An Analysis of the Relationship between Tax Revenue and Public Expenditure in Nigeria
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In the name of Allah most gracious most merciful, All praises are due to Allah (SWT), lord of the world, creator, cherisher, sustainer of one and all, who has given us the chance, health, wisdom and opportunity to be part of this project and have the ability to present this report of what we have learnt so far.
The study investigatedon the relationship between tax revenue and public expenditure in Nigeria for the period of 1985-2017. To achieve the objective of the study, relevant secondary data were collected from the Central Bank of Nigeria (CBN) Statistical Bulletin. The study set out to test both long run and causal relationship between tax revenue and public expenditure in Nigeria. An empirical investigation was conducted using time-series data on oil revenue, non-oil revenue and capital expenditure from 1985-2017. The technique employed in the study include were Augmented Dickey Fuller test, Johasen Co-integration test, Vector Error Correction Model, Granger Causality test, and diagnostic test. The results shows a significant long-run relationship and a uni-directional relationship between tax revenue and public expenditure in Nigeria.The study recommends that Government should endeavor to provide social amenities to all nooks and crannies of the country as this will boost the level of tax compliance in Nigeria.
1.1 Background of the study.
In the global economic administration, physical policy of the government considers the following things such as revenue (tax and non-tax), government expenditure, and deficit or surpluses which are the fundamental elements of physical policy of any states. The tax is major sources for a country’s income which is used to develop the economy of nation’s Ahuj (2002) &somaye (2012). The government expenditure consists of expenses which a government incurs in protecting its citizens and increasing their economic and social welfare. The expenditure incurred by the government to help other countries is also a part of the total government expenditure Khoon (1999) &Jingan (2004). Taxes in Nigeria have been, and still are an important source of government revenue and the most dependable source of governing funding. In many countries, tax relief has become significant to boost the economic growth by providing social amenities.
Taxation is an age long concept which dates back to the pre-colonial era in Nigeria. Taxes were paid through different kinds of manual labour for the entire community benefit. Some examples of such services are cleaning of bushes, digging of pit toilet, well etc for the benefit of the community as a whole, failure to render such services usually resulted in seizing of property which will be claimed only on payment of money. . In 1904, during colonial rule, late lord Lugards government introduces income tax to Nigeria and community tax was being paid in Sokoto caliphate, northern Nigerian. Adabayo (2004) defined taxation as a legal demand made by federal government or states government for its citizens to pay money on income of goods and services. Taxation policy itself is a fundamental element for economic policies, ensuring that countries are able to maintain and improve its global competitiveness and to expand. Public expenditure is spending made by government of a country in collective needs and wants such as pension and provision of infrastructure, until the 19th century, public expenditure was limited to laissez-faire philosophy which believed that money left in private hands could bring better returns. The pattern of government expenditure in Nigeria over the years has to a large extent been driven by crude oil endowment, which is reflected in generated revenue (Akanbi, 2014). In 20th century, Keynes argued the role of public expenditure in determining levels of income and distribution in the economy.
1.2 Statement of the Problem.
The main reason of taxation is to finance government expenditure and to redistribute wealth which translate to financing of the country 017 (2001), Jhingan (2084), Musgrave and Musgrave (2004), and Bhatia (2009). Government collects taxes in order to provide an efficient and steadily expanding non-revenue yielding services such as infrastructure facilities, education health, employment opportunities and essential public services ( such as the maintenance of law and order) irrespective of the prevailing ideology or political system of a particular nation. However, in Nigeria the contribution of tax revenue has not been encouraging, thus expectation of government are being cut short corruption, evasion, avoidance and tax haven indicators are strongly associated with low revenue Attila, Chambas, and Combes (2008) and indeed, corruption functions like a tax itself. According to Adegble and Fakile (2011) the more citizens lack knowledge or education about taxation in the economy, the greater the desire and the opportunities for tax evasion, avoidance and non- compliance with relevant tax laws. The problems of tax revenue is associated with public expenditure (spending) because if tax are not raised government will not generate revenue to provide public expenditure in form of social amenities such as hospitals, employment opportunities,etc. But, if government raise taxes and generate more revenues then it will surely help in providing more public expenditure that will benefit the citizens of the country. Given the above issues, the research study seeks to assess the relationship between tax revenue and public expenditure in Nigeria.
1.3 Research Questions
This research seeks to investigate the impact of tax revenue and public expenditure in Nigeria and therefore seek to answer the following research questions:
i. Does a long run relationship exist between tax revenue and public expenditure in Nigeria?
ii. What is the causal relationship between tax revenue and public expenditure in Nigeria?
iii. To what extent does tax revenue contribute to public expenditure in Nigeria?
1.4 Objectives of the Study.
The board objective of this study is to ascertain the impact of tax revenue and public expenditure in Nigeria. Other specific objectives include:
i. To determine long run relationship between tax revenue and public expenditure in Nigeria.
ii. To investigate the causal between tax revenue and public expenditure in Nigeria.
iii. To determine how tax revenue contribute to public expenditure in Nigeria .
