Page 3 - Working Paper (Tax Policy Options during Economic Downturn)
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DDTC Working Paper 1315

                   1. Introduction
                                                                    create  negative consequences  of  several kinds .
                              The GovernmenT of IndonesIa           First,  a  fiscal  deficit  can  force  more  borrowing,
                            TrIes To allevIaTe The economIc         increasing the debt ratio and reducing productive
                                   downTurn by IncreasInG           investment.  Second,  with  more  bonds  issued  to
                              GovernmenT expendITures (I.e.         cover the fiscal deficit, a crowding out effect will
                          beTTer budGeT absorpTIon, socIal          cramp productive investment by the private sector,
                            proGram, reduce subsIdIes, eTc.)        in turn jeopardizing  economic  growth.  Third,
                                                                    chronic  budgetary  deficit  are  classic  harbingers
                               and provIdInG Tax IncenTIves         of  high  inflation.  Theoritically,  budget  deficit  is
                                                   sTraTeGIes.      reduced  by increasing tax  revenues or  lessen
                                                                    the government expenditures. It  is obvious that
                      Unlike  1997  and  2008  crisis,  today  market   during economic downturn, the right approach is
                   turbulence  in emerging economies  is markedly   to  increase government expenditure rather  than
                   different  from  the  previous  crises.  Developing   increasing taxes. Or in other words, expansive
                   countries  repeatedly blame  global  environment   fiscal policy is more suitable to drive the economiy
                   (e.g. China economic growth slowdown; unresolved   forward. An  increase in government  expenditure
                   problems  at  the  European  Union;  and  possibility   has a  positive impact  on private consumption
                   of an increase in the Fed Fund Rate) as the main   through  several transmission  mechanisms  (e.g.
                   culprits of their  local  currency depreciation and   direct  transfers,  investment  in  labor-incentive
                   economic distress. Previous Asian Financial Crisis   projects, subsidies for fertiizers and food program,
                   (AFC)  was  the  result  of  policy  or  institutional   etc). The sizable increase in nominal consumption
                   problems originated in the emerging market       growth,  in the end, leads a positive contribution
                   countries compared to the Global Financial Crisis   on the government’s  VAT and Personal Income
                   in  2008  started  in  the  developed  economies.   Tax receipts. However, there was a debate on the
                   Specifically for the AFC, macroeconomist identified   effectiveness of fiscal stimulus, given the inability
                   source of the crisis linked to bad macroeconomic   of the central government, as a whole, to execute
                   policy and governance, or weak  institutions  that   the stimulus program and spend money properly.
                   lead to instability, low growth, high inflation, credit   Under  this  circumstances,  several  developing
                   collapse and balance of payments problems .      economies  preferred  to  focus  on providing  tax
                                                                    incentives such income tax cuts and tax holiday.
                      After  1997  AFC,  Indonesia  has  attempted  to
                   strengthen  and  develop  its  monetary  and  fiscal   As described above, this paper aims to identify
                   policies.  Bank  of  Indonesia  adopted  inflation   fiscal  tools  and  mechanics,  especially  related  to
                   targeting with the band of 4.5 percent + 1 percent.   tax  strategies, typically used by the authority to
                   In  addition,  fiscal  policy  also  becomes  more   counter cyclically economic slowdown. The rest of
                   prudent where it prohibits the fiscal deficit from   the paper describes as follow: Section 2 provides
                   exceeding 3 percent of GDP in a single fiscal year.   cross-country revenue collection strategies during
                   Indonesia  also  regulates  that  its  debt-to-GDP   economic  crisis.  Section  3  describes  Indonesia
                   ratio  should  not  exceed  60  percent.    Moreover,   current and future economic  outlook  as well  as
                   Government  of  Indonesia  (GoI)  is  continuously   identifies  fiscal  policies  recipes  during  economic
                   revamping  the taxation systems by considering   downturn. And, Section 4 concludes and provides
                   changes in economic structure and bureaucracy    policy recommendations.
                   reform. Stability of price level and steady economic
                   growth is the ultimate long-term sustainable goals.
                   However, unstructured monetary policy such as for
                   example overly strict monetary policy can squeeze
                   economic  growth  and increase unemployment
                   numbers.    Meanwhile,   unmeasured    fiscal
                   policy  expansion  can  lead  to  budgetary  deficits
                   endangering macroeconomic stability.

                      During  previous  economic  crises,  emerging
                   countries  faced  with  budget  and  trade  deficit
                   as  well  as  excessive  government  debt.  Chronic
                   fiscal  deficits  and  excessive  government  debt

                                                                    2.  Trachlet,  Virginia (2004),”Monetary  and Fiscal Policies in Canada:
                   1. AFC was classified by international monetary and finance economists   Some Interesting  Principles  for EMU?” Working  Paper 28, Bank of
                   as the first generation crisis where the source of  the crisis is bad   Canada.
                   fundamental domestic economy due to mis-management of  fiscal and
                   monetary policies.
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