Constitutional amendment proposal includes creation of uniform rate, non-cumulative

10/24/2022

Debora Freire Cardoso — Foto: Divulgação

A consumption tax overhaul can not only bring production gains for all major sectors, such as industry, agribusiness and services, but also bring simultaneously greater economic growth and more progressiveness, with reduced inequality.

This is one of the conclusions of a study that simulates the macroeconomic and distributive impacts of the constitutional amendment proposal (PEC) 45/2019. According to the PEC, a Tax on Goods and Services (IBS) would be created from the unification of five taxes – federal taxes IPI, social taxes PIS and Cofins, the state sales ICMS and the municipal tax ISS. The proposed IBS follows the model of the Value-Added Tax (IVA), non-cumulative, with a uniform rate and tax-free investments, among other features.

Authored by professors Edson Paulo Domingues and Debora Freire Cardoso, with the Federal University of Minas Gerais, the study was prepared at the request of the Center for Fiscal Citizenship (CCiF) and is to be discussed Monday in a debate on the sectorial impacts of a overhaul in consumption tax promoted by the think tank.

Based on data from the 2015 national accounts calculated by statistics agency IBGE, the study considered four scenarios. One of them with the replacement of the five taxes by the IBS, without a selective tax. A second scenario adds this replacement and a selective tax on tobacco, beverages, and fossil fuels. Two more scenarios were also simulated adding to this the effects of long-term productivity gains, one at a more conservative level and the other more optimistic. The premise was a overhaul with a neutral impact on tax collection as a proportion of GDP. In the first scenario, the IBS tax rate was estimated at 26.35%, and in the others, at 24.19%.

The study predates the recent sales tax ICMS cuts in fuels, electricity, and telecommunications. For Ms. Cardoso, the changes during this year have no effect on the results because the horizon of the simulation is not short term, and they are unlikely to be maintained permanently.

The results show that the biggest gains from the overhaul would come from industry because, says Mr. Domingues, it is the sector most dependent on investments and in which the effective taxation today tends to be higher due to the large chain of inputs in production.

In the scenarios with no productivity effect, the increase in industry activity exceeds 8%, while in the scenarios that incorporate productivity increase, the effect reaches 16.7%, with the most conservative level, and 25.7% with the most optimistic level.

But the beneficial effect of the overhaul would also reach the other major sectors of the economy, says the study. Even in scenarios with no increase in productivity, there would be an increase in production in agriculture and cattle raising (a little more than 3%) and in the services sector (around 2.5%). According to the study, this result is due to the fact that the effects of the reduction of cumulativeness and the increase in family income more than offset the increase in the IBS rate compared to the current taxation in some subsectors of agribusiness and services. With the productivity gains, the positive impact on the agribusiness activity would be 10.6% in the conservative scenario and 18.2% in the optimistic one. For services, the favorable effect would be 10.1% for the conservative productivity gain and 18% for the optimistic one.

Taxation on consumption today, says Mr. Domingues, is “badly placed, badly distributed, with very heterogeneous rates.” The study shows that a homogeneous tax rate already brings gains for GDP, investments and consumption because the system today is very inefficient.

The study also details the impacts on 66 industries. In this detailing, the industrial sectors are also the ones with the best performance in terms of increased production. The construction industry, Mr. Domingues points out, is the one with the best performance, with a gain of around 15% in the first two scenarios. In agribusiness, all the main sectors – agriculture, cattle-raising and forestry production and fishing – have growth in all four scenarios, the same happening with the food industry.

In the case of services, although most sectors benefit in all scenarios, says the survey, some branches, such as food away from home, personal services, and private health and education, present a relative fall in the level of activity in the first two scenarios.

Mr. Domingues explains that the fall is due to the nature of these services, which are more aimed to end consumers, with a lower proportion of intermediate inputs in production, and would benefit less from the reduction in cumulativeness that would come from the overhaul. In scenarios in which the productivity effect is considered, he points out, even those service branches would have a positive impact.

Mr. Domingues points out that the effect on economic activity is only one of the impacts of the overhaul. There is also, he recalls, an effect on cost reduction, which happens in all 66 industries in the four simulated scenarios. “Private education, for example, may grow less than industry, but it will become more profitable because its cost of operation will fall.”

The study also shows an increase in household purchasing power measured as a proportion of income. The beneficial effect would come to all groups, but especially to the lower income brackets. In the scenarios that consider the effect of productivity, the gains are more homogeneous among families in 11 income groups.

Despite that, the benefit is greater for lower income families. According to Ms. Cardoso, this happens because the tax overhaul would bring a pattern of heterogeneous sectorial effects, reducing the costs of industry and food production more than those of services. With this, the weight of the consumption basket of the poorest families is reduced more than the consumption basket of the richest, relatively speaking.

In the current system, she says, the consumption basket of higher-income families is more intensive in services and less taxed in relative terms than the consumption basket of poorer families, which is more intensive in goods.

“When discussing tax changes, in general there is the usual opposition between efficiency and equity. But the Brazilian tax system is so cumulative and penalizes the production of certain goods so much that there is no such trade off. There would be both an efficiency gain and a reduction in inequality with a consumption tax overhaul,” says Ms. Cardoso. This effect would be even greater associated with the personalized exemption model, with the devolution of consumption tax paid on the basic food basket to lower income families.

*By Marta Watanabe — São Paulo