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Reforming Customs and ending 'corruption finance'

In a recent study by the AIM Policy Center, we attempt to disentangle revenues from leakages in the BOC to shed light on proper benchmarks for reform success. We demonstrate how revenues can be rising while corruption and leakages persist.

Based on our estimates, historically, up to 40 centavos for every 1 peso of tax revenue is siphoned by corruption in the BOC. We offer an alternative way to measure progress in customs reform.

Estimating leakages

Historically, BOC collections rose from about PHP 26.2 billion (about $59 million) in 1987 to about PHP 304.9 billion (about $6.9 billion) in 2013, mostly on the back of higher value-added tax collections (and even as tariff revenues declined). However, BOC revenues expressed as a share of total government revenues are somewhere in the range of roughly 20% in the past decade, compared to a previous high of about 30% in the 1990s. At first blush, this might suggest that the importance of the BOC as a revenue agency has been declining over the years. 

Revenue targets are typically set by the Department of Finance, and these may or may not reflect the true revenue potential of the BOC. Examining actual trade statistics – and, in particular, possible trade misinvoicing – could provide a more useful benchmark of both potential revenue performance and the leakages in revenues.

Typically, “technical smuggling” results in undervalued import declaratoins (resulting in import data that is much lower than what the export data from other countries would suggest). Hence, we can use the amount of misinvoiced trade – the difference between what our trading partners say they exported to us and what our authorities say we imported from them – as a rough benchmark of what we could have taxed. The result is the estimated “leakage” due to technical smuggling.

An existing study by Kar and LeBlanc (2014) found that in 1990, the gap between potential and actual customs revenues due to misinvoicing was about P5 billion (using the exchange rates prevailing then). By 2011, the revenue gap ratcheted upwards to P167 billion. For completeness, we applied the same methodology and estiated a revenue gap of P195 billion in 2012 and P189 billion in 2013. 

As Figure 1 illustrates, leakages have become much larger over time, despite continued increases in customs revenues.

Look beyond revenues

So, let us just repeat this again – you can have a lot of corruption taking place even as the BOC rakes in higher revenues! And this is why our message to media and the general public is that you should not just look at revenues as the sole benchmark for a well-functioning Bureau of Customs.

How can this be the case? Customs revenues crucially depend on the amount of trade that goes through for processing. Increased trade, even with diminished tax rates on tradables, could still potentially generate higher revenues over time. 

Figure 1. An Illustration of the Growing Gap Between Actual Total Revenue and Potential Total Revenue

Note: PHP = Philippine peso. Tax revenue losses from trade misinvoicing were originally quoted in United States dollars, so average annual exchange rates were obtained from the Bangko Sentral ng Pilipinas (BSP). Total tax revenue loss + actual total tax revenues = potential total tax revenues.

Source: AIM Policy Center calculations using data from Kar and LeBlanc (2014), BTr, DBM, and BSP.

To put things in context, had there been no leakages from 2010 to 2012, the share of the BOC in total government revenues would have easily matched the 30-percent peak achieved during the 1990s.

Put simply, as a revenue agency, if there were no leakages, Customs would still be as important as it was over two decades ago during the peak of economic liberalization.

Just how important was the size of the leakages in Customs?

Lost revenues from technical smuggling are roughly equivalent to half of the Department of Education budget, and well over twice the size of the budget for the government’s flagship anti-poverty program, the Pantawid Pamilyang Pilipino Program or 4Ps.

In short, the corrupt in Customs are taking school buildings from our children, as well as farm-to-market-roads from our farmers (See Figure 2). Instead of strengthening the provision of public goods and services, this money has been siphoned off and is likely part of “corruption finance” (for lack of a better term)—that is, the money that could be used to further propagate corruption and rent-seeking opportunities in other parts of the economy and our political system. 

Ending 'corruption finance'

Perhaps a new benchmark for performance that goes beyond revenues should focus also on the amount of “corruption finance” that could be reduced (if not eliminated) in the BOC.

If we use this as an indicator, most of the regimes in the BOC – with the exception of the Commissioners in the 1990s and in the early 2000s – experienced increasing revenues AND increasing leakages. As the evidence suggests, at its worst, this “corruption finance” amounted to 40 centavos out of every 1 Peso in potential collections (See Figure 3).

Ending the “corruption finance” propagated through tax leakages in the BOC could easily boost tax revenues for the government in the order of PHP 190 billion per annum.

Even if this declines over time due to the further lowering of tariffs on the margin, the amount for the next 5 to 10 years or so could still help finance a considerable number of public goods, and provide the common taxpaying public – those of us who do the right thing as citizens – the fairness which we have been clamoring. - Rappler.com

Figure 2. Revenue Loss from Trade Misinvoicing Juxtaposed Against 2015 Public Spending

Note: PHP = Philippine peso. Tax revenue losses from trade misinvoicing were originally quoted in United States dollars, so average annual exchange rates were obtained from the BSP.

Source: AIM Policy Center calculations using data from Kar and LeBlanc (2014), BTr, DBM, and BSP.

Figure 3. Revenue Loss from Trade Misinvoicing (in % of actual total BOC revenues)

Note: Tax revenue losses from trade misinvoicing were originally quoted in United States dollars, so average annual exchange rates were obtained from the BSP.

Source: AIM Policy Center calculations using data from Kar and LeBlanc (2014), BTr, DBM, and BSP.

 

(Fr Alejo is the Convenor of the Ehem! anti-corruption initiative, Jess Lorenzo is a member of the Board of Trustees of Kaya Natin, and Ron Mendoza is Executive Director of the AIM Policy Center. All three are members of the Citizens’ Customs Action Network (CITIZSCAN). This article draws on  a recent study by the AIM Policy Center, “Recasting the Bureau of Customs as a Developmental Agency” (Available at SSRN: http://ssrn.com/abstract=2492897).