1.5 Statement of Hypothesis.
The hypotheses to be tested in the course of this study include:
i. There is no significant long run between tax revenue and public expenditure in Nigeria.
ii. There is no casual relationship between tax revenue and public expenditure in Nigeria.
iii. Tax revenue does not contribute significantly to public expenditure in Nigeria.
1.6 Significant of the study
The purpose of the study is to investigate the causality and relationship between on tax revenue and public expenditure in Nigeria. The government of Nigeria is undertaking policies that will promote the collection of taxes in order to provide expenditure or spending in order to promote its economic growth, this study would act as a source of information on various ways the government can expand her spending to improve the living standard of its Masses and its instruments for stabilizing the economy. It will help researchers have indepth knowledge of the role of government expenditure and tax revenue in Nigeria. In fact it will also be a source of information for other researchers in the subject area especially public finance.
1.7 Scope and limitation of the study
The scope of this study involves the analysis of the relationship between tax revenue and public expenditure in Nigeria. In order to fully capture its relationship on its economy thorough empirical investigation will be conducted with data for a period of 32years i.e 1985-2017.
1.8 Chapter organization
Chapter one contains the general introduction which provides the background to the study, statement of the problem, research questions, objectives of the study, hypothesis of the study, significant of the study, scope and limitation of the study.
Chapter two examines the works of economists on the subject matter of tax revenue and public expenditure. It also consist of introduction, conceptual framework, theoretical framework and review of empirical studies
Chapter three consist of introduction, research design, sources of data and data analysis techniques.
Chapter four consists of introduction, presentation of result, discussion of result and summary of findings.
Chapter five consist of introduction, summary, conclusion and recommendation.
This chapter consist of literature reviews, the conceptual framework, theoretical and review of empirical studies of studies related to tax revenue and public expenditure in Nigeria.
2.1 Conceptual literature review
Concept of public expenditure
Public expenditure refers to the government expenditure. It is incurred by central and state governments. The public expenditure is incurred on various activities for the welfare of the people and also for the economic development, especially in developing countries. In other words, the expenditure incurred by public authorities like central, state and local government to satisfy the collective social wants of the people is known as public expenditure Akrani (2010).
According to Gaurave (2012) public expenditure is the spending made by the government of a country on collective needs and wants such as pension, provision, infrastructures, etc.
2.1.1. Types of public expenditure
Public expenditure may be classified into developmental and non-developmental expenditure. Developmental expenditure includes the expenditure incurred on social and community services, etc. Non-developmental expenditure include expenditures made for administrative services, defenses services, debt servicing, subsides, etc.
Public expenditure is classified into revenue expenditure and capital expenditure. Revenue expenditure includes civil expenditure (e.g. general services, social and community services and economic services),defence, and general services.
There are also three (3) major types of public expenditure;
Current expenditure or Government final consumption expenditure on goods and services, for current use to directly satisfy individual or collective needs of the members of community.
Capital expenditure or fixed capital formation (or government investment) government spending on goods and services intended to create future benefits, such as infrastructure, investment in transport (roads, rail airports) health (water collection and distribution, sewage systems, communication (telephone, radio, and tv) and research spending (defence, space,genetics).
Transfer payment; spending that does not involve transaction of goods and services, but instead represent transfer of money, such as social security payments, pensions and unemployment benefits.
2.1.2. Purposes of public expenditure
Government spends money for a variety of reasons, including
To supply goods and services that private sector would fail to do, such as public goods, including defense, roads and bridges, merit goods such as hospital and schools, and welfare payments, including unemployment and disability benefit.
To achieve supply-side improvements in the macro- economy, such as spending on education and training to improve labour productivity.
To reduce the negative effect of externalities, such as pollution controls.
To help the redistribution of income and achieve more equity.
To inject extra spending into macron-economy, to help achieve increases in aggregate demand and economic activity.
2.1.3. Challenges of public expenditure
Corruption and inefficiency among the collectors.
Donor funding is not reliable, or might not be given on time.
People evade taxes or even fail to declare wealth.
Some people, lowest income earners are not taxed yet they benefit from taxes.
2.1.4 TAX REVENUE
Concept of tax revenue
Taxation is an instrument employed by government for generating funds (Anyaduba 2014). It required payment imposed by government on income, profit, or wealth of individuals, group of persons, and corporate organization. The main purpose of tax is to enable public sectors finance its activities so as to achieve some nation’s economic and social goals. It can also be used as an instrument for achieving both micro and macroeconomic objectives especially in developing countries such as Nigeria. OECD (2018).
Appah (2014) define tax as a compulsory levy imposed on a subject or upon his property by the government to provide security, social amenities and create conditions for the economic well-being of the society.
Bhatia (2009) argues that tax is a compulsory levy payable by an economic unit to government without any corresponding entitlement to receive a definite and direct quid Pro quo from the government.
Tax revenues the income that is gained by government through taxation. Taxation is the primary source of income for a state. Revenue may be extracted from sources such as individuals, public enterprises, trade, royalties, natural resources and low foreign aid. Brautigam (2002).
Tax revenue is defined ‘‘as the revenue collected from taxes on income and profits, social security contributions, taxes lived on goods and services, payroll taxes, taxes on the ownership and transfer of property, and other taxes’’. OECD (2018).
