Atkinson, Anthony B., and Agnar Sandmo. “Welfare Implications of the Taxation of Savings.” The Economic Journal 90, No. 359 (September 1980): 529-49.
Barro, Robert J. “Government Spending in a Simple Model of Endogenous Growth.” Journal of Political Economy 98, No. 5, Part 2 (October 1990): S103-25.
Bird, Richard, Oliver Oldman (eds.). Taxation in Developing Countries, Fourth Edition. Baltimore: The Johns Hopkins University Press, 1990.
Chamley, Christophe. “Optimal Taxation of Capital Income in General Equilibrium with Infinite Lives.” Econometrica 54, No. 3 (May 1986): 607-22.
Cnossen, Sijbren. “Global Trends and Issues in Value Added Taxation.” International Tax and Public Finance 5, No. 3 (July 1998): 399-428.
Cnossen, Sijbren, Richard M. Bird (eds.). The Personal Income Tax: Phoenix from the Ashes? The Netherlands: North-Holland, 1990.
Deininger, Klaus, and Lyn Squire. “A New Data Set Measuring Income Inequality.” The World Bank Economic Review 10, No. 3 (September 1996): 565-91.
Easterly, William, and Sergio Rebelo. “Fiscal Policy and Economic Growth: An Empirical Investigation.” Journal of Monetary Economics 32, No. 3 (December 1993): 417-58.
Ebrill, Liam, Michael Keen, Jean-Paul Bodin, and Victoria Summers. Recent Experience with the Value-Added Tax. Washington, D.C.: International Monetary Fund, forthcoming.
Ebrill, Liam, Janet Stotsky, and Reint Gropp. Revenue Implications of Trade Liberalization. Occasional Paper No. 180. Washington, D.C.: International Monetary Fund, 1999.
Keen, Michael, and Jenny E. Ligthart. “Coordinating Tariff Reduction and Domestic Tax Reform.” IMF Working Paper WP/99/93. Washington, D.C.: International Monetary Fund, 1999.
Levine, Ross, and David Renelt. “A Sensitivity Analysis of Cross-Country Growth Regressions.” American Economic Review 82, No. 4 (September 1992): 942-63.
Masson, Paul R., Tamim Bayoumi, and Hossein Samiei. “International Evidence on the Determinants of Private Saving.” The World Bank Economic Review 12, No. 3 (September 1998):483-501.
Messere, Ken, and Gilroy J. Zuckerman. “An Alternative Approach to Depreciation Switches.” Accounting Review 56, No. 3 (1981): 642-52.
Metcalf, Gilbert E. “Life-Cycle Versus Annual Perspective on the Incidence of a Value-Added Tax.” Tax Policy and the Economy 8, edited by James M. Poterba. Cambridge: The MIT Press, 1994.
Newbery, David, and Nicholas Stern (eds.). The Theory of Taxation for Developing Countries. New York: Oxford University Press, 1987.
Norman, Göran, and Jeffrey Owens. “Tax Effects on Household Saving: Evidence from OECD Member Countries.” In Promoting Savings in Latin America, edited by Ricardo Hausmann and Helmut Reisen. Paris: OECD, 1997.
OECD. Taxation and Investment Flows: An Exchange of Experiences Between the OECD and the Dynamic Asian Economies. Paris: OECD, 1994.
Republic of South Africa. Interim Report of the Commission of Inquiry into Certain Aspects of the Tax Structure of South Africa. Pretoria; Government Printer, 1994.
Tait, Alan A., Wilfrid L. M. Gratz, and Barry J. Eichengreen. “International Comparisons of Taxation for Selected Developing Countries.” IMF Staff Papers 26, No. 1 (March 1979): 123-56.
Tanzi, Vito. “Structural Factors and Tax Revenue in Developing Countries: A Decade of Evidence.” In Open Economies: Structural Adjustment and Agriculture, edited by Ian Goldin and L. Alan Winters. New York: Cambridge University Press, 1992.
Tanzi, Vito. “Quantitative Characteristics of the Tax Systems of Developing Countries.” In The Theory of Taxation for Developing Countries, edited by David Newbery and Nicholas Stern. New York: Oxford University Press, 1987.
Tanzi, Vito, and Howell H. Zee. “Taxation and the Household Saving Rate: Evidence from OECD Countries.” Banca Nazionale del Lavoro Quarterly Review, forthcoming.
Turnovsky, Stephen J. “Optimal Tax, Debt, and Expenditure Policies in a growing Economy.” Journal of Public Economics 60, No. 1 (April, 1996): 21-44.
Zee, Howell H. “Taxation of Financial Capital in a Globalized Environment: The Role of Withholding Taxes.” National Tax Journal 51, No. 3 (September 1998): 587-99.
Zee, Howell H. “Value-Added Tax.” In Tax Policy Handbook, edited by Parthasarathi Shome. Washington, D.C.: International Monetary Fund, 1995.
