The Value-Added Tax: Its Causes and Consequences; Michael Keen and Ben Lockwood; IMF Working Paper 07/183; July 1, 2007

This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate. Has the VAT proved, as its proponents claim, an especially effective form of taxation? To address this, this paper first shows that a tax innovation—such as the introduction of a VAT— reduces the marginal cost of public funds if and only if it also leads an optimizing government to increase the tax ratio. This leads to the estimation, on a large panel, of a system of equations describing the probability of VAT adoption and the revenue impact of the VAT. The sign of the revenue impact is generally ambiguous, but most countries that have adopted a VAT seem to have gained a more effective tax instrument in doing so. JEL Classification Numbers: H20, H21