Fiscal Policy for Sustainable Development in Resource-Rich Low-Income Countries
155
when and how to develop the resource to promote sustainable and equitable economic growth. Three main parties are involved: resource companies, current government, and future governments. This can be viewed as a principal agent problem in which the government (the principal) gives up a share of the rents to attract the best producer. How returns and risks are divided depends very much on the information and risk tolerances of the different parties. In low-income countries, the asymmetric information problem between firms and government is severe. Another important factor is that the balance of power of each party shifts over time. Before exploration, the power rests on the company side; after the resource has been developed and sunk costs have been incurred, power shifts to the government and the expropriation risk increases. This problem is less severe in more-developed countries, where governments are subject to the rule of law once contracts are developed. The trade-offs between the amount and timing of revenue, and the issue of risk assignment, imply that multiple fiscal instruments may be required to protect the interests of all parties. The main tax instruments are royalties (at either the production or the export stage), property taxes, standard income taxes, and excess profits taxes. Nontax instruments include fees and rights (often auctioned), production share agreements (mostly in oil), and direct state equity. Whereas royalties (specific or ad valorem) are simple to administer and may be attractive for the revenue agency, they are unpopular with investors because they are unrelated to costs, they distort incentives because royalties turn ore into waste (for example, the “high-grading” problem), and they must be paid even if operations are incurring losses. A partial solution to this situation is to vary royalty rates by prices, volume of production, and capacity—implicitly “proxying” for cost deductions. Property taxes are uncommon in practice because of the technical complexity in the up-front assessment of the tax base. The last two types of taxes— income and excess profits taxes—are better suited for capturing economic rents, but their administrative cost is likely to be high. Thus there is a need to integrate multiple fiscal instruments in a pragmatic way for a functional and resilient tax regime. The right mix depends on the specific characteristics of the resource, and the capacity of the revenue agency to administer each tax is a crucial factor. As Collier (2010a) reports, even in Chile the reported profits vanish when excess profits taxes are enacted. Other tax elements specific to these activities are tax incentives for exploration, fiscal stability agreements, and ring-fencing statutes that