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Russian Federation Country Study. A Public Finance Perspective

the amount of the present minimum wage. Additionally, working mothers

receive a maternity allowance, over the span of 126 days, which is

equivalent to her entire salary. When this time has elapsed, the mother can

receive a payments that equals the minimum wage for up to a year and half.

The expenditure responsibility for family benefits, which generally are

divided into the following broad categories: payment made to all families

with children without regard to income or prerequisites, cash transfers to

disadvantaged families, and payments made to working mothers, is unequally

shared among all three levels of government. Although the national level

contributes, it mandates the levels of benefits while often leaving it to

the sub-national governments to finance the increase.

Unemployment in the region in a relatively new phenomena due to the general

nature of the Soviet system. The Employment Fund was created in 1992 to pay

unemployment benefits to those affected by the transition to a market

economy. Contribution to the fund comes from a mandatory two percent

payroll deduction and budget transfers. Revenue collected from the payroll

tax is shared between the raion and oblast governments on a 45 percent to

55 percent ratio. The former then remits 10 percent to the center for

federal responsibilities. Benefits, from Western perspective, are

considered generous. Individuals just entering the work force receive the

minimum wage. Workers who have been laid of receive in the first three

months receive a cash benefit equal to 75 percent of their previous salary.

The benefits level drops to 60 percent for the following six months and 45

percent for the remainder of the year.

The Fund for Social Support ( FFS) is a limited national source for sub-

national funding of social programs. In 1992, the FFS accounted for only

.01 percent of GDP. The stated purpose of this fund is to aid rayons that

have been particularly hard hit in the transition from a command economy.

The FFS began operations in 1992 with revenue from seized Party assets and

tax from re-appraised inventories. It is also supposed to receive revenue

form the privatization process (although it did not receive the ten percent

assigned in 1992) and "receipts from the revaluation of commodities in

state stores and ruble receipts from sale of food aid."

Although inflation increases revenue to the Russian government, it

naturally impoverishes the population when adjustments are not made (or

insufficient to deal adequately with inflation) to monetary benefits such

as the minimum wage and pensions which provides the basis for the social

safety net. Inflation was one of the primary causes of poverty in Russia.

As chart A5 shows, social subsidies and transfers have also been

ineffective because they do not reach the truly needy. The primary reason

for this economic waste is the lack of means based testing.

The problem of hyper-inflation which had plagued Russia earlier in the

transition period has been replaced" by the dramatic reduction in real

wages and severe dilemma of arrears. By December 1995, real wages declined

by 13 percent and real consumption declined by 5.3 percent. Real wage

decline, and unexpectedly low levels of unemployment, can be attributed to

evasion of excess wage tax and inside the gate employment" by which

enterprise managers hoard labor by paying minimum wage and compensation

workers in non-taxable manners such as payment in kind, low interest long-

term loans that have questionable repayment terms. It should be noted that

the Pension Fund is becoming more experienced in detecting methods of tax

avoidance and recent action has been taken to close loopholes

Reduced inflation has given way to arrears as one of the primary causes of

poverty in the Russian Federation and has primarily been the result of

international pressure to reduce the budget deficit by ending emission

based methods of covering the deficit" and tax avoidance and evasion.

According to ITAR-TASS, pensioner were owed nearly 3 billion dollars in

October 1996. Revealing the revenue gap, 22 regions were able to make

pension payments while the remaining 69 needed transfers from the federal

fund. Wage arrears for both private and public sector were estimated at 43

trillion rubles--9 billion of which was the state's responsibility.

An area of concern which was not addressed in 1992 and continues to be a

problem today is a rapidly deteriorating income distribution between the

regions of the Russian Federation. The disparities between the rich and

poor regions could possibly be the worst amongst all the federations.

