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Welfare Implication of Tax Rates Increase in a Recessionary Economy

Ibrahim, Umar Bambale and Abubakar, Isah Funtua (2020): Welfare Implication of Tax Rates Increase in a Recessionary Economy.

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Abstract

In this work, we compare the welfare cost of the two tax policy options in Nigeria, by applying a small-open economy within the New-Keynesian Dynamic Stochastic General Equilibrium Model (NKDSGE) of Nigeria augmented by a robust fiscal sector with several tax rules. Increase in tax rates has different welfare implications in a recessive economy. Increase in Consumption tax VAT rate is welfare superior compared to increase in CIT rate, which harms private agents’ incentive to invest in either new or existing venture. Hence, data does not support tax reform in the form of increase in Company Income Tax rate. Our finding implies that the current Nigerian tax reform in the form of an increase in VAT rate while allowing other tax rates unchanged is the right policy direction.

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