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Is taxation better than aid for state-building? The case of Somaliland

June 30, 2011
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Domestic taxation is one of those absolutely crucial development issues that too often drop through the cracks. It’s important not just because, at a time of huge pressure on aid budgets, it is a vital source of ‘financing for development’, but also because taxation has been at the heart of politics and state-building, ever since the creation of nation states in Europe and the ‘no taxation without representation’ cry of the American Revolution.

That neglect seems to be ending– increasing numbers of development actors are picking up on taxation (see this recent report of a meeting at ODI); DFID has funded one of its big five year development research centres on Tax and Development, led by the excellent Mick Moore; NGOs are campaigning on international tax issues like multinational tax evasion, tax havens and the Robin Hood Tax, but are also starting to think through the potential of domestic tax campaigning in developing countries.

So I’m sure the day will come when NGOs are lining up with their partners to campaign in favour of progressive taxation, denouncing domestic tax evaders etc etc (OK, this may not work in the US…). Weird that it isn’t already happening (do tell me if it is, and where, and whether it’s just about bashing transnationals or something more comprehensive).

If you want to understand why this matters, a good place to start is a fascinating recent paper by Nicholas Eubank, a PhD student at Somaliland mapStanford, about the role of taxation in an unsung development success story – Somaliland. Eubank’s thesis is controversial – that Somaliland’s ineligibility for aid forced the fledgling government to rely on local tax revenues, especially from customs and business. That in turn forced it into ‘revenue bargaining’, accepting a series of checks and balances that laid the basis for political stability and democracy.

Somaliland was formed out of northern Somalia, seceding from the Somali state that collapsed in 1991. As international bodies dislike secession (it encourages the others), that means Somaliland never got official aid (although it receives a fair bit of aid through non-government channels). After secession, several years of struggle and conflict ensued that could easily have led to a typical fragile/failed state result with a vicious circle of political instability, conflict and suffering. Instead, Somaliland’s rulers got their act together, and through a series of negotiations and national conferences, developed a stable set of institutions combining modern (presidential and parliamentary systems) and traditional (a council of clan elders as the second chamber). A new constitution was agreed in 2001 with broad public support. Since then there have been multiple peaceful turnovers of power.

The place is still poor, and health and education are patchy, but the country is progressing, opening up an ever wider gap with the dire situation across the border in Somalia. Human Rights Watch sums up its achievements as ‘both improbable and deeply impressive.’

How did this happen? According to Eubank, the absence of aid flows played a crucial role. It meant the government had to rely on local sources of finance, and to gain access to them, had to negotiate with those (other clans, businesses, an extensive diaspora that generates more dollars than all the country’s exports) who controlled the main areas of economic activity, like the ports. The result of this revenue bargaining was an inclusive political contract and enduring stability.

So is this an anti-aid argument? Eubank says not (or not totally, anyway):

‘This exploration is not meant as advocacy against foreign assistance. Recent studies have shown that foreign assistance has both costs and benefits, and if the international community wishes to best serve the countries it is aiming to help, it is imperative that it strive to understand the possible negative effects of its efforts so that it can design better policies that minimise these effects, and properly balance aid’s benefits against any unavoidable downsides.’

Somaliland 2Aid has to be aware of its impact on the social contract between citizens and states. It can undermine that, by freeing a government from having to listen to its citizens. But it can also strengthen it, as with the current UK government’s commitment to allocate 5% of any direct funding to governments for accountability exercises by parliaments, civil society organizations etc. It’s also worth mentioning some striking counterexamples – good pro-aid stories such as its central role in the take-off of Africa’s other unsung success story, Botswana.

I’ve never been to Somaliland, and the paper appears to have been written entirely from secondary sources, so I am fully prepared to hear that things aren’t as rosy as Eubank paints them. For example, the paper only discusses intra-elite bargains and gives no impression of the extent to which poor Somalilanders (men and women) have benefited (beyond the important gain of not having to live in the middle of a civil war). Nor the costs in the shape of the foregone public services that aid might have paid for. Over to you to fill in the gaps.