CONCLUSION AND SUGGESTION

One of the greatest obstacles to successful Russian market economic

development is the absence of a modern and effective tax system and lack of

reliable data. Foreign capital always seeks predictability, especially in

terms of projecting tax liabilities. Lack of a stable tax regime is the

number one reason why Russia's direct foreign investment dollar level is so

low compared with other emerging markets. A frequent and common concern

expressed by foreign companies is the fear (whether real or perceived) of

an unstable, inequitable, unreliable, and unpredictable tax system in

Russia. As a result, capital that could potentially be invested in Russia

is instead invested in other countries that are perceived as enjoying more

stable tax systems. For Russia, it is time to introduce tax breaks or other

incentives by the end of the year for companies using international

accounting methods as part of a new business reform plan. For example,

companies which would follow these (international accounting) standards

will have their profit tax lowered by, say, five percent... or maybe they

will receive other privileges. Most Russian companies use domestic

accounting practices developed to calculate tax levels. Western accountants

say Russian accounting has limited use for business planning and

investment. Below, we have stated some suggestion and concerns regarding

public finance in transitional economies:

Before making any changes in the tax system the officials have to think

very carefully to avoid unplanned changes. For instance, the law on the VAT

has been changed 13 times since it was enacted. Proper tax reform would

also solve another of Russia's problems--its chronic budget deficit. The

country's inadequate system of tax revenue collection has been unable to

keep pace with the rise in government expenditure, leading to a budget

deficit of 6.3 per cent of GDP in the first half of this year. According to

Mr. Stuart Brown, eastern Europe economist at Paribas Capital Markets,

while fiscal policy has been lax in Russia, monetary policy has had to bear

the burden of reducing inflation. The result has been high real interest

rates. No wonder then that several leading companies are looking abroad for

capital. Reducing the budget deficit, to reduce "crowding out" at home and

allow fiscal policy to take some of the burden in controlling inflation,

must therefore be a priority for the Russian government. The problem is

that tax evasion and a culture of non-payment in Russian industry, will

hamper efforts to improve revenue collection.

Regulate the movement of budget money by reorganize the Russian treasury

and concentrate all budgetary financial flows within it.

A good approach to battling non-compliance would be the implementation of a

unified computer information system to control revenues and expenditures of

the federal budget and state extra-budgetary funds, which should contain

taxpayers registration system and bring together information on tax and

customs duties payments, banking transactions and cash disbursements, as

well as data on tracing and utilization of the federal budget resources.

But it is still difficult to implement. First, Russia does not have high

qualified specialists in database and management information systems (MIS).

Second, it will require buying expensive mainframe computers what is

critical under collected (60 percent - percent) revenue. It is also

important to decide what kind of tax information is going to be the first

to be put in the database. The State Tax Service of the Russian Federation

recently began this process by requiring all taxpayers to indicate a

personal taxpayer identification number (PTIN) on payments and settlement

documents for taxes and other levies beginning on August 1, 1995. The rule

as of January 1, 1996, states that a PTIN should be included on all payment

and settlement documents. Also Russia's State Taxation Service is

redoubling its efforts to stop commercial banks from hiding income from tax

authorities. The taxation service recently found that credit institutions

failed to transfer 3 trillion rubles to the state on time, and that they

have used legal means to hide their income. With the centralized computer

tax information system, it would be easier to observe taxpayers and prevent

tax evasion.

Reduce the cost of servicing the state debt.

Stop the emission of money.

Improve control over monopolies.

Reorganize the banking system. Set up a federal deposit of insurance bond.

Reform ministry of finance and economy.

Diversification of the tax base.

Some services should be financed by taxes levied on local beneficiaries.

"Local taxes" are those over which local authorities have some control.

Which taxes to assign? The question is not easy for Russia. In many market

economies, the central government controls those taxes considered to be

most redistributive, such as personal income taxes, and the cyclical

corporate income tax, leaving more stable revenue sources levied on a

consumption base or property to the local level. For example, some federal

systems (the U.S., Switzerland, Canada) allow subnational corporate taxes,

it would be better for the federal government to set the corporate income

tax. For the transition economies, considerations of both administrative

complexity and allocative efficiency suggest that subnationally levied

corporate taxes should be avoided at the present time. Permitting the many

small subnational governments in the transition economies to set corporate

tax rates (or adjust the tax base) will allow substantial tax competition

and differentiation in enterprise taxation, influencing enterprise location

decisions in perhaps undesirable directions.