This paper has been prepared at the invitation of, and is forthcoming in, the National Tax Journal. Useful comments from Michael Keen and John Yinger, and assistance from Asegedech WoldeMariam for compiling the tax data used in the paper, are gratefully acknowledged.
A new comprehensive data set on income distribution in developing countries has recently been compiled by Deininger and Squire (1996).
For a sympathetic discussion (largely focused on developed countries) of how the optimal taxation literature could be used as a guide for tax policy formulation, see Heady (1993).
Much of the material from which the present paper is drawn is contained in confidential IMF technical reports prepared at the request of country authorities. Most of the country-specific references have, therefore, been suppressed, except in those few cases involving references to factual information that is readily available in the public domain.
The literature on taxation and development is voluminous. See, for example, Bird (1992); Bird and Oldman (1990); Newbery and Stern (1987); and Tanzi (1991). For a recent survey of tax issues in developing countries from a somewhat different perspective from the present paper, see Burgess and Stern (1993).
From time to time, policy makers are concerned about tax revenue in relation to short-run budgetary imbalances. Such concerns are country-specific and will not be addressed here.
Much of the theoretical and empirical literature in this area has been surveyed recently in Tanzi and Zee (1997).
A detailed comparative study of level and composition of tax revenue between developed and developing countries can be found in Zee (1996).
Such attempts have become increasingly fashionable since the advent of the endogenous growth literature. A particularly well-known example is Barro (1990). Turnovsky (1996) provides a more elaborate model of simultaneous determination of optimal tax and expenditure.
Data for the OECD countries do not include the five recent OECD members: the Czech Republic, Hungary, Korea, Mexico, and Poland. Korea and Mexico are included in the developing country sample, which covers a total of 38 countries in Africa (8), Asia (9), Middle East (7), and Western Hemisphere (14). In both Table 1 and Table 2 (shown below), data presented are unweighted. While not shown, weighted average data (using country GDP in U.S. dollars as weights) convey broadly the same comparative picture.
In any case, much of the available econometric evidence on the relationship between tax levels and per capita income growth has not been very robust, due largely to the difficulties in disentangling the growth effects of other relevant variables from taxation. See, for example, Easterly and Rebelo (1993) and Levine and Renelt (1992).
It is not uncommon to encounter arguments for relatively heavy consumption taxation on the basis that the elasticity of labor supply—at least for the group of prime male workers—is low. It must be noted, however, that the cited inelasticity usually refers to the uncompensated labor supply curve. The compensated elasticity—the concept relevant for measuring welfare costs—is typically much higher. Moreover, there is a great deal of uncertainty about the magnitude of the interest elasticity of savings, even for developed countries. For developing countries, data limitations have generally hampered empirical investigations on this issue. For example, the study by Masson, Bayoumi, and Samiei (1998), covering a large sample of developing countries, has found an insignificant and nonrobust relationship between the real interest rate and the private savings/GDP ratio.
The life-cycle results are established in Atkinson and Sandmo (1980), and results from the infinite-horizon model are derived in Chamley (1986). It could be optimal to tax capital in the life-cycle model because the intergenerational excess burden of a tax on capital is not fully captured in such a framework.
A survey of the literature on human capital accumulation and growth is beyond the scope of this paper. On a textbook treatment, see Barro and Sala-i-Martin (1995).
For small, open countries, an additional relevant consideration is clearly the difference in the relative mobility between capital and labor across national boundaries. In this context, the extent to which capital income can be taxed in these countries is at least partly dependent on how such income is taxed elsewhere in the same region of the world.
A limited application of differential consumption taxation is certainly feasible and in fact is widely practiced. There is, however, compelling evidence suggesting that such a practice is ineffective in achieving equity objectives, since both the rich and the poor consume (albeit in different proportions) the same goods that are being taxed differentially. For a forceful statement of this point in the context of an actual tax reform program in a developing country, see Republic of South Africa (1994).
See a series of studies by Metcalf, e.g., Metcalf (1994). These results are, however, generally more relevant for advanced than developing countries.
This is the idea lying behind, for example, the so-called USA (unlimited savings allowance) tax that has been proposed in the United States recently (see Seidman, 1997). It is also broadly the idea behind Kaldor’s (1955) expenditure tax.
In some cases, the revenue impact of tariff reductions, even in the short run, could be moderated to varying degrees if accompanied by, for example, the tariffication of quotas, or the imposition of some minimum tariff on imports previously exempted from duties, as part of an overall trade liberalization program. See the detailed study by Ebrill, Stotsky, and Gropp (1999).
Some developing countries have taken tariff reductions in a required trade liberalization program as an opportunity to lower the overall level of taxation. Such cases are, however, few and far between, since the ability to do so would typically necessitate a commensurate reduction in expenditures to avoid endangering the budgetary position.
Keen and Ligthart (1999) have recently shown that, if an underlying tariff reform improves production efficiency, replacing the tariffs with domestic consumption taxes would raise welfare in a small open economy.
