with customers ".

ends

 
 
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