Tuesday 19, June 2018 by Jessica Combes

Income tax law backtrack underscores Jordan's fiscal consolidation challenge

 

The delay in tax reform risks slowing progress achieved in consolidating government finances under the IMF program since August 2016

On 7 June, Jordan's newly appointed Prime Minister Omar Razzaz withdrew the government's draft income tax law amendments, which targeted broadening the tax base and were pending parliamentary approval, following protests by citizens a week prior which led to the resignation of former Prime Minister Hani Mulki.

The protests only subsided after the draft law was eventually withdrawn. While Moody’s believes that delay and revision of the proposed tax reform is a more likely outcome than outright and permanent removal of the measures, the delay risks slowing progress achieved in consolidating government finances under the IMF programme since August 2016.

Diminished scope for continued fiscal consolidation raises the risk that Jordan's debt burden, which reached 95.3 per cent of GDP in 2017 from 70.7 per cent in 2011, will not stabilise as previously envisaged. Moreover, further fiscal consolidation is needed to reduce Jordan’s high public sector gross financing needs, which Moody’s estimate at 20.6 per cent of GDP in 2018, largely due to the rollover of short-term domestic debt.

Amid weak economic growth and strained public finances, IMF programmeme has sought fiscal stabilisation The income tax law amendments are a requirement under Jordan's August 2016 $723 million Extended Fund Facility (EFF) with the IMF, which seeks to stabilise the sovereign’s public finances, boost employment and investment, and enhance private sector competitiveness.

Jordan’s public finances have been strained by a nearly 50 per cent increase in social benefits with the arrival of approximately 1.4 million Syrian refugees since the 2011 start of the Syrian civil war. Refugees now comprise almost 20 per cent of Jordan’s population. The increase in government spending on social benefits also occurred amid a decline in foreign grants since 2014. Economic growth has also faltered, falling to two per cent in 2017 from 3.1 per cent in 2014. The official unemployment rate reached 18.4 per cent in the first quarter of 2018, up from 11.8 per cent in the first quarter of 2014, reflecting the fragile social environment and sensitivity towards further fiscal consolidation measures and highlighting the challenges the next administration will face in passing fiscal reforms.

Protests underscore the government's challenge in achieving remaining fiscal consolidation targets Over the last two years, the government made progress in achieving many of the targets set by the IMF-supported programme and narrowed the fiscal deficit to 2.6 per cent of GDP in 2017. The authorities’ tax reform proposals to date relative to the original programme commitments laid out by the IMF have entailed less durable and direct fiscal reforms, favouring removal of exemptions on the goods and services tax (GST) and customs duties as opposed to income tax amendments.

Overall targeted fiscal consolidation was approximately 0.1 per cent and 0.3 per cent of GDP below the original programme commitments for 2018 and 2019, respectively. The income tax law amendments followed other fiscal tightening measures taken earlier this year: in January, the government removed subsidies on basic goods such as bread and unified the general sales tax rate. At the same time, steadily rising oil prices since mid-2017 have pushed up gasoline prices and electricity tariffs, negatively affecting households’ disposable income levels, which are no longer insulated by fuel subsidies because those were completely eliminated in 2012.

Under Jordan's original EFF agreement, the government was to enact income tax amendments per IMF guidance initially by the end of 2016. The target was then moved to the end of March 2017 and subsequently pushed back to end-November 2017. The IMF has publicly stated that it will work with Jordan's new government to complete a review of the programme as soon as possible to release the next programme disbursement. While continued progress on fiscal reforms, as envisaged by the IMF programme, will be critical to achieve public debt sustainability in the medium term, in the near term Jordan will be able to count on additional support from Gulf Cooperation Council (GCC) countries.

In response to the street protests, Saudi Arabia, the United Arab Emirates, and Kuwait, announced a new $2.5 billion economic support package for Jordan. The package, equivalent to about six per cent of 2017 GDP, extends the $5 billion in support that Jordan received from the GCC countries in the wake of the 2011-12 protests and will be disbursed over the next five years.

According to an announcement made at the high level GCC-Jordan summit on 11 June, the support will include a deposit in the Jordanian central bank, guarantees on World Bank lending to Jordan, budgetary support and financing for development projects. Nevertheless, recurring delays in meeting the programme's benchmarks highlight the difficulty in implementing incremental reforms, particularly with regard to income taxes.

Jordan stands out internationally in this regard, collecting only 0.4 per cent of GDP in personal income taxes, one of the lowest in the region, and has an income tax threshold in excess of 3x GDP per capita, more than triple that of many regional peers, according to the IMF. Overall, income taxes from individuals have averaged only three per cent of total government revenue over the last five years, and the volatility in income tax growth—particularly for those taxes derived from individuals—is only further exacerbated by the economy's high levels of informality and unemployment.

The protests at the start of June were the largest street protests since 2011-12 and were combined with strikes by the unions and professional associations. The protests underscore the social challenges that the government is facing while trying to ensure sustainability of public debt dynamics. Policy reversal following the protests indicates that political room for further fiscal consolidation is limited. Once formed later this month, Jordan's new government will likely revise and resubmit the draft income tax law. We anticipate the new proposal to yield significantly less additional revenue compared to the original amendments, which the government expected would generate an additional JOD300 million (four per cent of 2017 revenue and one per cent of 2017 GDP) by the third year after taking effect.

Features & Analyses

Wealth Management Why is there no inflation?

  Mark Burgess, Deputy Global CIO & CIO, EMEA, Columbia Threadneedle Investments, writes about one of the biggest questions… read more