Effects of Increases in Value Added Tax: A Dynamic CGE Approach

Working paper 558
Jean Luc Erero
Publication date: 
November, 2015

This paper analyses the effects of increases in value added tax (VAT) through a dynamic computable general equilibrium model. The database of the model encompasses a social accounting matrix (SAM) for the year 2010. All the important South African taxes are included in the SAM and the household sectors are disaggregated according to income deciles, with the top decile being further split into five groups. Five different simulations are performed, ranging from 1% increase in the VAT to 5% over the period 2012 to 2018. Our findings show that the percentage increase in VAT would not affect lower income households negatively if the higher government revenue flowed to the lower income households. For example, the 1% increase in the VAT rate impacts on the investment through the price of capital. The change in investment means that any adjustment in capital stock will affect the production and demand for labour that might impact on the standard of living of all income groups. The GDP increases slightly by 0.02173% in 2013 and reports a positive change for the period between 2013 and 2018. This shows that in the short run the GDP depends on other variables such as investment and consumption, which likewise are positively affected by this shock.

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