Taxation and Inflation in Kenya

International Journal of Research and Scientific Innovation (IJRSI) | Volume VI, Issue IX, September 2019 | ISSN 2321–2705

Taxation and Inflation in Kenya

Dr. Evans Ovamba Kiganda (PhD)^1*, Dr. Scholastica Odhiambo (PhD)², Dr. Nelson Obange (PhD)³

¹Lecturer Kaimosi Friends University College (KAFUCO), P.O. Box 1926 – 40100 Kisumu, Kenya
^2,3Lecturer, Department of Economics, Maseno University, Kenya
*Corresponding author

Abstract: – Taxes remain a major source of revenue for a country and can have several impacts on the economy. Studies examining the influence of taxation on inflation have reported mixed results and did not break down taxation into its components. This creates uncertainty with regard to the influence of taxation components like excise duty (ED), import duty (ID), income tax (IT) and Value Added Tax (VAT) on inflation. This study’s objective was to establish the influence of taxation on inflation in Kenya to bridge the knowledge gap. Monthly time series data from Central Bank of Kenya spanning 132 months from 2005 to 2015 was used for analysis based on variance decomposition and impulse response analysis. Results indicated that total tax had a positive influence on inflation. However, influence was highly due to indirect taxes. In view of this, the study recommends adoption of fiscal policy that target reduction in taxation that are likely to lower production costs leading to a reduction in inflation in Kenya.

Keywords: Inflation, taxation, Kenya

I. INTRODUCTION

Taxes remain a major source of revenue for a country and can have several impacts on economic performance. According to the tax competition theory, a reduction in tax rate of capital causes increased investment into a nation since taxation is a costs for the investor (Hakim & Bujang, 2012). In particular, to increase incomes, governments choose to increase direct and indirect tax rates which include IT, VAT, ED and ID (Gautier & Lalliard, 2014). According to European Central Bank (2011), fiscal policy adjustments involving variations in taxation, may have a direct and immediate influence on inflation. However, likely influence remains debatable where some analysts claim that tax reduction can spur economic growth while others argue it can increase interest rate which lowers investment confidence and in so doing reduce output (Romer & Romer, 2010).

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