Skip to main content
Menu

Main navigation

  • About
    • Annual Reports
    • Leadership
    • Jobs
    • Student Programs
    • Media Information
    • Store
    • Contact
    LOADING...
  • Experts
    • Policy Scholars
    • Adjunct Scholars
    • Fellows
  • Events
    • Upcoming
    • Past
    • Event FAQs
    • Sphere Summit
    LOADING...
  • Publications
    • Studies
    • Commentary
    • Books
    • Reviews and Journals
    • Public Filings
    LOADING...
  • Blog
  • Donate
    • Sponsorship Benefits
    • Ways to Give
    • Planned Giving

Issues

  • Constitution and Law
    • Constitutional Law
    • Criminal Justice
    • Free Speech and Civil Liberties
  • Economics
    • Banking and Finance
    • Monetary Policy
    • Regulation
    • Tax and Budget Policy
  • Politics and Society
    • Education
    • Government and Politics
    • Health Care
    • Poverty and Social Welfare
    • Technology and Privacy
  • International
    • Defense and Foreign Policy
    • Global Freedom
    • Immigration
    • Trade Policy
Live Now

Blog


  • Blog Home
  • RSS

Email Signup

Sign up to have blog posts delivered straight to your inbox!

Topics
  • Banking and Finance
  • Constitutional Law
  • Criminal Justice
  • Defense and Foreign Policy
  • Education
  • Free Speech and Civil Liberties
  • Global Freedom
  • Government and Politics
  • Health Care
  • Immigration
  • Monetary Policy
  • Poverty and Social Welfare
  • Regulation
  • Tax and Budget Policy
  • Technology and Privacy
  • Trade Policy
Archives
  • February 2021
  • January 2021
  • December 2020
  • November 2020
  • October 2020
  • September 2020
  • August 2020
  • July 2020
  • June 2020
  • May 2020
  • April 2020
  • March 2020
  • February 2020
  • January 2020
  • December 2019
  • November 2019
  • October 2019
  • September 2019
  • August 2019
  • July 2019
  • June 2019
  • May 2019
  • April 2019
  • March 2019
  • February 2019
  • January 2019
  • December 2018
  • November 2018
  • October 2018
  • September 2018
  • August 2018
  • July 2018
  • June 2018
  • May 2018
  • April 2018
  • March 2018
  • February 2018
  • January 2018
  • December 2017
  • November 2017
  • October 2017
  • September 2017
  • August 2017
  • July 2017
  • June 2017
  • May 2017
  • April 2017
  • March 2017
  • February 2017
  • January 2017
  • December 2016
  • November 2016
  • October 2016
  • September 2016
  • August 2016
  • July 2016
  • June 2016
  • May 2016
  • April 2016
  • March 2016
  • February 2016
  • January 2016
  • December 2015
  • November 2015
  • October 2015
  • September 2015
  • August 2015
  • July 2015
  • June 2015
  • May 2015
  • April 2015
  • March 2015
  • February 2015
  • January 2015
  • December 2014
  • November 2014
  • October 2014
  • September 2014
  • August 2014
  • July 2014
  • June 2014
  • May 2014
  • April 2014
  • March 2014
  • February 2014
  • January 2014
  • December 2013
  • November 2013
  • October 2013
  • September 2013
  • August 2013
  • July 2013
  • June 2013
  • May 2013
  • April 2013
  • March 2013
  • February 2013
  • January 2013
  • December 2012
  • November 2012
  • October 2012
  • September 2012
  • August 2012
  • July 2012
  • June 2012
  • May 2012
  • April 2012
  • March 2012
  • February 2012
  • January 2012
  • December 2011
  • November 2011
  • October 2011
  • September 2011
  • August 2011
  • July 2011
  • June 2011
  • May 2011
  • April 2011
  • March 2011
  • February 2011
  • January 2011
  • December 2010
  • November 2010
  • October 2010
  • September 2010
  • August 2010
  • July 2010
  • June 2010
  • May 2010
  • April 2010
  • March 2010
  • February 2010
  • January 2010
  • December 2009
  • November 2009
  • October 2009
  • September 2009
  • August 2009
  • July 2009
  • June 2009
  • May 2009
  • April 2009
  • March 2009
  • February 2009
  • January 2009
  • December 2008
  • November 2008
  • October 2008
  • September 2008
  • August 2008
  • July 2008
  • June 2008
  • May 2008
  • April 2008
  • March 2008
  • February 2008
  • January 2008
  • December 2007
  • November 2007
  • October 2007
  • September 2007
  • August 2007
  • July 2007
  • June 2007
  • May 2007
  • April 2007
  • March 2007
  • February 2007
  • January 2007
  • December 2006
  • November 2006
  • October 2006
  • September 2006
  • August 2006
  • July 2006
  • June 2006
  • May 2006
  • April 2006
  • Show More
September 10, 2013 1:25PM

Mexico’s Fiscal Reform: the Good, the Bad, and the Ugly

By Juan Carlos Hidalgo

SHARE

On Sunday, Mexican President Enrique Peña Nieto unveiled a fiscal reform bill that is an important corollary of his energy reform proposal. The legislation’s main goal is to increase the federal government’s tax intake in the face of diminished oil revenues due to the reforms that will let Petróleos de México (Pemex) keep more of its money for investments.

Approximately one third of the government’s revenues comes from oil. The fact that oil production is declining significantly (it dropped 25 percent in the last decade), adds urgency to generating new sources of tax revenue or reducing spending. Mexico’s fiscal deficit last year was 2.6 percent of its GDP, but without oil revenues it would have been close to 8 percent instead.

