Revenues to the government
The primary sources of revenue for any government whether it’s a government of developed, developing or under-developed countries is the amount of taxes it collects from its citizens in the country. Tax cuts is a delicate subject needs to properly introduced and implemented by a government to ensure it enables the government to develop the country. Thus, it should be an enabler for the government towards developing a country and its economy and not a roadblock in the path of development and progress of a country. With the objective of providing detailed discussion on the importance of tax cuts for developing countries and their economies this document focuses on the effects of tax cuts on revenue generation of developing countries and their economies.
Revenues to the government:
As already mentioned that a government of a country primarily imposes taxes and collects such taxes to generate revenue for the government to invest in different programs of the government and on regular utility services for the general public of the country. It is important to assess the implications of tax cuts by the government of a country on the ability of the government to generate revenue for the necessary expenditures that it has to incur (Gale and Samwick, 2014).
Thus, all possible implications of tax cuts must be measured and evaluated properly before taking a final decision regarding tax cuts. It is specifically more important for a developing country as the path towards development requires significant amount of budgeted and non-budgeted expenditures on infrastructure and other aspects of the country. Since, a developing country requires significant amount of revenue to expend on various governmental projects including infrastructural changes and other regular government programs any decision taken in hurried in respect of implementation of tax cuts or not could have major implications on the progress and development of the country (O’connor, 2017).
There are two sides of the debate. One side that advocates tax cuts provide the logic that tax cuts help economies to grow and progress with huge boost in spending as a direct consequence of tax cuts. The other side that opposes tax cuts argue that tax cuts only help the rich to get richer and poor to get poorer. In support against the opposition of tax cuts the argument is that tax cuts will lead to significant reduction in the government revenue which directly affects the lower income people as they mainly rely on the government services provided by the government which will be adversely affected subsequent to the tax cuts by the government (Zidar, 2015).
Thus, it is important to present both side of the argument to allow the readers to make their mind on the implication of tax cuts on developing countries and their economies. Two polarizing sides to the debate must be present in necessary details to allow the readers to evaluate the impact of tax cuts on the economy of developing nation.
Tax system:
There are number of different types of taxes that a federal government collects from the tax payers in the country to gather required revenue to be expended on budgeted and non-budgeted programs of the government. Out of all the taxes the largest portion of revenue that federal government collects are from individual income tax and taxes on payroll. Most of the developing countries generate almost 75% to 90% of their entire tax revenue from payroll tax and individual income tax (Lardy, 2016). Cuts on individual income tax rates would obviously influence the ability of the government to generate necessary revenue for its planned and non-planned activities which are essential to the progress and development of the country and its economy.
Debate on tax cuts
A developing country requires significantly higher amount of spending on planned activities to smooth the path of growth and development of the country. However, tax cuts in individual income tax rate would mean that the government will be compromising on the revenue generation ability which will reduce the amount of money to be spend on planned and budgeted activities of the government (Suárez Serrato and Zidar, 2016).
Income, interest received, gain from sale of capital assets, dividend received are all example of income in the hand of individuals in the country. All these receipts are aggregated to calculate taxable income of an individual in a country on which personal income tax rates are imposed as per the amount of taxable income to collect personal income tax. Generally the individuals who have higher income pay higher rate of taxes compared to an individual with lower amount of personal income (Piketty, 2015).
A tax cut in personal income tax rate would reduce the amount of personal income tax collected by the government. As already mentioned that personal income tax along with payroll tax are the two primary sources of taxes which almost comprise of 75% to 90% of tax revenue of a federal government. Any tax cut in the personal income tax rate would reduce the amount of personal tax collection by the government which will adversely affect the revenue generation capability of the government.
Payroll tax is collected by imposing a fixed percentage on the amount of salaries and wages of the employees and paid by both employers and employee. There is limit on payroll taxes as only to a certain extent such tax is imposed and collected from the employees and employers. By implementing tax cuts in personal income tax and payroll tax a government will risk its major source of taxes which are used for different purposes within the country. Most of the expenditures by a developing country is on development of infrastructure to aid in the progress and development of the economy (Brys et. al. 2016). With significant reduction in revenue generation by a government subsequent to the tax cuts there would be major implication on the infrastructural development within the country to adversely influence the progress and development of an economy of a developing country.
However, despite the fact that reduction in personal tax rates and payroll tax cuts would adversely affect the revenue generation ability of a government the historic data shows that all the developed as well as developing nations have continuously reduced the rate of income taxes on the amount of personal income (Mitchell and Leachman, 2015).
Tax rates in US:
The most developed nation on the face of the planet, United States of America (USA) once used to collect as high as 94% of tax on the personal income of individuals in the country which has been reduced progressively over a period of time. Despite the reduction in the personal tax rates the country has seen huge development in the economic activity within the country. Federal income tax at present is about 10% with 18% tax collected by the State. Despite the reduction in personal income tax rate progressively over the years the country has seen constant growth in its overall revenue from taxes. The Federal income and tax receipts in total as a percentage from 1945 to 2011 can be seen in the following graph (Leachman et. al. 2016).
