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The growth trade-off between direct and indirect taxes in South Africa: Evidence from a STR model

Phiri, Andrew (2016): The growth trade-off between direct and indirect taxes in South Africa: Evidence from a STR model.

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Abstract

The tax system forms the backbone to the functioning of the South African fiscal authorities and it is has been recently questioned whether alterations in the existing tax mix could promote economic growth. Using quarterly data from 1990:Q1 and 2015:Q2, this study investigated the effects of direct and indirect taxes on economic growth for South Africa using the recently developed smooth transition regression (STR) model. Our findings suggest an optimal tax of 10.27 percent on the indirect tax–growth ratio, of which below this rate indirect taxes are positively related with economic growth whereas direct taxes are negatively related with growth. Above the optimal tax rate, taxation bears no significant relationship with economic growth. We therefore suggest that policymakers place a greater burden on indirect taxes and yet ensure that the contribution of indirect taxes to economic growth does not exceed the threshold of 10.27 percent.

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