Developing Countries Have Extensive Informal Taxation Systems to Finance Public Works

This study "shows 'informal taxation' in developing countries is far greater than suspected, supporting public works -- and adding a burden for the poor." I don't have much to say about it -- maybe you will? -- just found it interesting:

MIT research: Taxation without documentation, EurekAlert: Developing countries often lack the official government structure needed to collect taxes efficiently. This lack of systematic tax collection limits the ability of those countries to provide public services that aid growth, such as roads, sanitation and access to water.

But a new study co-authored by MIT economist Benjamin Olken reveals that developing countries actually have extensive informal systems in which citizens contribute money and labor to public-works projects. In effect, local governments in the developing world collect more taxes and produce more public goods than many outsiders have realized, a finding with implications for aid groups and governments trying to decide how to fund anti-poverty projects worldwide.

"It's really surprising just how many people are doing this, and how prevalent this is," says Olken, an associate professor in MIT's Department of Economics. "...It's supporting a large share of what's going on at the village level."

These informal taxes are generally regressive: While better-off citizens contribute more than the poor do in absolute terms, the percentage of income they pay is lower than the percentage of income that the poor pay. Because organizations such as World Bank sometimes recommend that governments use local co-financing of public-works projects, that means some programs intended to help curb poverty may actually place a larger relative tax burden on the poor.

"For aid groups, it's useful to know what the distributional implications will be, and compare that to other financing mechanisms," Olken says. "I hope that people will start thinking about these implications."...

Researchers have been aware that such practices existed; in Indonesia, these informal systems are called gotong royang, and in Kenya they are called harambee. But while the existing data Olken and Singhal used, such as the World Bank surveys, contain information about local life, that information had not previously been pieced together to create a picture of local taxation practices.

"We're not the first people to have noticed this phenomenon, but I think this is the first paper to treat it like a tax issue," Olken says. ...

Give me your money or your labor

Among the quirks of informal taxation in the developing world, Olken notes, is that "it's not formally enforced through the legal system." And yet, the size of people's contributions is not quite voluntary. About 84 percent of households in the survey data report that their levels of taxation are assigned by village or neighborhood leaders.

In many places, those payments can be made either by cash, or by contributing labor to the public-works projects. "The poorer people tend to contribute more in kind, and the richer people tend to do more in cash," Olken says.

As Olken notes, that option — paying by labor or cash — constitutes what economists call an "optimal screening mechanism," which adds to the knowledge local leaders have about their neighbors. "This kind of device, letting people do either in cash or in kind, can be a way of getting people … to reveal some information about themselves that you might otherwise not know."

Luttmer hopes future research will help scholars further understand how citizens make these kinds of decisions. ...