Tax system and revenue generation
The increase in gross revenue of the country from taxation over the years is quite visible in the above graph. The economic development and progress of the country has not been stopped despite the continuous reduction in the amount of personal income tax as can be seen from the above graph as well as the overall development of the country. However, since the country is a developed nation hence, it is important to evaluate the implication of tax cuts on the economy of developing nations to assess the effects of tax cuts on developing economies (Zidar, 2015).
Tax rates in the United Kingdom:
Personal income tax rate in the UK has seen significant fluctuations over the years and it is clear from the diagram below.
As can be seen that between 1995 and 2009 the country has not seen any fluctuations in the personal income tax rate. However, subsequent to that there has been major increase in personal income tax rates between 2010 and 2013. Since 2013 however, tax rates have been reduced and the tax cuts have been implemented in the personal income tax rates in the country. The increase and decrease in personal tax rates in recent times can be understood from the following graph better (Gale, Krupkin and Rueben, 2015).
Till 2009 the personal income tax rate in UK was 40% which was increased by 10% in 2010 to 50%. The rate of 50% tax on personal income was in force for 3 continuous years since 2010. In 2013 the rate of personal income tax was reduced to 45% which is in force till now.
Apart from personal income tax rate the tax cuts in other taxes in the country is also visible over the years in the following picturesque depiction:
The corporate tax rate was as high as 52% in the country once now is only 19% with social security rate of 25.80%. This shows the tax cuts in various aspects of tax revenue of the country.
Tax in India:
In order to document the impact of tax cuts in developing nations such as China, India and other major developing nations it is important to assess the tax culture and system in these developing nations to correctly evaluate the impact of tax cuts in these countries.
Personal income tax rate in India:
The personal income tax rate in India has shown an increasing trend over the years. As can be seen the graphical representation below that personal income tax rates in the country has seen significant increase over the last few years (Turner and Blagg, 2018).
Being a developing country and in fact one of the fasted developing nations on the planet, the personal income tax rates in the country has showed an increasing trend and there has been no tax cuts on personal income tax rate in the country.
However, the average corporate tax rate, one of the major sources of revenue for the country, has seen significant cuts in recent time. Once as high as 38.95% in average corporate tax rate in the country at present is 34.61% on average (Rose and Karran, 2018).
Personal income tax
Tax rates in China:
Personal income tax rate in China has been steady at 45% for long period of time. With 45% rate of personal income tax there has been no fluctuation in income tax rates of individuals in the country for number of years now.
As can be seen in the above graph that since 2010 the personal income tax rate in the Republic of China has been 45%. However, though there has been no changes in personal income tax rate for a long period of time in the country the corporate tax rates have been reduced over the years. The graph below shows the highest and current tax rates for different taxes in the country (Fich, Rice and Tran, 2017).
Significant tax cuts have been implemented in corporate tax rates in the country with the corporate profits are taxable at 25% whereas earlier it was around 33%.
Impact on economy of tax cuts:
The argument put forward by the advocates of economic strategy of cutting taxes is that tax cuts would spur economic growth as the tax cuts would result in low amount of tax to leave higher amount of after tax income in the hands of the tax payers. The extra amount of after tax income in the hands of the tax payers would be used in purchase and acquisition of goods and services which would spur economic growth (Mertens, 2018). Thus, the advocates of tax cuts to spur economic growth in the country present their argument from the demand theory. The lower amount of tax means that the tax payers would have higher amount of after tax income in hands which either will be used to buy goods and services to stimulate economic growth or to be used for investment and saving which in turn would affect the availability of funds in the economy to increase productivity within the economy.
Evaluating of the argument of economic growth resulting from tax cuts:
However, number of studies have been conducted on the spending nature of tax payers to evaluate whether the argument of advocates of tax cuts is logical or not. Most of the studies have showed that it is not necessary that the increase in after tax income of the tax payers due to tax cuts would result in higher growth as the amount will be spent on purchasing goods and services to stimulate economic growth.
As per the study the amount spend for each dollar saves in tax by the high income earners is significantly less compared to the low income earners. On an average low income earners spend almost 80% of the tax savings whereas only 40% of the tax saved amounts are spend by the high income earners. Thus, the top marginal and capital gain tax rates would not affect the economic growth as per the findings of the study. The tax cuts on wealthy thus, in all probability would not affect the economic growth positively.
Emotions of tax cuts along with optics:
Payroll tax
In simple the emotion of tax cuts show that a person who pays most are also expected to benefit most from tax cuts. For example reduction in sales tax rate would benefit the buyer buying costlier product compared to a buyer buying relatively less expensive product, a person buying a Ferrari will end up paying $2,000 less with a cut of 2% in sales tax compared to a person buying a simple Honda who would at a most may end up benefiting by $200.
