Effect of Taxation on Uganda’s Economic Growth

Abstract

This study investigated the effect of taxation on economic growth in Uganda from 1991 to 2017. The objectives of the study were to establish the long and short run relationships between direct domestic taxes and economic growth and investigate whether direct and indirect domestic taxes granger cause economic growth. Time series quarterly secondary data covering a period of 27 years, with 106 data points ware used for analysis. The study employed an endogenous growth model and the estimation technique used was the ordinary least squares to test for the long-run relationship and the error correction model was applied to test for short run relationship with the error correction term to determine the speed of adjustment between the short-run and the long-run equilibrium whereas Granger Causality was used to test the causal nexus among the selected variables. In the long run, the coefficients for GDP growth rate, direct domestic taxes, and foreign direct investments were positive and significant whereas the values for indirect domestic taxes and Human capital were significant and negative. On the other hand, results further revealed that the Error Correction Term (ECT_2) in the short-run model was significant and this implied that in each quarter, economic growth adjusts between the current level and the long run equilibrium level. For the causal relationships among the variables, there was a unidirectional causality running from direct domestic taxes to economic growth; again running from indirect domestic taxes to economic growth and also from economic growth to gross capital formation, both at 5 percent level. The study recommends the government of Uganda to expand the structures of direct taxes since they contribute more to economic growth instead of expanding indirect tax structures. In addition, policy makers should focus more on international trade so as to attract FDI which can eventually result to increased exports which is key for the economic growth of the country.