.The development of a more efficient and effective social safety net in

perhaps the most immediate and difficult task to accomplish in the Russian

Federation. Aside from cultural reasons outlined earlier, economic growth

cannot occur without social stability which will not happen until Russia

can design an effective system of coverage. Some possible ways to improve

this critical area are: diversify the tax base for social programs,

redesign the system of federal-sub-national relation which has made the

latter bear an unjust amount of the burden--unfair because of regional

differences and compounded by Soviet planning--, and make stronger attempts

to reduce arrears which is a difficult task due to the temptation to return

to emission-based methods of covering expenditure requirements.

APPENDIX

| | | | | | |

| |1961-70 |1971-75 |1976-80 |1981-85 |1986-90 |

|1. Net material |6.4 |5.1 |3.9 |3.1 |4.1 |

|2. Gross national |5.1 |3.7 |2.1 |1.9 |C |

|3. Gross fixed |6.9 |6.8 |3.5 |3.5 |4.9 |

|4. Industrial |8.5 |7.4 |4.4 |3.7 |4.6 |

|5. Industrial |6.6 |5.9 |2.4 |2.0 |C |

|6. Agricultural |C |2.5 |1.8 |1.0 |2.7 |

|7. Agricultural |C |1.4 |0.4 |(-)0.6 |C |

|8. Real income per|6.5 |4.3 |3.4 |2.1 |2.7 |

|9. Consumption per|3.8 |2.9 |2.0 |1.9 |C |

| | | | | | |

|(1982), CIA (1985,| | | | | |

|(1982). For | | | | | |

|1981-1985, and | | | | | |

|1992 p. 37 | | | | | |

|1976-85. | | | | | |

| | | | | | |

| | | | | | | |

|1961-85 | | | | | | |

| |USSR |US |FRG |France |Italy |UK |

|1961-65 |4.8 |4.6 |4.8 |5.8 |5.2 |3.2 |

|1966-70 |5.1 |3.2 |4.2 |5.4 |6.2 |2.5 |

|1971-75 |3 |2.2 |2.1 |4 |2.4 |2.2 |

|1976-80 |2.3 |3.4 |3.3 |3.3 |3.8 |1.6 |

|1981-85 |1.9 |2.4 |1.3 |1.1 |0.9 |1.9 |

|GNP | | | | | | |

|d in 1982| | | | | | |

|GNP | | | | | | |

|1980 | | | | | | |

|(1987, p.| | | | | | |

|12) | | | | | | |

|in | | | | | | |

|" v. 21 | | | | | | |

|p. 78 | | | | | | |

| | | | | | | |

|1985-1990 | | | | | | |

|Type of |1985 |1986 |1987 |1988 |1989 |1990 |

|In billions of |386.5 |417.1 |430.9 |459.5 |482.6 |488.2 |

| | | | | | | |

|Consumer |58.0 |65.6 |69.8 |89.8 |100.7 |110.5 |

|Food subsidies |56.0 |58.0 |64.9 |66.0 |87.7 |95.7 |

|Social insurance|83.6 |89.3 |94.5 |102.5 |105.5 |117.2 |

|As percent of |7.5 |8.2 |8.5 |10.3 |10.9 |11.6 |

|Social insurance|10.7 |11.2 |11.5 |11.7 |11.4 |12.3 |

| | | | | | | |

|40, nos. 1-2, | | | | | | |

|p. 25 | | | | | | |

| | | | | | | |

|in | | | | | | |

|the | | | | | | |

|Transfer |% |Avg % of |% |Avg. % of |% |Avg. % of |

|Family |288.8 |23.6 |32.4 |14.5 |25.7 |5.9 |

|Pensions |0.3 |75 |41 |66.9 |48.7 |58.4 |

|Unemployme|0.8 |21.7 |0.4 |17.8 |0.3 |9.8 |

|Subsidies |100.4 |9.6 |10.4 |9.6 |14.5 |8.1 |

|s | | | | | | |

|Subsidies |55 |9.4 |8.7 |10.8 |17.7 |11.7 |

|s | | | | | | |

|Scholarshi|50.2 |17.8 |6.2 |18.2 |6.7 |8.7 |

|ps | | | | | | |

|All |666.8 |58.5 |70.9 |48.4 |74.4 |42.6 |

| | | | | | | |

|*All | | | | | | |

|are | | | | | | |

|the | | | | | | |

|the | | | | | | |

|be | | | | | | |

|1993- | | | | | | |

|1994. | | | | | | |

A6 List of Goods in Everyday Demand and Services to the Population which

are Exempt from the Sales Tax

Children's food, meat, meat products (except delicatessen products), milk

and milk products, margarine, fats, bakery products, flour, pasta products,

