Latvia Tax Review
Latvia’s Ministry of Finance requested the World Bank to collaborate on a review of the country’s tax system as input for the design a medium-term tax strategy. The motivation behind the tax review is to find options to increase tax revenues by thr...
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| Format: | Report |
| Language: | English |
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World Bank, Washington, DC
2020
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| Online Access: | http://documents.worldbank.org/curated/en/200751593102515867/Latvia-tax-review http://hdl.handle.net/10986/34039 |
| Summary: | Latvia’s Ministry of Finance requested
the World Bank to collaborate on a review of the country’s
tax system as input for the design a medium-term tax
strategy. The motivation behind the tax review is to find
options to increase tax revenues by three percentage points
of GDP to reach a target tax-to-GDP ratio of 33 percent in
the medium term.1 In Latvia, tax revenues are lower than
predicted for its income level and institutional
development. Latvia’s tax policy needs to be restructured to
support economic development and raise living standards. The
speed of convergence in Latvia to average income levels in
the European Union (EU) was impressive until the 2008-2009
crisis, but since then output recovery has been fast but not
rapid enough for real GDP to return to pre-crisis level. A
critical challenge then is to boost productivity growth in
the economy: the level of productivity is low relative to
OECD economies and its growth has slowed notably since the
crisis. Increasing labor productivity is particularly
important if overall productivity is to rise: informality
and inactivity reduce both labor activity and productivity.
Increased investment in skills and good health are an
important part of the labor productivity and participation
story—particularly as Latvia rapidly ages. But reducing the
reliance of the tax system on low-skilled labor is also a
key policy challenge. Latvia’s tax system puts substantially
more of a burden on labor compared to capital or
consumption. This is all the more concerning given that
wages for much of the population are low and so the current
flat income tax structure has implications for social
inclusion and poverty. Inequality of (after-tax) disposable
income in Latvia is one of the highest in the EU, with only
Bulgaria, Romania and Lithuania having higher inequality.
The tax system entails distributional choices and one of the
objectives of the review is to look at options to improve
the equity of the system. Here both vertical equity, i.e.
taxing less those of lower income, and horizontal equity,
i.e. taxing the same those in economically similar
situations, are of importance. Governments are inevitably
confronted with an equity-efficiency trade-off: higher taxes
on the richer parts of the population, to raise revenue and
to finance benefits for poorer groups, can distort the
economic incentives for work, entrepreneurship, saving and
risk-taking of middle- and higher-income individuals. At the
same time, redistribution to low-income individuals, through
tax credits or benefits, could weaken labor supply
incentives. On the other hand, fairness, or equity is an
important consideration for widespread acceptance and
sustainability of the tax system. |
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