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Tax Policies and Informality in South Africa

Author

Listed:
  • Eliane El Badaoui
  • Riccardo Magnani

Abstract

We use a micro-macro simulation model to evaluate the effects of labor income tax policies in South Africa. The country is characterized by a high unemployment rate while employment in the informal sector is relatively low. Our approach is based on the aggregation of the preferences of individuals who choose among (i) working in the formal sector,(ii) working in the informal sector, and (iii) not working. We quantify the effects of different tax policies on the individual's labor supply choices (formal/informal employment, work/leisure) and at the macro level (GDP, equilibrium wages, size of the informal sector, and unemployment rate). We further analyze the effects in terms of income distribution, poverty and inequality. We find that the introduction of a negative income tax system reduces inequality and poverty but, at the same time, discourages people from participating in the labor market and working in the formal sector and, consequently worsens the equitye efficiency trade-off. We find however that the equity-efficiency trade-off can be improved by introducing (i) a (revenue-neutral) tax system which combines a sufficiently high at rate (25%) and lump-sum transfer paid only to formal workers; (ii) an expansionary policy (a reduction in total taxes or an increase in public expenditures). Interestingly, even though they increase the informal sector, these reforms reduce inequality and poverty through a reduction in the level of unemployment.

Suggested Citation

  • Eliane El Badaoui & Riccardo Magnani, 2015. "Tax Policies and Informality in South Africa," EconomiX Working Papers 2015-22, University of Paris Nanterre, EconomiX.
  • Handle: RePEc:drm:wpaper:2015-22
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Tax Reform; Informal Sector; Labor Supply; CGE Model; Microsimulation; South Africa.;

    JEL classification:

    • J22 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Time Allocation and Labor Supply
    • H24 - Public Economics - - Taxation, Subsidies, and Revenue - - - Personal Income and Other Nonbusiness Taxes and Subsidies
    • O17 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Formal and Informal Sectors; Shadow Economy; Institutional Arrangements
    • C68 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computable General Equilibrium Models

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