eggs, tea, sugar, salt, vegetables (cabbage, carrots, beet, onions,

potatoes),fish and fish products, vegetable oil, mineral water, children's

items, textbooks for general education schools, specialist educational and

medical equipment and medical supplies;

Children's items, including clothing, footwear, furniture, bed-linen,

school uniform, toys and sports items; Consumer goods on lists approved by

the councils of ministers of the republics within the USSR, kray soviet

executive committees, oblast soviet executive committees, Moscow and

Leningrad city soviet executive committees and executive committees of

autonomous oblast and autonomous okrug soviets of people's deputies;

A7 USSR: SALES TAX DECREE Full text of instruction issued by USSR Ministry

of Finance and dated February 11, 1991 ). The provisions include some of

the following:

1. Liability extends to joint ventures and Soviet organizations engaged

in importing;

2. Joint ventures will pay tax on hard currency sales in rubles,

converted at the prevailing commercial rate of exchange fixed by USSR

Gosbank;

3. Liability extends over a wide range of supply, including professional,

informational, communication, etc. services;

4. The tax rate is 5%;

5. Tax exemption applies to sales of precious metals, coal shale, export

services, trade between parts of a constituted enterprise.

SOURCE: EKONOMIKA I ZHIZN February 23, 199. P19

A8 Taxable income received in calendar year. Source: Tax 96 TNI 4-1

(Foreign Taxation) (Doc 96-947)

less than 12 million Rubles 12 % from 12 million Rubles 1, 44 million

Rubles +to 24 million Rubles 20 % of the sum exceeding 12 million Rubles

from 24 million Rubles 3.84 million Rubles to 36 million Rbls, 25 percent

of the sum exceeding 24 million Rubles above 48 million Rubles 10.44

million Rubles + 35 percent of the sum exceeding 48 million Rubles

1. Isaak I. Dore , 1995 Distribution of Governmental Power Under the

Constitution of Russia" in Parker School Journal of Eastern European

Law" v. 2 p. 675

2. ibid p. 681

3. ibid p. 865

4. ibid p. 691

5. ibid p. 678

6. ibid p. 688

7. With the current political situation we can say that the budget as a

whole, without doubt, will not pass the Duma by the end of the year.

8. The Moscow Times May 21, 1996. p. 54.

9. World Paper. September, 1996 p. 33

10. TNI 73-22, 1996

11. TNI 22/16, 1992, John Turro

12. Joint Letter No VG-4-12/25N of June 16, 1995

13. Doc 96-947

14. Much of the literature on tax assignment argues that the personal

income tax(PIT), generally one of the more important taxes in revenue

terms, should be retained by the central government, largely for

redistributional and stabilization reasons. Nevertheless, the central

government may give local governments a share in the PIT.

15. Tax Analysts, Tax Notes International. January 25, 1993

16. NOVECONCOMMERSANT. July 28, 1994. p. 2

17. In Russia, this tax is mostly levied at a national level because of

the administrative convenience, these taxes have been levied at the

producer level, not the retail level; and in the transition economy

context this often translates into a tax on a few manufacturers as in

Russia, for example, there are cigarette factories in only 21 of its

2000 "raions" (Comparative Economic Studies Winter 1994, Vol. 36, No.