Tax revenue refers to compulsory transfers to the central government for public purposes. Certain compulsory transfer such as fines, penalties, and most social security contributions are excluded. Refunds and corrections of erroneously collected tax revenue are treated as negative revenue (international monetary fund, World Bank and OECD GDP estimate).
According to Akrani (2010) taxes are the first and foremost sources of public revenue. Taxes are collected by government and used to provide common benefits to all mostly I form of public welfare services. Taxes do not guarantee and direct benefit from person who pays the tax. It is not based on direct quid pro quo principle.
2.1.5. Objectives of tax
Taxation is the major source of revenue for the government, in order to accelerate economic development. The government needs huge amount of resources. It is the way to transfer the resources from private sectors to government sector. The objectives of tax to Cutt (1969).
Rising of revenue:
The classical function of tax system is the raising of the revenue required to meet the expenditure. This income required to keep the expenditure which are either the provision of goods and services which members of public cannot provide such as defense, law and order to the provision of goods and services which the federal and state government fee are better provided by itself such as infrastructural facilities.
In modern times, great emphasis has come to be placed on the objectives of redistribution of wealth. This has two quite distinct forms. The first doctrine is that taxation should be based on ability to pay and is summarized by the saying that “The greatest burdens should be borne by the broadest backs”. The second presupposes that the present distribution is unjust and concluded that this should therefore be undone. This second principle sees confiscation as legitimate objectives of taxation.
Economic price stability:
It has been said that the most fundamental reason a government has for taxing its citizens is to provide a reasonable degree of price stability within the nation (summer field, et al, 1980). Most spending by the public and private sectors without taxes generate high demand, which is inflationary. In such a situation, the basic function of taxation is to reduce private expenditure in order to aloe government spend without causing inflation. Thus, taxation is basically a deflationary measure. On the other hand, when aggregate demand is lower than the observed level, government has two options which are to increase government spending with increasing stable.
Economic growth and development:
The overall control or management of the economy rests on the central government and taxation plays important role in this direction. In addition to maintaining reasonable price stability, government and determined to promote the near full employment of all the resources of the country (including human resources i.e. labour) and ensure a satisfactory rate of economic growth. Economic growth and development programs are geared towards raising the improvement of their economic and social conditions. Taxation is one of the ways that discourages, postpones or reduces consumption and encourages saving for private investment.
2.1.6. There are 3 types of taxes, which are:
Proportional tax: This type of tax is also called neutral tax. It is a form of tax where payers pay the same percentage or proportion of their income of stock wealth as tax. In order words, the tax rate is the same in respective of the level of income.
Progressive tax: Is a form of tax in which the rate of tax increases, stock of wealth or value of property to the tax increases. The law states that the higher the tax base, the higher the tax rate.
Regressive tax: This is the opposite of progressive tax. It means that as the income of stock of wealth of the tax decreases, the tax rate decreases. This implies that tax falls heavily on lower earners which is against the principle of equity.
2.1.7. TAXES COLLECTED BY FEDERAL GOVERNMENT OF NIGERIA
All taxes in Nigeria are collected by Nigerian’s federal Inland Revenue services (F I R S). According to the federal Inland Revenue services, there are nine (9) types of taxes in Nigeria:
Companies income tax (CIT)
Petroleum profit tax (PPT)
Value added tax (VAT)
Personal income tax (PIT)
Withholding tax (WHT)
Education tax (EDT)
Stamp duties (STD)
Capital gains tax (CGT)
National information technology development fund (NITDF).
2.1.8. Challenges of tax revenue collection in Nigeria
Naiyeju (2010) highlighted some of the various challenges of the tax collection and administration in Nigeria today:
Administration challenge: Most of the authorities (especially the states and local governments) lack the institutional capacity to administer effectively, the taxes under their purview are capacity in terms of staffing, salary pay, other funding, computer and it infrastructure, etc.
Lack of equality: The bulk of pit today are paid by only the employees, politicians, the rich, professionals and the privileged, few are not equitably taxed.
Challenge of multiple taxes: It still a major or problem besetting our tax collection and administration.
Poor taxation drive by theirs of government: The political economy of revenue allocation discourages a proactive revenue drive, especially by the states and local governments. They heavily rely on their share of the oil revenue.
Challenge of bad governance: Tax player are not encouraged tom pay more taxes because there is no visible evidenced of good governance.
Challenge of corruption: The tax collection and administration is often prone to corruption on risk erodes the tax yield and confidence in system.
2.2 Conceptual Framework
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2.3. THEORITICAL FRAME WORK
Wagner’s law of public expenditure
Wagner’s law is named after the German political economist Adolph Wagner (1835-1917), who developed a ‘law is increasing state activity’ after empirical analysis on Western Europe at the end of 19th century. He argued that government growth is a function of increased industrialization and economic development. Wagner stated that during the industrialization process, as the real income per capital of a nation increases, the share of public expenditure in total expenditure increases. The law cited that “the advent of modern industrial society will result in increasing political pressure for social progress and increased allowance for social consideration by industry.