Page 3 - Working Paper (Narrowing Tax Gap: Cross Countries Experience)
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DDTC Working Paper 0915

                   1. Introduction                                     Lotz  and  Morss   published  one  of  the  first
                                                                    articles to study the international tax ratio, using
                               ANAlyziNG ThE TAx GAp                as explanatory variables per capita Gross National
                         providEs A usEful Tool for                 Product (GNP) and trade (represented by the ratio
                       uNdErsTANdiNG ThE rElATivE                   of exports plus imports to total GNP). Gupta  used
                             sizE ANd NATurE of NoN-                dynamic  panel  regression  analysis  and  identified
                                              CompliANCE            that some structural factors, such as per capita GDP,
                                                                    the  share  of  agriculture  in  GDP,  trade  openness,
                                                                    and  foreign  aid,  significantly  affect  tax  revenue.
                                                                    Gupta  explored most of the data  from the World
                      This paper substantively measures “tax gap” or
                                                                    Bank World Development Indicators. Davoodi and
                   the difference between the amounts of tax collection
                                                                    Grigorian  looked at  extended the conventional
                   that  tax  authority  should have been  collected
                                                                    determinants of tax revenue potential, specifically
                   against  what  is actually collected. Tax  capacity
                                                                    to the case of Armenian, to  include  measures
                   refers to the maximum level of tax revenue that a
                                                                    of institutional  quality  and informal economic
                   country  can  achieve.  In  many  cases,  tax  capacity
                                                                    activity in a panel  data  framework  and showed
                   measures the predicted tax  to gross  domestic
                                                                    that institutional improvements as well as policy
                   product ratio that  can be estimated  with the
                                                                    initiatives designed to reduce the size of informal
                   regression, taking into account a country’s specific
                   economic, demographic and institutional features.    economic  activity are important  in raising tax
                                                                    revenue  performance.  Alfirman   analyzed  tax
                   Meanwhile, tax effort estimates the ratio between
                                                                    capacity  in  only  one  country  (Indonesia)  to
                   actual tax revenue and capacity.  Previous studies
                                                                    conclude that  local  governments  were far from
                   on tax capacity and effort have utilized both cross-
                                                                    their  tax capacity and could increase  their  tax
                   section and time series models into consideration.
                   Similar to our earlier paper , previous theoretical   revenue.
                   and empirical literature on tax revenue started the
                                                                       There are several  considerations that most
                   analysis by trying to find out the determinants of
                                                                    governments undertake imminent measurements
                   tax revenues where they include several variables
                                                                    and strategies  to improve their  tax  collection
                   such as level of the economy (i.e. Gross Domestic
                                                                    leading  to narrowing  the tax  gap.  First  is effort
                   Products, per capita GDP, level of unemployment,
                                                                    to lessen tax  evasion, which could come from
                   etc.),  the  degree  of  openness  of  an  economy,  the
                                                                    voluntary  and involuntary  tax  non-compliance.
                   ratio of public debt to GDP, the level of education
                                                                    According  to  Schneider , the activity to evade
                   of a country, and institutional factors as corruption
                                                                    from paying  taxes in the developed countries
                   and governance.
                                                                    reaches around 14-16 percent of GDP. Meanwhile,
                      Tax  collection  is considered the most reliable   the figure shows up to a quarter to 44 percent of
                   way to finance public expenditures. Most countries   GDP in developing countries. Second argument is
                   still  rely on tax revenue as their  primary  source   to attract more capital repatriation. Governments
                   of income. However, many developing  countries   around the world try to repatriate capitals  that
                   still experience a chronic gap between the actual   have been  stashed overseas  by creating  more
                   and desirable  levels of  tax  intakes  due to large   tax  incentive and also coordinating  with  other
                   informal economy and tax  evasion problems       countries  through bilateral  tax  treaty. The  third
                   (e.g.  no  reporting  and  under-reporting).  Tax   is  related  to  minimizing  illegal  profit  shifting  to
                   reforms covering institutional and administrative   other countries. The fourth is governments’ budget
                   matters  are needed  to close this gap, but  such   processes  where tax  amnesty program tends  to
                   reforms cannot be the same for all countries. The   be associated with the policy of budgeting politics
                   development  of a  tax  effort index,  relating  the   especially to deal with the growing deficit of state
                   actual  tax  revenues of a country to its estimated   budget.
                   taxable  capacity,  provides  us with  a  tempting
                   measure,  which  considers  country  specific  fiscal,   5 Lotz,  Jorgen  R  and Elliott R.  Morss,  1967,”Measuring  Tax  Effort in
                   demographic, and institutional characteristics.    Developing Countries” Staff paper- International Monetary Fund, 14:3,
                                                                    pp. 478-99.
                                                                    6  Gupta,  Abhijit  Sen,  2007,”Determinants of  Tax  Revenue  Efforts  in
                                                                    Developing Countries” IMF Working Paper, No: WP/07/184 (July).
                   2 Le, Tuan Minh, Blanca Moreno-Dodson, and Jeep Rojchaichaninthorn,   7 Davoodi,  Hamid R and David A. Grigorian, 2007,”Tax Potential vs
                   2008,”Expanding  Taxable Capacity and Revenue Potential: Cross-  Tax Effort. A Cross Country Analysis of Armenia’s stubbornly  low tax
                   Country Analysis” WB Policy Research Working Paper, PREM.  collection,” IMF Working Paper No WP/07/106.
                   3 Poesoro, Adri and Bawono Kristiaji, 2013,”Myths and Realities of Tax   8 Alfirman,  L.,  2003,”Estimating Stochastic Frontier Tax  Potential:
                   Performance under Semi-Autonomous Revenue Authorities (SARA)”,   Can Indonesian Local Governments Increase Tax  Revenues under
                   DDTC Working Paper No.0213.                      Decentralization?” Department of Economics, University of Colorado at
                   4 Le, Tuan Minh, Blanca Moreno-Dodson, and Jeep Rojchaichaninthorn,   Boulder, Colorado, Working Paper No. 03-19.
                   2012,”Tax Capacity and Tax Effort: Extended Cross-Country Analysis   9 Scheneider, F, 2005,”Shadow Economies around the World: What Do
                   1994-2009” WB Policy Research Working Paper, PREM.  We Really Know?” European Journal of Political Economy 21: 598-642.
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