The good: The bill will simplify Mexico’s complex tax system. In the World Bank’s Doing Business report, Mexico ranks 107th among 185 economies on its ease of paying taxes. It takes an average Mexican businessman 337 hours every year to calculate and pay his taxes, whereas his peers in the mostly developed nations of the OECD have to spend an average 176 hours every year doing their taxes. A complex tax system constitutes a burden on the economy and can also be extremely inefficient since it encourages people to elude and evade taxes (particularly in developing countries with weak institutions). Thus, you can have a country such as Mexico with high tax rates and yet low tax revenues. This is a problem because it can lead to a slippery slope where politicians try to extract more revenue via higher taxes from a dwindling pool of taxpayers.

The current top rate on the personal income tax is 30 percent. The corporate tax rate is also 30 percent. The Value Added Tax (VAT) is 16 percent. And yet Mexico’s tax intake was only 9.7 percent of its GDP in 2012. This is not to say that Mexico should have a higher tax burden, but to point out that there is something wrong with a tax system if it has fairly high tax rates that don’t generate much revenue.

The reform introduced by the government aims to simplify the tax code by closing loopholes, getting rid of inefficient taxes, and eliminating or capping tax deductions. As a result, the income tax law will go from having 299 articles to 186. A tax on bank savings will be scrapped, along with a corporate version of the Alternative Minimum Tax. The bill will eliminate distorting provisions, such as having some border towns paying a lower VAT rate of 11 percent or allowing corporate groups to offset the losses of some of its subsidiaries against the profits of others. This will make the tax code more neutral and reduce the scope for rent seeking by interest groups.

The bad: The bill is a significant tax increase. First, a “fiscal reform” worth its name would tackle both sides of the equation: taxes and spending. In this case, Peña Nieto’s proposal only deals with taxes while forgoing spending cuts. There are many areas where government spending can be cut. One of them is energy subsidies, which include gasoline, electricity, and gas. According to John Scott from CIDE, a think tank, those subsidies amount to 14 percent of GDP from 2006 to 2012. Agricultural subsidies are also high and they tend to benefit the well-off and are easily abused. If the government’s goal was to put its finances in order before reducing its reliance on oil revenues, it should have included spending cuts.

Second, it’s good that the bill aims at simplifying the tax code by getting rid of loopholes, capping and scraping deductions and eliminating distorting special tax rates that benefit certain regions or groups. As I mentioned earlier, that makes the tax code more neutral and diminishes rent seeking by interest groups. It weakens the discretional power of politicians and bureaucrats too. But the bill should also have lower tax rates to stimulate the private sector. It doesn’t. The corporate tax rate will stay at 30 percent but a new top personal income tax rate of 32 percent will be created for people making over $38,000 a year. The VAT will remain at 16 percent but it will cover more products and services, such as private education, concerts, transportation (outside cities), pet food, jewelry, etc. The bill creates a new capital gains tax of 10 percent. It also introduces a carbon tax and flirts with social engineering by creating a tax on sugary drinks aimed at fighting obesity.

Taking more money from the private sector and giving it to the government will hardly help the Mexican economy grow. Let’s keep in mind that Mexico only grew by an average of 2 percent a year in the last decade, one of the lowest rates in Latin America. The fiscal reform bill will increase the burden of those who already pay taxes while doing little to reduce the informal sector where 59 percent of the Mexican labor-force works. According to Doing Business, the total tax rate paid by an average Mexican businessman (as a percentage of his profits) is 52.5 percent while the average in the OECD is 42.7 percent. If the economic research of the last 30 years is any indication, increasing taxes won’t reduce the size of the informal sector.

On a positive note, if Mexicans want big government, the burden of such a system will be more direct and visible. Bloated and wasteful government spending heavily financed by oil revenues is a curse to any economy. Perhaps if Mexicans feel the pinch in their pockets from higher taxes they will have an incentive to demand less government.

The ugly: The fiscal reform will increase the size of government. Instead of simply filling the hole left by lower oil revenues, Peña Nieto already stated that the expected revenue for the reform (1.4 percent of GDP by next year and 3 percent of GDP by 2018) will pay for more social spending including a universal pension for people over 65 years and a new unemployment insurance scheme. If the tax increase will pay for higher spending, then more tax revenue will be needed in the medium term to make up for lower oil revenues.

The bill will probably undergo changes in the legislature. If those amendments undermine the goal of simplifying the tax code, then there will be little, if anything, good in this fiscal reform.   

Related Tags
International Economics, Development & Immigration

Stay Connected to Cato

Sign up for the newsletter to receive periodic updates on Cato research, events, and publications.

View All Newsletters

1000 Massachusetts Ave, NW,
Washington, DC 20001-5403
(202) 842-0200
Contact Us
Privacy

Footer 1

  • About
    • Annual Reports
    • Leadership
    • Jobs
    • Student Programs
    • Media Information
    • Store
    • Contact

Footer 2

  • Experts
    • Policy Scholars
    • Adjunct Scholars
    • Fellows
  • Events
    • Upcoming
    • Past
    • Event FAQs
    • Sphere Summit

Footer 3

  • Publications
    • Books
    • Cato Journal
    • Regulation
    • Cato Policy Report
    • Cato Supreme Court Review
    • Cato’s Letter
    • Human Freedom Index
    • Economic Freedom of the World
    • Cato Handbook for Policymakers

Footer 4

  • Blog
  • Donate
    • Sponsorship Benefits
    • Ways to Give
    • Planned Giving
Also from Cato Institute:
Libertarianism.org
|
Humanprogress.org
|
Downsizinggovernment.org