Dominican Republic - Economic Policy

Economic policy

The Budget Office within the Technical Secretariat of the Presidency (Secretaria Técnica de la Presidencia) administered fiscal policies. The fiscal year (FY) concurred with the calendar year throughout the government, except in the case of the State Sugar Council (Consejo Estatal de Azúcar--CEA), which ran on the cycle October 1 to September 30. Fiscal authorities traditionally pursued rather conservative policies, allowing for small deficits and occasional surpluses. Fiscal deficits grew in the 1980s, however, as the result of dwindling revenues and increasing losses from price and exchange-rate subsidies to state-owned enterprises. Revenues, as a percentage of GDP, fell from 16 percent in 1970 to a low of 10 percent by 1982, placing the Dominican Republic below virtually every Latin American country in this category. Liberal incentive laws enacted to spur industrialization during the 1960s and the 1970s were the main cause of the erosion of the revenue base. Beginning with the Jorge administration, officials began to increase taxes on an ad hoc basis, assessing mainly international trade. A moderate expansion of revenues resulted. Nonetheless, fiscal deficits averaged roughly 5 percent of GDP a year in the mid-1980s to the late 1980s. The shortfalls were financed by the printing of more pesos, a policy that accelerated inflation. Successive governments demonstrated a lack of political will to address the structural deficiencies on both the expenditure and the revenue sides of the national budget.

The execution of fiscal policies was influenced by personal and political custom. For example, many businesses illegally received tax-exempt status because of political contacts, while other qualified firms did not. Tax evasion among wealthier Dominicans was common. Government corruption, particularly among the parastatals, was believed to be similarly commonplace. The 1989 conviction of former president Jorge on charges that he and military leaders embezzled large sums on military contracts illustrated the extent of official corruption. The lack of competitive bidding on government construction contracts also contributed to perceptions of fiscal mismanagement. Despite Balaguer's anticorruption drive of the 1980s,institutionalized graft prevailed.

Revenues

The core of the government's fiscal problems lay on the revenue side. Starting in 1970, revenues, as a percentage of GDP, steadily declined. These revenues hit a low in 1982, as the result of generous tax exemptions for industry. Many economists criticized the role of fiscal exemptions in the island's industrialization because the government thereby forfeited badly needed revenues in favor of job creation. In 1983 the government introduced a 6-percent value-added tax and initiated a number of ad hoc taxes on international trade, licensing, luxury items, and foreign exchange transactions. These new taxes, however, did not make up for the loss of revenue that had resulted from the low rates of taxation on income and business profits.

A fundamental feature of the nation's tax system was the low level of taxes on income and profits. In 1985 income taxes represented only 0.6 percent of GDP, well below the average of 2 percent of GDP for all developing countries. Furthermore, the income tax was effectively regressive because it utilized a flat rate and allowed numerous exemptions. Most new corporations, generally the most dynamic, benefited from at least one of the many fiscal incentives, and these enterprises therefore added little to the public coffers. In 1987 taxes on income and profits accounted for 19 percent of total tax revenue. Because of the political strength of the local and the foreign business communities, major reforms in this section of the tax law were unlikely.

In addition to personal and corporate income taxes, goods and services and international trade were also taxed. Taxes on goods and services equalled 36 percent of all taxes in 1987, whereas those on international trade had reached 43 percent, a relatively high share. Steep import tariffs and export taxes on principal commodities constituted the bulk of taxes on trade. Dominican authorities found taxes on imports and exports far easier to legislate and to collect than domestic taxes, despite the fact that they created numerous economic disincentives. Non-tax revenues, such as government income from property and other equity, provided 12 percent of total revenues in 1987.

Expenditures

Government expenditures, as a percentage of GDP, reached 21 percent by 1987, up from an earlier low of 15 percent; both figures were low by the standards of most developing countries. These data indicated that, with the exception of the enterprises inherited from Trujillo's holdings, the government's role in the economy was relatively limited. The ratio of total spending had also declined, beginning in the 1970s, because of the decline in revenues as a percentage of total output. Falling revenues dictated a corresponding decrease in the percentage of spending on social services, which worsened the position of poorer Dominicans. Ironically, a major drain of fiscal resources in the 1980s was the result of the low prices of goods and services provided by government-subsidized enterprises, such as utility companies, many of which were created to cater to lower-income citizens. These subsidies began in the 1970s, at a time of greater government resources; by the 1980s, however, they had created serious price distortions between government and market prices. Politicians were reluctant to cut price subsidies to the poor in the late 1980s, as the economy weakened and popular expectations for continued government support remained high.

Government spending was divided between current and capital expenditures. Current expenditures averaged nearly 70 percent of total expenditures during most years, and they were divided among the categories of social services, general services, and financial services. Social services received 30 percent of the national budget in 1988, some 13 percent of which was dedicated to education and 8 percent, to public health. As recently as 1984, social expenditures had accounted for 47 percent of the total. General services constituted 21 percent of spending: about 7 percent of this was allocated to defense; 5 percent, to judiciary and police; and 9 percent, to government operations. The 1988 budget also allocated 22 percent of expenditures under the designation of financial services to debt servicing; this percentage was lower than it had been in previous years, as a result of debt rescheduling. During most of the 1980s, capital expenditures (referred to as economic services in the budget) represented at least 30 percent of total government expenditures, a relatively high proportion. As the Balaguer administration initiated major public-works projects in the late 1980s, the budget share dedicated to capital expenditures increased to more than 40 percent.

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