Key facts
- Governments can improve revenue and growth by enhancing tax system design, not just by raising rates.
- Poorly designed VAT can become a tax on production, increasing costs through supply chains.
- Typical corporate income taxes raise the cost of capital by 15%-20%, discouraging investment.
- Restoring VAT neutrality can yield welfare gains of up to 0.8% of GDP.
- Improved corporate tax systems could increase long-term capital stock by 6.4% in advanced economies and 8.2% in low-income economies.
- Stronger tax administration can narrow compliance gaps and mobilize more revenue.
Governments can boost revenue and economic growth by refining their tax systems rather than solely increasing tax rates, according to research from the International Monetary Fund (IMF). The IMF's Fiscal Monitor publication, released ahead of the IMF-World Bank annual meetings in Bangkok, argued that poorly designed tax structures create avoidable distortions that restrain economic growth.
The research pointed out that value-added taxes (VAT) that do not fully credit business input taxes can inadvertently act as a tax on production, leading to cascading cost increases throughout supply chains. Similarly, inadequately designed employment taxes can disincentivize individuals from joining the workforce.
Typical corporate income taxes, the IMF noted, increase the cost of capital by an average of 15% to 20% across various country groups, partly because investment costs are not fully recoverable for tax purposes. This discourages investment, the fund stated.
Reforms aimed at reducing these tax distortions can significantly enhance growth. For instance, restoring VAT neutrality by limiting exemptions and fully crediting input taxes could lead to welfare gains of up to 0.8% of GDP, with an average gain of 0.26%.
Furthermore, corporate tax systems that permit immediate deduction of investment costs while still taxing the economic rents generated by those investments could increase the long-term capital stock by 6.4% in advanced economies and 8.2% in low-income developing economies. This could, in turn, boost GDP output by 2.1% to 2.7%.
The IMF also emphasized that strengthening tax administration is crucial for mobilizing more revenue without raising statutory rates by narrowing compliance gaps. Countries with stronger tax administration capabilities collect significantly more revenue as a share of GDP compared to those with weaker systems.