Understanding the complex interrelationships between economic fluctuations and tax revenues is vital for making sound fiscal policy decisions. Buoyancy measures offer insight into this phenomenon, showing how different tax categories respond to changes.
Long-term buoyancies of total taxes, VAT and corporate income tax (CIT) closely mirror theoretical expectations; meanwhile short-term buoyancies for trade taxes were lower than expected.
Long-Term Buoyancy
Buoyancy measures the response of tax revenues to changes in national income, and is an integral component of tax systems’ ability to serve as automatic stabilizers. Estimations can be obtained using time series or panel data techniques; later allow for long-term and tax-specific buoyancies estimation.
Tax buoyancy depends on a range of considerations. These include tax structure (regressive or progressive), administration efficiency and tax base size – with lower buoyancies seen when dealing with regressive taxes versus progressive ones.
We estimate the short- and long-term buoyancies for 107 Southern and Eastern African (SSA) countries using both time series and panel data techniques. We find that much of SSA tax revenue comes from labor intensive, consumption-based taxes such as personal income and corporate profits taxes; our overall short-term buoyancy estimate falls short of one; in comparison, CIT and TGS long-term buoyancies exceed 1. These results imply that current taxes in many SSA nations may not be sufficiently regressive enough to cushion economic shocks.
Short-Term Buoyancy
Nominal revenues have grown faster than nominal GDP in most Southern and Sub-Saharan African (SSA) countries over the last three decades, suggesting that taxes are acting as an effective output stabilizer. Nonetheless, analysis indicates that not all taxes are equally effective at supporting economic growth.
Analysis of short-run dynamics shows that PIT and CIT taxes tend to respond more directly to changes in GDP than TGS and trade taxes; this may reflect greater policy flexibility within these tax categories, and lower efficiency when it comes to collection mechanisms in TGS/trade taxes.
Repeating our estimation exercise using estimates for individual taxes as dependent variables (Table 10), we find that both central government debt and an increase in shadow economy reduce PIT and CIT buoyancy while an improved institutional environment increases TGS/trade tax buoyancy (see specifications 1-6).
Tax-to-GDP Ratio
Tax revenue plays a pivotal role in any country’s fiscal health, funding government expenditures that promote economic development and poverty reduction, as well as serving as a gauge of its efficiency: the higher its ratio is relative to GDP, the more revenue exists for spending on infrastructure and social welfare programs.
Tax buoyancy measures the increase of tax revenues with GDP growth. It can be measured for individual taxes or by country. Furthermore, its effects can be adjusted for inflation to assess its effect on real tax revenue.
While having a long-term tax buoyancy of one is ideal, its realization may not be feasible. Buoancy estimates are generally statistically lower in advanced economies than emerging markets and low income countries – suggesting that overall tax revenue may serve more as an output stabilizer in these groups of countries and reduce the need for discretionary changes during periods of recession.
Tax-to-Expenditure Ratio
Tax law is an intricate web of provisions designed to influence taxpayer behavior and the distribution of taxes. CBO analyzes special provisions not included in the baseline code that are often referred to as “tax expenditures.” Tax expenditures include exclusions, deductions, deferrals, credits and refundable preferences as tax expenditures.
Benefits of major income tax expenditures tend to disproportionately benefit households in the highest quintile; by contrast, payroll tax expenditures provide more equitable distribution across quintiles of household income.
At its core, raising taxes depends on how they’re spent by governments. Reinvesting new revenues into green infrastructure and education could help drive future economic expansion; or they could be used to reduce deficits or boost government spending – both options could put countries in difficult political positions – even though growing economies may benefit individuals, their disposable income may suffer as a result of such expansion.
