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The effects of tax rate changes on tax bases and the marginal cost of public funds for Canadian provincial governments

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  • Bev Dahlby

    ()

  • Ergete Ferede

    ()

Abstract

The efficiency losses from taxation vary directly with the responsiveness of a government’s tax bases to tax-rate increases. We estimate the dynamic responses of tax bases to changes in tax rates using aggregate panel data from Canadian provinces over the period 1972 to 2006. Our preferred empirical results indicate that a one percentage point increase in corporate income, personal income, and sales tax rates is associated with a 3.67, 0.76, and 1.17 percent reduction in their respective tax bases in the short run. The corresponding long-run tax base semi-elasticity estimates are higher: −13.60, −3.63, and −3.18, respectively. We use the tax base elasticity estimates to calculate the marginal cost of public funds (MCF) for the provinces’ three major taxes. Our computations indicate that the corporate income had the highest MCF and that the sales tax had the lowest MCF in all provinces in 2006. The MCF for the personal income tax ranged from 1.44 in Alberta to 3.81 in Quebec. Our results imply that there would have been significant welfare gains in 2006 from reductions in provincial corporate income tax rates. Our computations also indicate that the equalization grant formula may reduce the perceived MCF of the provinces that receive these grants, and that increases in provincial corporate and personal income taxes can cause significant reductions in federal tax revenues. Copyright Springer Science+Business Media, LLC 2012

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File URL: http://hdl.handle.net/10.1007/s10797-012-9210-7
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Bibliographic Info

Article provided by Springer in its journal International Tax and Public Finance.

Volume (Year): 19 (2012)
Issue (Month): 6 (December)
Pages: 844-883

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Handle: RePEc:kap:itaxpf:v:19:y:2012:i:6:p:844-883

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Web page: http://www.springerlink.com/link.asp?id=102915

Related research

Keywords: Tax base elasticity; Marginal cost of public funds; H21; H71;

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References

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  1. How much new revenue would be generated by an increase in federal corporate taxes?
    by Stephen Gordon in Worthwhile Canadian Initiative on 2013-12-07 21:55:09
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Cited by:
  1. Salvador Barrios & Jonathan Pycroft & Bert Saveyn, 2013. "The marginal cost of public funds in the EU: the case of labour versus green taxes," Taxation Papers 35, Directorate General Taxation and Customs Union, European Commission.

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