8 comments

  1. Botswana is actually another candidate for the success of taxation, albeit from companies. It had two great advantages – newly-discovered diamonds in abundance (which gave the possibility of tax revenue) and the fact that the diamonds are under 200m of sand (which meant that mining had to be a largescale operation,which couldn’t be captured by local barons). So aid’s contribution was emphatically not money – rather it was technical assistance both generally, and especially in advising on negotiations with mining companies (step forward for a bow the Commonwealth Secretariat).

  2. It is true that aid not strategically channeled to governments can actually undermine state-citizen relations. A minister of finance in an aid receiving African country once said that he spends 90% of his time meeting and responding to donors despite the fact that the proportion of aid to internally generated revenue is 60% donor and 40% taxes. It is equally true (as the case of Somaliland shows) that states that depend mainly on their citizens for internally generated revenue through a progressive tax system tend to be more accountable and responsive to the needs of its people than states that depend on foreign aid and/or their natural resources such as oil. However, the two critical factors that determine good governance and human development are the role and values of ‘agents’i.e. the political and economic elites and the strength of the country’s institutions i.e. the rules of the game.

  3. I hope colleagues from Somaliland will add their perspectives to this post, Duncan. From my limited experience in Somaliland, I think your comments have some validity. But I also think there are other factors. In particular, the modern governance system that has evolved in Somaliland has grown out of the pre-existing, clan-based governance structures, and work in parallel with them, with dynamic interaction between government at the various levels and the traditional structures that continue to exist and function. As to whether this was exactly possible because of the absence of aid, I’m not in a position to judge.

  4. Weird that it isn’t happening already…? Look at what’s happening under our noses in Greece and the levels of popular anger among the less well-off generated by the endemic tax-dodging of the better off, who are also likely to dodge the consequences….

  5. That is an interesting paper – thanks for the post. Its nice to see good country-specific political economy work receiving more attention.

    When we (Oliver Morrissey and I) looked at the overall relationship between aid and tax (in response to the grants/loans debate) we actually found that while there used to be a negative relationship (between grants and tax) – there is now a positive one. The more you allow for a time lag, the stronger positive effect from aid (of any sort on tax revenue) you find. So overall for the last 20 odd years it seems aid has, on average, been “aware of its impact on the social contract between citizens and states”. One of our explanations was that the advice that came along with aid helped states improve their tax revenue collection system.

    There is a link to the paper on my website.

  6. Not entirely unsung: see ODI’s progress story ‘Somaliland’s progress on governance: A case of blending the old and the new’ at http://www.developmentprogress.org/progress-stories/somaliland%E2%80%99s-progress-governance-case-blending-old-and-new

    Somaliland also features in Simon Reeve’s enjoyable TV series Places that Don’t Exist – YouTube, various, eg http://www.youtube.com/watch?v=pMf89xPcKxg

    (And no, I’ve never been there either.)

  7. Great to see discussion on the importance of domestic resource mobilization which is crucial to the long term sustainability of development programmes, even if they are started out through external financing. Jonathan Glennie also had a great piece in the Guardian a few days ago on this: http://www.guardian.co.uk/global-development/poverty-matters/2011/jun/28/weaning-countries-off-aid

    Of course the design of the tax system itself is an important (but often overlooked) factor in poverty reduction since a poorly designed system can often have negative impacts on children in poor households, particularly if there is a high dependence on indirect taxes on consumables that families need.

    We’re documenting an example of work we (UNICEF) have done with the government of Serbia to analyze the impact on children of different potential tax policies which we hope to publish later in the year.

  8. Somaliland government does not unclude aid to its national budget, the little aid we receive is managed separately by non governmental organizations, and it usually goes to unnecessary projects like FGM,trainings, talk talk talk, alshabaab awaraness, pirates etc.

    Our government prapared 5 years plan (2010-2015) which includes building roads, unfortunately there are no countries who are assisting us to finish those roads, even our clans are contributing their camel and other animals to the road building! , it seems socalled donor countries think about their interest only,

    for example uk created and trained anti-torrorist and inti-piracy units in our army, they also build several jails for pirates. Those are their problems not ours, we have no pirates nor terrorists, infact those programs created problems we never had.

    Pirates are now targeting somaliland owned ships because there friends are inside somaliland jails although they never commited any piracy crimes in somaliland waters. anti-terrorist units (RRU) breaked homes of innocent people in the middle of night.

    We need development not security assistant .

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