An Analysis of the Relations Between Tax Structure and Gross Domestic Product in European Transition Economies

Mehmet Hanefi Topal

Abstract


The impact of taxation on long-run gross domestic product (GDP) level is one of the most important controversial issues in the literature. Nevertheless, there is no consensus how a non-distortionary taxation can be applied. The purpose of this study is to investigate the long-run relations between tax structure and GDP growth by using the annual data of 12 European transition economies covering the period of 1995-2015. The pooled mean group (PMG) estimation method developed by Pesaran et al (1999) was used to analyze the relations between tax structure and long-run GDP growth. The income effects of tax burden, tax mix, tax composition and revenue-neutral shifts were estimated by applying alternative model specifications The findings suggest the following results. (1) Tax policy affects long-run GDP growth in transition economies, (2) high tax burden with direct taxation (personal income tax, corporate tax and property taxes) are generally associated with lower long-run GDP growth while indirect taxation is associated with higher long-run GDP growth, (3) consumption taxes (except trade taxes) are the most growth-friendly while all the other taxes damage long-run growth. (4) Additionally, revenue-neutral reduction in income, property and trade taxes, offset by increases in domestic consumption taxes, appear to be growth-friendly.

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