An empirical assessment of the link between Kenya’s indirect taxation and economic growth

Abstract

This study analyses the impact of indirect taxes as a whole and the different types of indirect taxes in particular, on economic growth within the context of a simple endogenous growth model. Using a time series analysis for a period of thirty-one years, the study confirms that indirect taxes cause distortions in the market decisions and consequently impact negatively on economic growth. By interacting indirect taxes with certain key macroeconomic variables namely; population size, investment, volume of trade and external debt, the study concludes that: (i) Indirect tax as a whole and individual types of indirect taxes have growth-inhibiting effects, a fact that calls for the review of the tax structure in general and specifically lowering of the tax rates in order to encourage savings and investments. (ii) The demographic pattern influences growth positively. (iii) The degree of openness of the economy measured in terms of the volume of cross / ~ l border trade, encourages economic growth. (iv) External debt puts pressure on the taxpayer (via increased taxes to finance it) hence worsening the distortionary effects of taxes and subsequently hampering growth. .I I (v) The tax burden, measured by the tax to GDP ratio is relatively high and there is a need to ensure that this ratio moves in tandem with per capita income in order to mitigate the growth- inhibiting effects of taxation. (vi) Investment has positive correlation with growth (vii) Neither the tax modernization programme nor the trade liberalization measures have had significant impact on the tax structure