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The IUP Journal of Public Finance :
Economic Effects of Value Added Tax
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The article analyzes the effect of VAT on the macro-economic variables as savings, investment, tax regressivity, consumption pattern, tax revenue and foreign trade. VAT has the capacity to increase savings if it is substituted for part or all of the income tax and this has been proved empirically. Although by design VAT has regressive elements, in practice the regressivity of VAT depends on several factors such as the consumption patterns of higher and lower income groups, taxes replaced, the exemptions and zero ratings. The international evidences on regressivity of VAT reveal a mixed picture. In general, VAT promotes investment if it replaces distortionary taxes and earns more revenue to the government. Finally, VAT ensures that international trade takes place on a transparent basis and avoids distortions like tax cascading associated with alternative commodity taxes.

After almost a decade of initiatives and deliberations at various levels, the states of India have woken up to the Value Added Tax (VAT) regime from the dawn of April 1, 2005. At present, a majority of the Indian states have a VAT system in place. In fact, owing to its superiority over other forms of commodity taxes, VAT has been adopted in 130 countries. However, VAT has eluded India for quite a long time, only to be introduced partially in the form of Modified Value Added Tax (MODVAT) in 1986 at the central government level. But at the state-level, the introduction of VAT took even longer. This is despite the fact that several federal countries such as Argentina, Austria, Brazil, Canada, Columbia, Germany and Mexico have successfully switched over to the VAT system much earlier. No wonder, the development is termed as a "historic tax reform" at the state level in India.

The primary objective of taxation is to raise resources for the government to perform its various functions. However, apart from earning revenues, taxes affect the behavior of economic agents and the level of economic activities in a significant way. A VAT is not an exception. Its effects are felt all over the economy. This is because VAT influences several variables such as savings, investment, consumption pattern, tax revenue and foreign trade. This article examines the effect of the introduction of VAT on these variables.

 
 
 

Economic Effects of Value Added Tax, VAT on the macro-economic, variables as savings, investment, tax regressivity, consumption pattern, tax revenue and foreign trade, VAT , income tax, regressive elements, economic agents.