4), or sometimes on the single monopoly producer. Thus, only a few

producing districts would benefit from levying these taxes and

revenues from them would accrue to only a few localities

18. Tax Analysts, Tax Notes International. January 25, 1993

19. Tax Analysts, Tax Notes International. January 25, 1993

20. Tax Analysts, Tax Notes International.January 25, 1993

21. The British Broadcasting Corporation March 15, 1991

22. Scot Antel. The Moscow Times. May 21, 1996

23. Though temporary steps were made like creating special colleges that

are attached to courts of arbitration, we suppose that creating a

special tax courts is essential here

24. Of course, taxes existed but people could not evade them as they were

centralized and in theory all means of production were owned by the

state.

25. Washington Post. October 12, 1996. p. A25

26. But we are afraid that this provision will not benefit the economy

27. Betsy McKay. The Wall Street Journal.October 29, 1996. p. A12

28. Comment & Analysis; Statistics; Forecast; November 1996 p. 2

29. Information Services Quest Economics Database Credit Suisse Financial

Forecast, 1996

30. Reuter Textline Reinsurance, October 31, 1996

31. In our opinion, inflation will come down further in 1997, to

approximately 15 percent. Also, Russia continues to fail in its

economic performance of it fiscal and monetary policy within the

framework established by the International Monetary Fund.

32. The Moscow Times. March 27, 1996

33. Dmitry Falcovich, head of the macroeconomic department with Alliance-

Menatep

34. Russian Federation: Toward Medium-Term Viability. 1996. IBRD/World

Bank p.39

35. Fiscal Management in Russia. 1996. IBRD p. 39

36. Fiscal Management in Russia. p. 22

37. John E. Elliot and A.F. Dowla. Gorbachev, Perestroika and

Democratizing Socialism" in International Journal of Social Economics"

v. 21 p. 78

38. Linda J. Cook. 1995 The Soviet Social Contract and Why It Failed."

Harvard University Press: Cambridge p.2 Cook suggests the following as

empirical evidence: 1. That the Soviet regime consistently deliver to

workers economic security and social welfare; 2. That the regime

deliver these policy goods because it is constrained by it perception

of workers' expectations or its fear of labor discontent if it fails

to deliver them; [and] 3. that workers give in exchange political

compliance and quiescence. p. 5

39. Vladmir Mau. 1996 The Political History of Economic Reform in Russia,

1985-1994. Center for Research into Communist Economies p. 59

40. John Dunlop. 1993. The Rise of Russia and the Collapse of the Soviet

Empire. Princeton University Press: Princeton. p. 267

41. Cook p.141

42. ibid p.187

43. Thomas A. Mroz and Barry M. Popkin. 1995. Poverty and Economic

Transition in the Russian Federation" in Economic Development and

Cultural Change . V 44 p.3

44. ibid p.4

45. ibid p. 4

46. Russia: Social Protection During Transition and Beyond International

Bank For Reconstruction and Development Report No. 11748-RU. p. 23

47. Vladimir Mikhalev Social Security in Russia under Economic

Transformation" in Europe-Asia Studies v. 48 n.1 (note: As this source

came from an electronic medium, I have omitted page numbers--DL)

48. ibid

49. IBRD Report No. 11748-Ru. p. 35

50. ibid p. 11

51. EBRD p. 40

52. ibid

53. BISNIS Country Report

54. OMRI November 31, 1996

55. OMRI October 4, 1996

56. Financial Times. September 23, 1996

57. Of course, it is possible to lower administrative costs and improve

overall efficiency in the tax system by going to a more computerized

system but resistance to change due to unquestionable job loss is

quite evident in the Russian government.

58. Komsomol'skaya Pravda. Sept. 24, 1996

The file was preapred by Dmitri Maslitchenko dmitri@mailroom.com

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