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The Moscow News, January 23, 2004

Minus Interest, Plus Roubles.
Taxes come down, but prices go up. Why?

By Boris Vishnevsky

Incredibly, taxpayers and legislators wholeheartedly believe that scrapping the sales tax will make life easier for customers.

A Trap for Credulous People

The story surrounding the abolition of the sales tax is the brightest example of the surprising credulity of both Russian taxpayers and Russian legislators.

Anyone who toured the shops after New Years Day must have noticed price rises, small for some goods and more pronounced for others. In the shops, both big and small, in my part of St. Petersburg, I saw that tea, coffee, sugar and fruit juices cost a rouble or two more; the prices of vegetables were 50% higher; those of sausages and smoked foods, five to 10 percent higher. Price rises were also visible for mobile phones, video cassette players, footwear, and books.

"How come?" the intelligent reader will rightly wonder. "The sales tax was abolished on January 1, 2004. So consumer items should cost five percent less, shouldn’t they?" A person better versed in tax law would cite Article 354 of the Tax Code, which reads: "The sales tax sum shall be included by the taxpayer in the price of the goods (works, services) to be paid for by the buyer (customer, sender)." This implies that the abolition of the sales tax should have brought prices down.

A consumer market analyst will have recalled that in summer 2003, when a group of State Duma deputies proposed retaining the sales tax as a key source of funds for regional budgets, the managers of such retail chains as M. Video, Kopeika, Pyaterochka, and IKEA guaranteed that if the sales tax was abolished, they would lower their retail prices. It was the promise of lower retail prices that had served as the government’s main argument in the drive to scrap the tax. You may recall that First Deputy Finance Minister Sergei Shatalov predicted: "Lower prices across-the-board" would add 1,000 roubles to the budget of every Russian family in the course of 2004. What a lot of baloney.

The sales tax was introduced in 1999. At the time the government declared that it would compensate the regions for the lower revenues they would receive owing to a reduction in value-added tax from 25 percent to 15 percent. However, the sales tax, whose rate was set by the regional authorities but was not to exceed five percent, had been introduced on the understanding that it would be effective until early 2004.

Most regions naturally promptly enforced the tax, and did so at the maximum rate that jacked up all prices by five per cent. What has happened now? Traders are of course reluctant to lose profits, and practically none of them has cut prices after the abolition of the sales tax. The tax no longer exists; yet the law has no coercive mechanism to force traders to reduce their prices accordingly. Nor is there any device to punish them for failing to deliver on their promises.

We are being given a multitude of reasons why prices haven’t gone down, ranging from inflation to the strengthening euro. Some traders claim that they are selling in January goods they received before the sales tax was abolished, implying that they paid the tax on the goods. They are not telling the truth. Inflation couldn’t have been five percent in early January. The transfer of sales tax payments to the state budget, according to the Tax Code, takes place on a monthly basis, after the sale of the goods, a fact that belies trader claims that they received the goods before the abolition of the sales tax. Finally, things like dill, parsley, fruit juices and Russian-language books are not imported from Europe; so the euro exchange rate to the rouble is irrelevant for these items.

A generous two percent reduction in VAT

Most importantly the "tax cuts" for 2004 included a VAT cut from 20% to 18%. In theory, the reduction of this tax was also supposed to appreciably diminish the prices of VAT-assessable goods and services. In practice, however, this is unlikely to happen for the same reasons. Traders cannot be forced to cut their prices accordingly, nor can they be punished for refusing to do so. Besides, a two-percent VAT cut will have little, if any, effect on consumer prices, and therefore will not be appreciated by the citizenry. It will be felt only by big companies with turnover running into billions: paying two percent less VAT amounts to a large increase in their profits.

The 15% excise on natural gas has also been scrapped, which in theory should lead to lower gas prices. We can count on that because the prices of gas sold to the households are subject to state control. But the share of gas in citizen’s total expenses is so small that the cut in gas prices will not make their purses much fuller.

On the contrary, their purses will be set back considerably because January 1 saw an increase in excise duties on practically all consumer items - from spirits and other alcoholic beverages to cars and gasoline. The excise rates on these items have been raised (by 12% on average) by a federal law adopted "on the quiet" in July 2003. As excise is incorporated in the prices of the goods, we are already having to pay more for wine, vodka, beer, gasoline and cigarettes.

Another tax was increased on January 1: the mineral extraction tax. The tax has risen slightly for extracted oil - from 340 to 347 roubles per tonne, which has practically no tangible effect on anything. But the tax on extracted natural gas has more than trebled, which will most likely lead to price rises across the board shortly: Suppliers usually manage to persuade government regulators to make decisions to shift producers’ growing expenses to consumers.

Finally, huge increases are being slapped on taxes on the gaming business. The tax on every gaming table will be doubled, and the tax on every slot machine will rise 2.5 times. On the face of it, this is being done for good reasons: to boost the state budget by squeezing more tax payments out of an exceedingly lucrative business. However, the higher taxes could be counterproductive. Past records have shown that an augmentation of "gambling" taxes in most cases drove the business into the black market..

"Formerly, casino owners showed the taxman two gaming tables out of every three; now they will let him see only one out of every three. They will of course reward his inability to see the other two."


See also:

Tax Legislation

The Moscow News, January 23, 2004

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