Trade policy reform should be designed in such a way that it takes care of the impact on macro-economic policies, focuses on broad-based reform measures and avoids negative effect on fiscal revenue. Also, removal of non-tariff barriers (NTBs), rationalisation of tariff structure, reduction in dispersion rate and elimination of tariff exemptions, trade-related subsidies and state trading monopolies are the areas that need attention. Tariff rate reduction in combination with other trade reform measures would increase revenue provided discretionary reductions and exemptions are not entertained. If revenue structure reflec-ts excessive dependence on trade taxes, the option of tariff rate reduction may not be advisable without alternate measures in place.

The impact on revenue through reductions in tariff rates depends on the structure of tax regime, the price elasticity of demand, volatility of exchange rate, geo-political situation and level of tariff. If a country has adopted broad-based tax like VAT reduction, the tariff rate will increase fiscal revenue bringing maximum transactions under the tax net. Similarly, if the price elasticity of demand is higher, fiscal revenue is bound to increase. Moreover, if the price elasticity is low and import remains stagnant the revenue will fall.

NTBs consisting of quotas, subsidies, export/import licensing, etc., restrict free flow of trade and investment, encourages rent-seeking behaviour and smuggling, which in turn promote inefficiency, discourage optimal use of resources and increase the cost to the economy. The trade reform agenda should remove NTBs first. Conversion of NTBs into tariff will increase revenue and discourage rent-seeking behaviour contributing to improved fiscal position. Discretionary tariff reduction will create distortions reducing revenue and creating instability. Trade-related subsidies and discretionary tariff exemption encourage the bus-iness community to demand more incenti-ves and exemptions through malpractices, resulting in revenue loss and corruption.

Rationalisation of tariff structure, reduction in tariff dispersion rate, improvement in customs valuation and modernisation increase trade and reduce the cost of compliance and smuggling, resulting in additional revenue. Defending overvaluation will also force devaluation at the cost of export and fiscal revenue. Thus, it is preferable to keep currency at a devalued stage up to a certain level voluntarily. In the absence of real exchange rate, the phenomenon of over-invoicing and under-invoicing is likely to exist, if the tariff regime is high and export subsidies prevail. Although elimination of export taxes have positive impact on growth, enhancing competitiveness externally and supporting farmers and producers domestically, in some circumstances where export tax is considered as a substitute of income tax, however, needs a comprehensive outlook for tax reform package.

Nepal’s trade liberalisation effort, initiated since the early 1990s, mainly includes elimination of quantitative restriction and import licensing, restructuring and reduction of tariff and full convertibility in current account. These measures contributed to export growth and manufacturing output resulting in increase in investment, employment and reduction in poverty. Nepal’s dependence on trade taxes is still higher comprising 24 per cent of tax revenue. Import tariff fell substantially from average tariff rate of 40 per cent in 1990 to 9 or 10 per cent in 2005. The tariff band rate falls into five levels up to 40 per cent with exception of 80 per cent or more in few products and needs further reduction and demand elimination of exemptions awarded on various grounds. The cascading tariff rate structure applied by Nepal is backed by strong arguments in its favour, i.e. exploitation of monopoly position, protection of industry, increased revenue and support balance of payments have created a scenario of ‘tariff escalation’ that discourage efficiency in resource use and intermediate productions.

Reduction in tariff rate only may not be the solution for enhancement of trade and investment unless subsequent trade reform measures, macro-economic and sectoral policies and institutions are kept in order. Time has come to think about ‘uniform tariff’ not at once but to begin with sequencing the step and directing the policy instrument towards it. Lowering maximum tariff and dispersion rate, eliminating exemptions, disclosing timeframe to bring down the tariff band rate on two levels and ultimately moving towards uniform tariff within a specific period are some steps that need immediate attention. These measures will ensure transparency, predictability and good governance, enhancing confidence of the private sector. The immediate concern of revenue shortfall can be addressed through the elimination of tariff exemption, introduction of property tax, controlling leakage in excise and broadening the base of VAT.

Acharya is former finance secretary