Tax Reforms and Fiscal Shock Smoothing

IMF Working Papers, May 23, 2019

Source details

Scope: panel of 13 OECD economies during the period 1980-2017.
Main result: tax reforms, in particular those that broaden the tax base, significantly enhance the ability of fiscal policy to mitigate the impact of growth shocks on disposable income.
Quantitative effect: the magnitude of shock smoothing increases from an average of 2 percent to 3-3½ percent following the reform.
Comparative effects:
- Effects are considerably higher for tax base changes than for tax rate changes.
- Effects are higher for indirect tax changes than for direct tax changes.
Symmetry: the effects are symmetric—that is, the increase in shock smoothing following a reform expanding the tax base (rate) is similar to the decline in shock smoothing after a reform narrowing the tax base (rate).

Tax elasticity is an important channel through which tax reforms affect fiscal stabilization.
Collection efficiency is an important channel through which tax reforms affect fiscal stabilization.
The progressivity of the tax system is an important channel through which tax reforms affect fiscal stabilization.

Reforms that broaden the tax base can materially strengthen fiscal shock-smoothing capacity.
Emphasize measures that improve tax elasticity and collection efficiency to amplify stabilization benefits.
Consider the distributional implications tied to the progressivity of the tax system when designing tax reforms aimed at shock smoothing.

Tax Reforms and Fiscal Shock Smoothing, IMF Working Papers 2019, 113 (May 23, 2019).