Income tax cuts would also benefit the higher income earners more as opposed to low income earners. For example a reduction of 10% in income tax rate for a low income earner with annual taxable income of $50,000 would reduce his income tax liability by $5,000 where-as even a 5% reduction in tax rate for annual income level of $200,000 would reduce the income tax liability of the person by $10,000. Thus, in general the tax cuts are meant to benefit the high income earners more than low income earners. However, as long as the tax cuts are progressive and inclusive for the economic development it would benefit a developing economy to stimulate its economic growth.
Budget deficits:
Tax cuts by the government of developing countries could result in budget deficit at-least in the short run for such governments if not correctly evaluated and implemented. The tax cuts will reduce the amount of revenue generated by the governments and in the short run if there is no alternative to make good the loss of revenue for implemented tax cuts would result in budget deficits for the governments. In order to reduce the budget deficits generally the governments restore to cutting spending.
It has already been established that low income earners are mostly affected by the cut of spending of the government as opposed to high income earners. In addition the spending cuts would affect the infrastructural development and progress of an economy which would adversely influence the development and progress of such economies. Thus, implementation of tax cuts would have to be made very carefully to ensure that the progress of developing countries is not adversely affected due to such tax cuts (Lardy, 2016).
Tax cuts to be implemented by considering the above:
Hence, it is clear that the tax cuts must be implemented by taking into consideration that in all probability the tax cuts on the wealthy would not lead to any positive effect on the economic growth and prosperity of a developing nation as the findings of most studies have showed that high income earners spend significantly lower amount of tax savings on purchasing of goods and services as compared to the low income earners. The tax cuts must help an economy to grow and develop by stimulating the growth components within the economy and not acting as a roadblock for the development and progress of the economy (O’connor, 2017).
Conclusion:
Summarization from the above makes it amply clear that tax cuts must be implemented properly to ensure there is no adverse impact on the economic progress of developing economies. Since, most of the tax cuts will end up benefitting the high income earners more than low income earners, appropriate strategy shall be made to implement tax cuts in such a way to make sure that the objective of stimulating economic growth by increasing purchase of goods and services is achieved. It is absolutely clear though that tax cuts result in savings and investment which in turn increase productivity of an economy. Thus, tax cuts if implemented properly would work as an enabler to economic growth and development.
References:
Brys, B., Perret, S., Thomas, A. and O’Reilly, P., 2016. Tax design for inclusive economic growth.
Fich, E.M., Rice, E.M. and Tran, A.L., 2017. Corporate tax cuts, merger activity, and shareholder wealth.
Gale, W., Krupkin, A. and Rueben, K., 2015. The Growth Mirage: State Tax Cuts Do Not Automatically Lead to Economic Growth. Washington, DC: Urban-Brookings Tax Policy Center.
Gale, W.G. and Samwick, A.A., 2014. Effects of income tax changes on economic growth. Economic Studies.
Lardy, N.R., 2016. China: Toward a consumption-driven growth path. In SEEKING CHANGES: The Economic Development in Contemporary China (pp. 85-111).
Leachman, M., Albares, N., Masterson, K. and Wallace, M., 2016. Most states have cut school funding, and some continue cutting. Center on Budget and Policy Priorities, 4.
Mertens, K., 2018. The Near Term Growth Impact of the Tax Cuts and Jobs Act (No. 1803).
Mitchell, M. and Leachman, M., 2015. Years of cuts threaten to put college out of reach for more students. Center on Budget and Policy Priorities, 13.
O’connor, J., 2017. The fiscal crisis of the state. Routledge.
Piketty, T., 2015. About capital in the twenty-first century. American Economic Review, 105(5), pp.48-53.
Rose, R. and Karran, T., 2018. Taxation by political inertia: Financing the growth of government in Britain. Routledge.
Suárez Serrato, J.C. and Zidar, O., 2016. Who benefits from state corporate tax cuts? A local labor markets approach with heterogeneous firms. American Economic Review, 106(9), pp.2582-2624.
Turner, T.M. and Blagg, B., 2018. The Short-term Effects of the Kansas Income Tax Cuts on Employment Growth. Public Finance Review, 46(6), pp.1024-1043.
Warren, A.G., 2015. Enough is Enough: Business Tax Cuts Fail to Grow the Economy.
Zidar, O.M., 2015. Tax cuts for whom? Heterogeneous effects of income tax changes on growth and employment (No. w21035). National Bureau of Economic Research.
Zidar, O.M., 2015. Tax cuts for whom? Heterogeneous effects of income tax changes on growth and employment (No. w21035). National Bureau of Economic Research.
Order an Essay Now & Get These Features For Free:
Turnitin Report
Formatting
Title Page
Citation
Outline