Increasing income taxes in the form of reducing distortive tax incentives would, however, arguably be a desirable policy measure (see discussions below).
Included in this subcategory are the VAT; all other VAT-like taxes that sometimes go by different names, such as goods and services taxes or general sales taxes; and other broad-based single- and multi-stage sales taxes (if they exist).
Trade taxes are mostly import tariffs; export tariffs have become relatively insignificant in recent years. Until the early 1980s, however, they had been important in some countries and especially in some Latin American (e.g., Argentina) and African (e.g., Côte d’lvoire) countries.
Existing econometric evidence on the relationship between the income-consumption revenue mix on the one hand, and either the growth or savings rate on the other, has been largely inconclusive. While employing tax instruments to alter rates of return to savings may have an impact on the composition of savings, there has been little conclusive international evidence that such measures (unless of a drastic nature) could significantly affect either private or national savings as a whole in the long run. For a recent review of tax effects on household savings in OECD countries, see Normann and Owens (1997). A recent study by Tanzi and Zee (forthcoming) has found, however, rather strong results, in a sample of OECD countries, that increases in income taxes reduce household savings more than increases in consumption taxes (for raising the same amount of revenue).
It should be noted, however, that neither the degree of nominal rate progressivity nor the number of rate brackets in developing countries could be considered excessive when compared to developed countries, although the latter countries have unmistakably moved to flatten out their PITs and have reduced the number of rates during the last decade or so. For a review of PIT reform experiences in OECD countries, see Messere (1993).
Preferably, these two rates should be equalized if there is full integration of the PIT and the CIT in dividends taxation (further discussed below). Absent full integration, the top marginal PIT rate should technically be somewhat lower than the CIT rate.
It goes without saying, of course, that tax policy should also be guided by the general principles of neutrality, equity, and simplicity.
For example, to prevent excessive tax avoidance, many countries have found it prudent to place limits on the deductibility of capital losses in any given year or the number of years losses of any kind can be carried forward.
This does not mean that the scope of the withholding itself should be targeted; withholding as a collection device (but not as a final tax) could still be broadly applied.
The basis for this is simply that, while inflation increases the replacement costs of assets, depreciation is inevitably computed on their historical costs.
A conversion from the straight-line to the declining-balance method would necessitate, of course, an upward adjustment in depreciation rates on account of the conversion alone to maintain the same depreciation allowances in present-value terms. In a number of OECD countries, a switchover at some point of an asset’s life from the declining-balance to the straight-line method is allowed (see OECD, 1991). For a discussion of the switching between the depreciation methods, see Messere and Zuckerman (1981).
According to a recent study by Ebrill, et.al. (forthcoming), the VAT (or a VAT-like tax) can be found in 116 countries around the world as of September 1998.
If the VAT on capital goods is creditable, the VAT is known as a consumption-type VAT (the standard form found in developed countries); if not, it is known as a production-type VAT. Even in those developing countries where the VAT is ostensibly of the consumption-type, credits on capital goods are frequently granted with a substantial (administrative) delay. For a general discussion of the various variants of a VAT, the various ways they can be implemented, and their different economic implications,, see Zee (1995). Cnossen (1998) and Ebrill, et.al. (forthcoming) contain useful descriptions of VAT features and experiences in a large group of developing countries.
While an extensive excise system with highly differentiated rates set in inverse relationship to demand elasticities could well be a policy implication of the optimal commodity taxation literature, in practice such a system is rarely if ever administratively feasible—even in developed countries.
Note that the point here is on preventing unintended changes to the relative pattern of effective protection rates. The initial relative pattern of such rates may well be deemed inappropriate, but measures to alter it would then be intentional.
In the long term, the revenue consequence would obviously depend on import elasticities.
Frequently, the most practical way to do this is to impose a low minimum tariff on all imports.
If the affected imported excisable is also produced domestically, then the increase in its excise rate should also apply, of course, to its domestically-produced counterpart.
Any reduction in the scope of tax incentives in general (discussed below) should, of course, always be explored as an additional compensatory measure.
OECD (1994) reports that, while tax incentives are widely used in Asian countries, country authorities are generally skeptical about their effectiveness if the other aforementioned factors are absent.
The United States never grants tax sparing.
Even under these circumstances, better policy instruments (e.g., increased infrastructure investment in remote areas) than tax incentives could often be found to achieve the stated objectives.
It should be noted that, if the underlying structure of depreciation rates for tax purposes deviates systematically from the assets’ true structure of economic depreciation, then any change to the former (e.g., accelerating the depreciation rates) could induce additional distortions from the standard second-best type of reasoning.
Note that the approval of investment and the granting of tax incentives to approved investment could be two separate processes. Hence, the automatic triggering of the latter (once qualifying criteria are met) does not necessarily require that the former be implemented also on a similar basis.
This may well require a coordinated multilateral approach, at least on a regional basis.