An empirical investigation of factors influencing tax effort in Kenya (1980-2012)

Abstract

Kenya’s fiscal arrangement indicates that government expenditure and its fiscal supply side have maintained a consistent growth patterns with the expenditures always higher than revenue supply. The differences between government expenditures and revenue supply have led to increased budget deficits. Various tax reforms have been undertaken but the fiscal deficit has not been reduced. A poor tax performance in terms of raising tax can imply an inadequate tax effort on the side of the government which is influenced by various factors. The main objective of the study was to identify the factors which influence the tax effort in Kenya for the period 1980-2012. The study is of great importance since an ability to identify these factors and their influence on tax effort is paramount to the fiscal stability of the country. The study has used a model of tax effort that was used by Islam (1979) in establishing the factors which influence tax effort in Bangladesh. Annual time series data running from 1980 to 2012 has been used. The study has used OLS method to estimate the long-run cointegrating equation. Pre-estimation tests were carried out and using Breusch- Pagan test, the assumption of homoscedasticity was violated. This was however corrected by use of robust standard errors. Using Breusch- Godfrey LM test, serial autocorrelation was found to be absent. Using Augmented Dickey Fuller (ADF) test variables used in the study were found to be stationary. Normality of the error term was confirmed using Shapiro- Wilk test. The estimated results show that tax effort in Kenya is influenced by the level of the size of monetary base, foreign aid, tax reforms and per capita GDP. The main policy implications derived from the study is that Kenya’s future direction of policy framework lies on the above factors which influence tax effort and therefore necessary policies should be formulated to influence their impacts.