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In the modern economy, it is common for government budgets to exist in a state of deficit. However, it is unsustainable over long-term and can have adverse outcomes for developing countries without a proper fiscal structure in place. This report will seek to investigate the causes of an excessive budget deficit in the African country of Tanzania.
When presenting the government budget for 2018-2019 fiscal year, the Finance and Planning Minister Dr. Philip Mpango stated that the deficit has dropped to as low as 3.8% of the GDP, which is significantly lower 4.5% a year earlier. However, private analysts from Fitch Ratings suggest that Tanzania’s budget deficit will exceed 5.3% in 2018. This is more than a $2.2 billion deficit due to rising imports consisting of capital goods and service required to supply infrastructure development. The import will outweigh the successful growth of exports in terms of harvests and gold that the country is experiencing (Karega, 2018). Despite Tanzania’s economy growing stably over the last several years, a number of factors are causing significant deficits in its fiscal budget.
Spending and Inflation
One of the primary causes of the excessive budget deficit is the fiscal policy that the Tanzanian government has pursued for the last two decades. The country has actively pursued an expansionary fiscal approach which seeks to increase the government spending in order to fund programs and infrastructure development. It leads to excessive borrowing, as the Tanzanian government has to borrow in excess of 10 trillion shillings to finance its 31.71 trillion shillings plan to increase spending (Ng’wanakilala, 2018). While the expenditure is aimed towards supporting profitable industries and curb corruption, the effects of such reform are long-term. Up to date, the investments have not proved to be viable to reduce the deficit. Meanwhile, excessive borrowing leads to macroeconomic instability and hyperinflation. The country has an underdeveloped capital market which contributes to the issue.
Tanzania has maintained a high-inflation rate for decades which was created by poor fiscal management and budget deficits. However, there is an inherent two-way connection between the budget deficit and inflation. This is known as the Olivera-Tanzi effect. Budget deficit impacts money supply and creates inflationary pressure. However, inflation eventually beings to push up the budget deficit as well by creating lags in tax collection. The accrual of tax obligations and time of actual payment do not actually coincide. As a result of inflation, the real tax burden is reduced significantly since money is no longer worth as much during collection as it was during accrual. The government experiences lower than expected tax revenues which further increases the budget deficit and contributes to inflation. It becomes a self-strengthening economic phenomenon (Solomon & de Wet, 2004).
One aspect that is closely interconnected with the budget deficit is the country’s trade deficit. Trade directly impacts government revenues, currency value, as well as the budget deficit necessary to maintain a specific level of output. In the last five years, Tanzania has experienced a negative trade balance. The trade deficit has continued to increase due to declining exports. Furthermore, declining prices of gold and oil have contributed to a lack of sufficient revenue from these traditional national exports. Tanzania’s exports are often unprocessed which makes them low-value-added as they are susceptible to fluctuations on global commodity market that the country cannot impact in any way. Economists suggest that declining exports lead to volatility in exchange rates and unmet targets for foreign reserves (Nyanje, 2016). These aspects greatly contribute to the budget deficit as they tie in directly with the government revenue.
Each country maintains some level of the shadow economy. It consists of mostly criminal activity dealing in drugs, smuggling, human trafficking, gambling, and other illegal enterprises. A subdivision of the shadow economy, also known as the parallel economy, consists of legal transactions that avoid taxes and are conducted in cash. Tanzania’s shadow economy has grown by 5% in almost two decades leading up to 2013. The tax evasion has reached an unprecedented level exceeding $600 million (Nhavira, 2016). The shadow economy and other informal dealings have been estimated to grow at a rate higher than the formal economy. As a result, it contributes to the fiscal deficit in the government budget. This occurs since the government spending benefits the general economy as a whole, including shadow sectors. However, tax revenues are only received from the formal segments. Considering that the shadow sector is proliferating and makes up such a significant portion of the Tanzanian economy, the government is missing out on tremendous amounts of potential tax revenue, contributing to the deficit.
Tanzania is a significantly underdeveloped African country that is experiencing excessive budget deficits. Despite the growth of exports and the economy, the government is failing to collect the necessary revenue to reduce the deficit. Various factors impact this, including improper fiscal policy management in the last decades which lead to tremendous spending and inflation. Furthermore, such difficult to control aspects such as corruption and the shadow economy contribute to the situation. Tanzania should continue its national development projects to continue increasing revenue but requires a comprehensive overhaul of its fiscal policy.
Karega, V. (2018). Tanzania’s current account deficit to widen. The East African. Web.
Ng’wanakilala, F. (2017). Update 1-Tanzania expects to spend more in 2017/18, crack down on tax evasion. Reuters. Web.
Nhavira, J. D. (2016). Measuring the shadow economy in Tanzania. The Science Probe, 4(1), 41-53. Web.
Nyanje, P. (2016). Tanzania trade deficit widens in 5 years: Report. The Citizen. Web.
Solomon, M., & de Wet, W. A. (2004). The effect of a budge deficit on inflation: The case of Tanzania. South African Journal of Economic and Management Sciences, 7(1), 100-115. Web.