# **1 Introduction**

Improving fiscal management remains critical to address development challenges in low-income countries. Increasing domestic revenue may not only help countries build their fiscal space to finance infrastructure projects and improve their stock of physical capital, but also support government policies to improve human capital development and social safety nets, including for vulnerable households.

However, tax collection remains a daunting challenge for developing countries. For instance, over the past two decades, tax performance (measured by the tax-to-GDP ratio) was about only 12 percent in low-income countries, compared with 32 percent for advanced economies (see International Monetary Fund (2011), Figure 2: Panel 3). Based on International Monetary Fund (2011), the main challenges associated with the weak domestic revenue performance in developing countries are the following. First, the presence of many sectors that are hard to tax (e.g., an extensive informal sector representing on average 40 to 60 percent of GDP or international services). Second, the lack of sufficient tax planning skills to match the adroitness of multinationals to reduce their tax liabilities continues to pose challenges to these countries to improve their domestic revenue collection performance . Third, difficulties in dealing with state-owned enterprises that abuse or ignore the tax system. Finally, the weak revenue administration and the quality of governance remain critical concerns in low-income countries.

Recent studies suggest that revenues from natural resources, particularly in SubSaharan Africa, play a significant role in improving countries’ tax performance. Keen and Mansour (2010) find that during 1980-2005, resource-rich countries within Sub-Saharan Africa exhibited better revenue collection performance than their peers without significant reserves of natural resources. The stronger tax performance in resource-rich countries may therefore support the strand of the development literature suggesting a comparative advantage of resource-rich countries. However, given the finite nature of natural resources and the risk of the Dutch disease, this advantage may not be sustainable in the long run.

Another recent strand of the literature argues that abundance in natural resources is a curse rather than a blessing. This strand of literature predicts the potential crowding-out of non-resource revenues as one consequence of resource abundance. There are various transmission channels of the above-mentioned crowding out effect<sup>1</sup> . First, the Dutch disease could cause the non-resource sector to contract, leading to a decline in the overall nonresource revenues. Second, a government with significant revenue from extractives may decide to relieve the tax burden on its citizens, which, in turn, could result in the reduction of the demand for accountability and public service delivery. Third, resource abundance could be a disincentive for governments to implement tax reforms aimed at broadening the tax base and collecting more non-resource tax revenue. Several empirical studies have

> 1An assessment of the role of these transmission channels is left for future work.

1